Tax Insights
from State and Local Tax Services
Pennsylvania Department of
Revenue issues sales factor sourcing
guidance
January 8, 2015
In brief
On December 12, 2014, the Pennsylvania Department of Revenue (“DOR”) issued Information Notice
Corporation Taxes 2014-1 (“Notice”), which provides guidance related to the DOR’s interpretation of
sourcing sales of services to Pennsylvania pursuant to the Commonwealth’s new market based sourcing
provisions, applicable to tax years beginning in 2014. The Notice reflects several revisions contemplated
by the DOR since the issuance of its discussion draft in June 2014. Sales of intangible property continue
to be sourced to Pennsylvania pursuant to cost of performance provisions under 72 P.S. §
7401(3)2.(a)(17), subject to the DOR’s new interpretation as set forth in the Notice. The guidance is
applicable for purposes of determining the appropriate Corporate Net Income and Capital Stock /
Franchise Tax apportionment factors.
In detail—Sourcing of
services
Statutory authority
The Notice sets forth three rules
for sourcing receipts from
services, consistent with the
market based sourcing
requirements found in 72 P.S. §
7401(3)2.(a)(16.1)(C). The
Notice states that taxpayers
should be able to source most
services pursuant to Rule #1 and
other rules should only be used
when the first rule cannot
provide “reasonably accurate
apportionment.”
Rule #1. Percentage of total
value: Receipts from the sale of
a service are considered to be in
PA if the service is delivered to a
location in PA. If the service is
delivered both to a location in
and outside of PA, the sale is
sourced to PA based upon the
percentage of the total value of
the service delivered to a
location in PA.
Rule #2. Billing address: If the
state or states of assignment
under Rule #1 cannot be
determined for a customer who
is an individual that is not a sole
proprietor, a service is deemed
to be delivered at the customer's
billing address.
Rule #3. Order location: If the
state or states of assignment
under Rule #1 cannot be
determined for a customer,
except for a customer under
Rule #2, a service is deemed to
be delivered at the location from
which the services were ordered
in the customer's regular course
of operations. If the location
from which the services were
ordered in the customer's
regular course of operations
cannot be determined, a service
is deemed to be delivered at the
customer's billing address.
Application
In General
Delivery and location. The
statute does not define the
terms ‘delivery’ and ‘location’ as
applied in Rule #1 above. Per
the Notice, the term ‘location’
www.pwc.com
Tax Insights
refers to the location of the customer.
Delivery to a location not
representative of where the customer
for the service is located does not
represent completed delivery of the
service.
the event a service is apportioned, a
reasonable and consistent method
must be used. For example,
apportionment may be based on
‘expected usage’ or ‘actual usage’ or
‘value of the usage.’
Third party delivery. Whenever an
original service provider contracts with
a third party service provider to
complete the ultimate delivery of the
contracted service to the customer,
delivery of the service occurs at the
location where the customer
representative of the market for the
service actually receives it.
Accordingly, the passage of a service
from a provider to an intermediary
party or agent is not representative of
the market for the service. Any
transactions that determine a
taxpayer’s ability to apportion or
source its sales of services to a location
other than the location of the customer
are subject to review under PA’s sham
transaction doctrine.
Application to specific industries
using Rule #1
Electronic delivery. Apportionment of
services delivered electronically to
locations in PA and one or more other
states may be accomplished by using
IP address records or other network
data where individual street addresses
of customers are not available.
Services delivered electronically are
delivered to PA if the location of
delivery is the location of the
customer. If the user of the
electronically-delivered service is in PA
and one or more other states, the
service should be sourced among the
states in a reasonable and
proportionate manner considering
such factors as: (a) usage of the
service in each state; (b) the number of
recipients in each state; or (c) the
value of the service consumed in each
state.
Apportionment by jurisdiction. If a
service may be sourced both to PA and
outside of PA, it may be necessary to
apportion the service to each state. In
2
The Notice provides examples for
specific services. We have summarized
a few of them below:
Personal and professional services for
individuals. If a service is delivered to
PA and is in the nature of personal
services (e.g., consulting, counseling,
personal advice, training, speaking,
and providing entertainment) that are
typically conducted or performed firsthand, the service is delivered to PA,
even if the service is provided from a
remote location and/or delivered via
electronic means.
Trade or business services. Services
provided to a trade or business that are
used by the trade or business are
delivered to the business location(s)
containing the actual customers for the
service. The term ‘trade or business’
shall include the administration,
management, business processes,
marketing, sales, manufacturing,
distribution, and all other operations
that support the trade or business
itself.
Franchise and service fees. If a
taxpayer receives payment for services
provided to a franchisee, then the
service fee receipts are sourced to the
location where the services were
delivered. Separately stated charges
for the use of intangible property such
as trademarks should continue to be
sourced under Subparagraph (17). (See
discussion below.)
Subscription services. A subscription
service is delivered to a location in PA
if the subscription customer is located
in PA. If the actual physical locations
of customers or licensees using the
subscription service are difficult to
ascertain, delivery of the service
should be sourced, proportionately, to
each state based on the number of
subscribers in each state or, as
appropriate, the number of licenses
received by customers located in each
state.
Advertising. To the extent an
advertisement specifically targets
audiences in PA, the advertisement
service is considered delivered to PA.
