For New York's corporate payroll-factor computation, are payments to independent corporate sales representatives (rather than employees) excluded from both the numerator and denominator of the payroll factor?

Plain-English summary

The taxpayer, an out-of-state corporation that designs and distributes wearing apparel, has had New York nexus for years and files Article 9-A franchise tax reports. It sells to New York customers through three independent corporate sales representatives ("sales corporations"), each of which employs its own salespeople who live and work in New York and nearby states. The written "Regional Sales Representation Agreement" between the taxpayer and each sales corporation expressly labels the sales corporation an independent contractor responsible for its own employment taxes, insurance, and licenses -- the sales corporations can negotiate returns, allowances, and markdowns (subject to the taxpayer's approval), but cannot accept or modify orders themselves. KPMG Peat Marwick asked whether payments to these sales corporations count as payroll for computing the Article 9-A business allocation percentage's payroll factor.

The answer: no, they're excluded from both the numerator and denominator. Regulations section 4-5.2 defines a payroll-factor "employee" using the common-law control test: does the taxpayer have the right to control not just the result but the manner and means by which the individual accomplishes it? Drawing on Matter of Liberman v Gallman, 41 NY2d 774 -- where a salesman directed to visit specific customers, report frequently, and attend sales meetings was still found not to be an employee because the employer didn't control his actual sales routine -- and El Greco Leather Products, TSB-A-83(2)C, the Department found the same result here: the taxpayer had no control over how the sales corporations' salespeople actually sold (their "sales routine"), even though it retained some approval rights over pricing terms. So the salespersons are not the taxpayer's employees, and the payments to the sales corporations are excluded from the payroll factor.

What this means for you

Multi-state businesses using independent sales representatives

If you sell through independent corporate sales reps rather than direct employees, keep the contractual and factual reality aligned: designate the relationship as independent contractor, let the sales rep control its own sales methods and routine, and have the rep bear its own employment taxes and insurance. That combination is what excludes the payments from your New York payroll factor.

Accountants and tax professionals

The controlling test is control over the sales routine specifically, not general oversight. A principal can still direct territory assignments, require sales reporting, mandate meeting attendance, and approve pricing terms without that control converting the salesperson into an employee -- as Liberman illustrates. What matters is whether the principal controls how the actual selling gets done.

Watch the facts, not just the contract

The Department stressed (echoing El Greco) that the real employer/employee determination turns on the actual relationship in practice, not merely the label in the agreement -- so document consistent independent-contractor practices, not just contract language.

Common questions

Q: Do payments to an independent sales corporation count toward my New York payroll factor?
A: Not if the sales corporation's employees aren't your "employees" under the common-law control test -- specifically, if you don't control their day-to-day sales routine.

Q: What kind of oversight is still allowed without creating an employee relationship?
A: Assigning territories, requiring sales reports, mandating meeting attendance, and approving pricing terms didn't convert a salesman into an employee in the case law relied on here -- what mattered was lack of control over the actual sales routine.

Q: Does the written contract's "independent contractor" label control the outcome?
A: It's a factor, but the Department also looks at the actual course of dealing between the parties, not just contractual language.

Citations and references

Statutes and regulations:

• Business Corporation Franchise Tax Regulations section 4-5.2 (employee definition for the payroll factor)
• Tax Law section 171, subdivision 24; 20 NYCRR 901.1(a) (advisory opinions apply only to the facts presented)

Cases and prior opinions cited in the ruling:

• Matter of Liberman v Gallman, 41 NY2d 774
• Raynor v Tully, 60 AD2d 731
• El Greco Leather Products Co., Inc., TSB-A-83(2)C

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1992.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a92_1c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-92 (1) C
Corporation Tax
January 31, 1992

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C911023A

On October 23, 1991, a Petition for Advisory Opinion was received from KPMG Peat
Marwick, 3100 Two Union Square/601 Union Street, Seattle, Washington 98101.
The issue raised by Petitioner, KPMG Peat Marwick, is whether, for purposes of computing
the business allocation percentage under Article 9-A of the Tax Law, the payments made by a
taxpayer to sales corporations are treated as payments to independent contractors and excluded from
both the numerator and denominator of the payroll factor.
The taxpayer is a corporation which designs and distributes wearing apparel. The taxpayer
is not incorporated in New York, but for a number of years the taxpayer has had nexus with New
York and has filed Article 9-A franchise tax reports.
The taxpayer markets its products to customers in New York using three independent
corporate sales representatives (sales corporations) which employ individuals (salespersons) who live
and work in New York as well as surrounding states.
Each sales corporation has qualified to do business in New York. Each salesperson and each
employee of the sales corporations is paid by his/her sales corporation according to the salary
agreement made between such salesperson/employee and the respective sales corporation.
The taxpayer paid for a certain percentage of tenant improvements made to two-sales offices
maintained by the independent sales corporations in New York City. These improvements
constituted showroom space maintained by the sales corporations but used from time to time by the
taxpayer for apparel shows in New York. Based upon these tenant improvement payments, the
taxpayer has been filing and paying all appropriate New York State and New York City taxes.
The taxpayer and each of the sales corporations enter into a "Regional Sales Representation
Agreement" for the services of the sales corporation. According to the agreement, the sales
corporation may negotiate returns and allowances, markdowns, and retail advertising subject to
taxpayer approval, but the sales corporation may not accept or modify orders for goods and must
forward such orders to the taxpayer. Each agreement is for a definite duration, usually for a period
one year. The agreement may be extended only by mutual agreement of both parties. Either party
may terminate their agreement for any reason by providing the other party with written notice.
TP-9 (9/88)

