Sales Office Trumps Warehouses in Sales Tax War
- William Fulton
- Dec 27, 2017
- 4 min read
As business sales move increasingly away from bricks-and-mortar retail locations, the question of where the sale actually occurs – and therefore which city gets the sales tax – is growing in importance. In particular, cities have increasingly sought to recruit business-to-business sales offices in hopes of capturing the sales tax. And a new Court of Appeal ruling suggests that’s the right strategy. The First District Court of Appeal recently ruled that state Board of Equalization acted properly in switching a medical supply company’s point of sale – and $17 million in sales taxes – from Fontana, Lathrop, and San Bernardino, where the company’s warehouses were located, to Ontario, where a subsidiary company opened a sales office as part of a deal with the Ontario Redevelopment Agency. The First District reversed a trial judge, rejecting the argument that Ontario should not be considered the point of sale in light of the fact that there appeared to be no “paper trail” suggesting a transfer of ownership of the sales items from the parent company to the subsidiary before they were sold to the customer. Rather, the appellate court chose to give the Board of Equalization great deference in the matter. Given the lengthy administrative proceeding in front of the board, the court ruled, “it is for the Board in the first instance to interpret and administer an intensely detailed and fact-specific sales tax system governing an enormous universe of transactions.” The case involved Medline, a medical supply company based in Illinois that historically did business in California through a series of sales agents and maintained warehouses in Lathrop and Fontana (though the Fontana warehouse was later moved to San Bernardino). In 2005, however, Medline made a deal with the City of Ontario. Under the agreement, Medline created a California-based subsidiary, MedCal Sales, which was located in space in Ontario subleased from Medline. MedCal reported Ontario as the point of sale and in return Ontario rebated 50% of MedCal’s sales tax back to the company. Once this new arrangement was implemented in 2007, six years of administrative hearings in front of the Board of Equalization commenced. During this administrative proceeding, the Board’s staff expressed concern that there was no legal document memorializing the transfer of ownership of the medical supplies from Medline to Medcal prior to the sale to the final customer. Nevertheless, in 2014, the board ruled in favor of Medcal and Ontario and against the warehouse cities. The board wrote: “We find credible and persuasive the statements made by taxpayer’s representatives that the outside sales staff principally negotiated the subject sales and that they were assigned to work out of taxpayer’s Ontario office when they became employees of taxpayer. This means their selling activities are attributed to the Ontario office even when such activities are done from their homes, on the road traveling to meet customers at their places of business, or at the customers’ places of business. Thus, the sales are subject to sales tax based on the undisputed fact that title to the goods passed inside California and based on our finding that the Ontario office participated in the sales by virtue of the activities of the outside sales staff. Since the negotiations by the outside sales staff are associated with the Ontario office, we find taxpayer is required to hold a seller’s permit for that office.” The warehouse cities then sued and secured a favorable ruling from Alameda County Superior Court Judge Evelio M. Grillo, who found “that the BOE failed to apply established California law on the transfer of title, and that under the correct application of California law there is no substantial evidence for the BOE’s factual finding that MedCal (the sales entity) transferred title to the customers and was responsible for paying the sales tax.” But in a unanimous opinion written by Justice James A. Richman, the First District Court of Appeal not only reversed Grillo’s ruling but criticized him for viewing the entire case from the perspective of the warehouse cities. “It must be conceded that the tenor of the trial court’s lengthy order is troubling,” Richman wrote. “It appears to reflect a de novo review, with no suggestion of deference to the final result of the extensive administrative proceedings. It does seem to approach the matter from the perspective of Cities—stating what does not support the Board instead of looking to see what does—thus appearing to put the burdens of persuasion and proof on the Board. Also, it is disconcerting to see the statements made at the hearing by Medline officers—which obviously could support the Board’s decision—virtually dismissed out of hand.” Referring to extensive case law, Richman wrote: “Cities cannot merely point to evidence that supports the trial court’s decision, nor can they selectively cull the administrative record for the bits and pieces that may not support the Board. Cities must go beyond that, establishing that the evidence in the administrative record is so comprehensively one-sided that the Board’s decision was not only against the weight of that evidence, it was a decision so lacking in support that it cannot command the assent of reasonable minds.” He concluded that the board could have gone either way in the case with legitimacy, thus making the court’s deference to the board the primary issues in the case. “So, which entity is the ‘retailer’ that made the “sale” that involved “transfer of title”? (§§ 6015, 6006, subd. (a).) Is it MedCal, as the Board’s staff initially concluded and the Board ultimately concluded, or is it Medline, as the Board’s staff and Appeals Division intermediately concluded? Given the administrative U-turns, either result could command substantial evidence from this administrative record, and neither would be compelled as a matter of law. Either result could be reached by reasonable administrators.” The Case: City of Fontana v. California Department of Tax and Fee Administration, No. A147642 (November 28, 2017). The Lawyers: For “warehouse cities” (Fontana, Lathrop, and San Bernardino): Leslie Allen Hausrath, Wendel, Rosen, Black & Dean, lhausrath@wendel.com For state tax officials: Anne Michelle Burr, Deputy Attorney General, AnneMichelle.Burr@doj.ca.gov For City of Ontario: Charles L. Coleman III, Holland & Knight, ccoleman@hklaw.com