United States

New York rejects sourcing of OTC receipts at location of customer

Services performed outside the state are sourced outside the state


The State of New York Division of Tax Appeals issued its decision in In the Matter of the Petition of Expedia, Inc., et al, a Notice of Deficiency issued against an online travel company (OTC) for additional corporation franchise tax liabilities on its 2005 and 2006 returns, as well as its combined 2007 return with a subsidiary.

The taxpayer in question, Washington-based Expedia Inc., provided online travel reservation facilitation services to the travel industry. This activity produced revenue whenever a customer booked a reservation through the company’s internet-based portal. Additionally, TripAdvisor, one of Expedia’s subsidiaries, was generating advertising revenue through the operation of an online travel search engine and directory that aggregated travel-related reviews, articles, opinions and other information.

Despite the presence of customers in New York, the taxpayer treated its travel reservation facilitation receipts as arising from services performed outside the state since the taxpayer’s customer call centers as well as its corporate and administrative functions related to the operation of the company and its website, were all performed or located outside of New York state. The same held true for activities related to the operation of its subsidiary’s website. The taxpayer believed this sourcing was consistent with New York’s cost-of-performance approach to allocation under Tax Law section 210. Following an audit, however, the Division of Taxation (the Division) reclassified both the taxpayer’s OTC reservation receipts and its subsidiary’s advertising revenue as “other business receipts,’ which were to be sourced at the point of customer access.

At the hearing, the administrative law judge dismissed the Division’s argument that due to the lack of human involvement other than that of the customer at the time of sale, its regulations dictated that the company’s receipts be classified as other business receipts. Following analysis, the court stated that Tax Law section 210(3)(a)(2)(b) “does not require human involvement at the moment of sale in order for services to be performed…”. The court then sourced these services outside of New York state, citing the extensive work by the company in executing its travel facilitation service and generating revenue that went well beyond the simple moment that a New York-based customer completed an online travel reservation.

The court distinguished the taxpayer’s OTC reservation activities from other services provided electronically or over the internet that had traditionally been classified by the Division as other business receipts. The taxpayer’s business model differed significantly in that its services were much more elaborate than initial access or subscription fees and warranted classification as performance of a service. Additionally, the court went on to state that if the Division’s approach were to be upheld, there would be no need for the New York legislature to amend the tax law beginning in 2015 to change the allocation of receipts to a customer-sourcing approach.

With respect to the advertising revenue generated on the taxpayer’s subsidiary’s website, the court also concluded that the activity “clearly was a service performed for its advertising clientele and consisted of much more than just the instantaneous viewing by one of TripAdvisor’s purchasing customers.” All of the work performed in procuring the revenue was done outside the state, and as a result, the taxpayer’s allocation of advertising receipts on its 2007 return was found to be correct.

While this decision remains subject to appeal, taxpayers offering digital services should take note, as assessments related to the characterization of their receipts as other business receipts, rather than as services, may be subject to challenge with respect to tax years prior to 2015.


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