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The agreements specifically disclose that the sales corporation will have the status of independent
contractor with respect to the taxpayer, and that the sales corporation will be responsible for payment
of employment taxes, liability insurance, required licenses, and other items necessary to discharge
the duties under the agreement.
The agreements provide that the taxpayer has no right of control over the manner or method
in which the sales corporation fulfills its responsibilities under the agreement and that the sales
corporation is free to perform its services for the taxpayer in any manner it chooses so long as it
holds itself out consistent with the quality of the taxpayer's image. The taxpayer has no control over
the hiring or firing of the sales corporation's agents or employees. The salespersons, as employees
of the sales corporations, discharge the service obligations under the agreements.
A salaried executive employee of the taxpayer who is a less than five percent shareholder is
moving to New York to provide better service to east coast customers and to be in closer contact
with the taxpayer's east coast market. The salaried executive will hire an assistant and will share
office space with the sales corporations. Rent on the office space will be paid proportionally; the
taxpayer will pay the rent on the portion used by the executive and the assistant, while the sales
corporations will pay rent for their portion of the office space used.
Section 4-5.2 of the Business Corporation Franchise Tax Regulations provides the definition
of employee:
(a) Employees whose wages, salaries and personal service compensation are
included in the computation of the payroll factor of the business allocation
percentage include every individual, except a general executive officer, where the
relationship existing between the taxpayer and the individual is that of employer and
employee.
(b) Generally, the relationship of employer and employee exists when the taxpayer
has the right to control and direct the individual not only as to the result to be
accomplished by him but also as to the means by which such result is to be
accomplished. If the relationship of employer and employee exists, the designation
or description of the relationship, and the measure, method or designation of the
compensation are immaterial ....
This provision of the Business Corporation Franchise Tax Regulations merely restates the
common law rule for determining whether one individual is an employee (or "servant") of another.
Although there does not appear to be any judicial authority for the proper application of this rule
within the context of Article 9-A of the Tax Law, there is authority developed with respect to such
rule under former Article 23 of the Tax Law-Unincorporated Business Income Tax, and is applicable
herein. A leading case in this area is Matter of Liberman v Gallman, 41 NY 2d 774, which upheld
a State Tax Commission decision holding a particular salesman not to be an employee. The court

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there stated that it "is the degree of control and direction exercised by the employer that determines
whether the taxpayer is an employee." Id., at 778. Further, speaking with specific regard to the issue
of salesmen as employees, the court said that "In the absence of supervision and control of the sales
routine, salesmen do not become employees." Id., at 779. The court found such control and
direction lacking with regard to the manner in which Liberman's customers were approached and
persuaded to make purchases, although Liberman did take direction in a number of other significant
areas. For example, Liberman was directed to visit particular areas or customers;was required to
report frequently on his sales activities; was occasionallyrequired to concentrate on specific duties,
to attend to specific accounts, to emphasize the sale of certain shoe styles and to attend sales
meetings and conventions; and was prohibited from taking time off without permission.
Nonetheless, the court held that the lack of control over Liberman's sales routine, coupled with the
fact that Liberman was responsible for office and clerical expenses and that there was no withholding
of income tax from his commissions, was sufficient to support the State Tax Commission's finding
to the effect that Liberman was not an employee. In accord is Raynor v Tully, 60 AD 2d 731, which
upheld a similar State Tax Commission decision, in large part based upon a determination to the
effect that the purported employer "did not exercise any real supervision over the Petitioner's sales
methods and was more interested in the results obtained than the means used." Id., at 732.
In El Greco Leather Products Co., Inc., Adv Op St Tax Comm, June 1, 1983, TSB-A-83(2)C,
it was held that the salesmen at issue were not employees of the petitioner for purposes of the payroll
factor. Therein, the petitioner did not demonstrate the type of control and direction over its
salesmen's sales activities which would warrant a finding that the salesmen constitute its employees.
The petitioner did state that it "has the right to direct the activities of its salesmen." However, the
instances of the exercise of such right adduced by Petitioner did not relate to the area of sales
routines and the iike, but to matters of the same type as those mentioned in Liberman, supra. The
petitioner presented neither contractual provisions indicating the requisite right of control, nor
demonstrated a course of conduct which would give rise to an inference of the existence of such
right.
Herein, based on the facts as presented, the employees of the sales corporations are not
employees of the taxpayer within the definition of an employee contained in Section 4-5.2 of the
Business Corporation Franchise Tax Regulations and thus the taxpayer would exclude the payments
to the sales corporations from the computation of both the numerator and denominator of the payroll
factor when computing its business allocation percentage.

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January 31, 1992

It should be noted that the determination of who is an employee for purposes of section 4-5.2
of the Business Corporation Franchise Tax Regulations is a factual matter and, as in E1 Greco
Leather Products, supra., the actual relationship between the taxpayer and each sales corporation
should be analyzed regardless of language of contractual agreements.

DATED: January 31, 1992

PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.