To the extent an advertisement is
targeted to multiple states or the
location of the target audience cannot
be ascertained, a representative
portion of the advertisement service is
delivered to PA based on reasonable
estimates of the location of the target
audience.
Data processing, internet access, data
streaming, data storage and
information services.
Data processing and information
services, such as streaming audio or
video, access to stored data, or
corporate shared services are delivered
to the location of the user of such
services. Delivery of data services to a
server, ‘the cloud,’ or other data
storage device does not constitute
delivery. Rather, such services are
considered delivered to the location of
the user. Receipts from providing
internet access service are sourced to
PA to the extent the access service is
used by a customer in PA.
Custom computer software. Online
access to custom software is sourced in
accordance with the rules for data
processing. However, custom software
received via hard medium only is
sourced to the address where the
customer takes physical possession. If
the service is utilized both in PA and
another state, the software is delivered
to PA to the extent it is used in PA
relative to use in other states.
pwc
Tax Insights
Retail sales (only) of
telecommunications services.
Companies with receipts subject to the
federal Mobile Telecommunications
Souring Act (MTSA) shall source those
receipts in accordance with MTSA
rules. All other retail sales of
telecommunications services are
delivered to a location in PA if the
service address of the account is in PA.
If the service is delivered to an
individual or business with service
accounts in PA and at least one other
state, the service is delivered in PA
based on the proportion of service
addresses in PA compared to other
states.
Financial services. Please refer to our
Insight issued on December 19, 2014.
In detail - Apportionment
of receipts from intangible
property
Sales of intangible property continue
to be sourced to PA pursuant to 72 P.S.
§ 7401(17). Such sales are in PA if: (A)
the income-producing activity is
performed in PA; or (B) the incomeproducing activity is performed both in
and outside PA and a greater
proportion of the income-producing
activity is performed in PA than in any
other state, based on costs of
performance. Although the statute
regarding the sourcing of income from
intangible property did not change, the
Notice provides a substantial amount
of guidance from the DOR on how it
will interpret the statute.
Per the Notice, intangible property
means any of the following: patents,
copyrights, trademarks, trade names,
money and instruments reporting the
ownership of money, equity or debt
securities (e.g., stocks, bonds) and
derivatives of such securities, and
credits (e.g., tax credits, energy credits,
and billing credits). Receipts from
intangibles include any of the
following: royalties for the use of
intangible property; and interest,
capital gains or dividends arising from
the ownership, sale, exchange or other
disposition of intangibles. However,
certain receipts mentioned in the
Notice are specifically excluded from
the definition of sales under §
7401(3)2.(a)(1)(E), such as: dividends
received; interest on US, state or
political subdivision obligations; and
gross receipts received from the sale,
redemption, maturity or exchange of
securities, except those held by the
taxpayer primarily for sale to
customers in the ordinary course of its
trade or business.
The Notice states that performance of
an income-producing activity occurs
when the performance is accomplished
or fulfilled, and the location where
performance is fulfilled is the location
of the income-producing activity. An
example provided in the Notice with
respect to the licensing of intangibles
indicates that the income producing
activity occurs where the intangibles
are used. Income-producing activities
are identified at the transaction level,
rather than at the operational level,
meaning that an activity for which a
customer would not pay for separately
is not an income-producing activity. In
instances where the income-producing
activity of a single transaction is
performed in more than one state, it
may be necessary to use the costs of
performance method for assigning the
sales activity to a particular state. In
calculating the costs of performance, a
taxpayer (1) may include only those
costs related to income-producing
activities that are directly responsible
for income generation in PA; and (2)
must specifically identify each incomeproducing activity and justify how each
activity directly affects the production
of income in PA.
The takeaway
It should be noted that the Notice
represents guidance from the DOR and
does not carry the same weight of
authority as a statute or regulation.
However, the courts have stated on
numerous occasions that deference
should be given to interpretations of
statutes by the DOR. As such,
taxpayers seeking to follow the
guidance should be able to rely on the
Notice. Taxpayers seeking an
alternative interpretation are advised
to perform a specific analysis of their
factual circumstances under the
statutory provisions.
Taxpayers engaged in selling services
should consult the Notice to determine
where services are ‘delivered’ and
understand the application of sourcing
rules to their specific industries.
Taxpayers that derive receipts from
intangibles should consult the Notice
to determine the impact of the DOR’s
new sourcing standards. Under the
DOR’s new interpretation with respect
to the licensing of intangibles, the
income-producing activity occurs at
the location of use. As such, out-ofstate companies that license
intangibles for use in PA should
consider whether nexus is created
through defending trademarks,
patents and other intellectual property
in the state. If nexus exists, these
companies may owe corporate tax
under the new apportionment
guidelines.
Let’s talk
Scott Austin
Principal, Philadelphia
+1 (267) 330-2567
[email protected]
Todd Forney
Partner, Philadelphia
+1 (267) 330-2218
[email protected]
Bill Kellogg
Managing Director, Philadelphia
+1 (267) 330- 6254
[email protected]
© 2015 PricewaterhouseCoopers LLP, a Delaware limited liability partnership. All rights reserved. PwC refers to the United States member firm, and may
sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details.
SOLICITATION
This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
3
pwc