In Virginia Ruling Request 10-279 (2010 Va. Tax LEXIS 227 (Va. Tax December 22, 2010)) ("Ruling"), the Virginia Department of Taxation ("Department") was presented the question of whether the use of a company's intangibles within Virginia created nexus. The Ruling held that nexus was not present for the taxpayer utilizing the intangible. The outcome is both surprising and refreshing, given the wave of nexus decisions across the country that have utilized an analysis very similar to that of the South Carolina Supreme Court in Geoffrey, Inc. v. S.C. Tax Comm'n, 313 S.C. 15 (S.C. 1993), cert. denied 510 U.S. 992 (1993).
In the Ruling, the Taxpayer and its subsidiaries were domiciled outside of Virginia. Taxpayer provided typical administrative and management functions of a parent corporation and owned certain intangibles used by one of its subsidiaries ("Subsidiary"). Subsidiary compensated Taxpayer for the use of its intangibles through an arm's length royalty payment. Subsidiary markets and sells products in Virginia through two employees who solicit orders and whose activities are protected from taxation in Virginia under P.L. 86-272. The question posed in the Ruling was whether Subsidiary's use of Taxpayer's intangibles in Virginia established nexus, thereby subjecting Taxpayer to taxation in Virginia.
Under Virginia law, a taxpayer is "doing business" in Virginia if it is organized under the laws of Virginia or has income from Virginia sources. Income from Virginia sources is generally determined by the presence of one or more Virginia apportionment factors. Because Taxpayer did not have property or payroll in Virginia, the Department's analysis focused solely on whether a positive sales factor existed for Taxpayer. Since Virginia employs a cost of performance approach for the sourcing of sales of property other than tangible personal property (i.e., royalties from the use of intangibles), Taxpayer had no cost of performance in Virginia. This produced no sales factor, and consequently, the Ruling concluded that Taxpayer did not have nexus in Virginia.
In light of the Ruling, taxpayers with operations in Virginia should re-examine their Virginia filing group. While the Virginia rules are somewhat different than other states, an opportunity could exist in light of the Ruling. Regardless of any planning opportunities created, it is refreshing to see a tax tribunal consider a Geoffrey fact pattern and reach a sound, well reasoned decision.
For additional insight on intangible assets and economic nexus, see
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