Does Texas sales tax apply when a cellular phone dealer sells discounted phones bundled with a service contract, or gives away free-service coupons obtained at no cost from carriers?

Subject

Cellular Phones Sold Below 25% Of Cost With A Service Contract, And Free-Service Coupons

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9308883L

Plain-English Summary

A taxpayer ("COMPANY A") asked the Comptroller several questions about the sales tax treatment of cellular phones and free-service coupons. The letter answers eight numbered questions:

1. If COMPANY A sells a cellular phone for 25% or more of its acquisition cost, the transfer is treated as a sale for sales tax purposes.
2. If COMPANY A sells a cellular phone for less than 25% of its acquisition cost, and the sale is coupled with the customer entering into a cellular service contract, the transfer is presumed not to be a sale for sales tax purposes.
3. In that situation (answer 2), COMPANY A should not collect sales tax on the transfer charge to the customer.
4. Still in that situation, if COMPANY A also collects a "surcharge" equal to the tax it will pay on its own acquisition cost, COMPANY A won't owe tax on the surcharge — as long as it isn't labeled a tax. But if the surcharge pushes the total amount the customer pays up to 25% or more of COMPANY A's acquisition cost, the entire charge becomes a taxable sale.
5. If COMPANY A sells a package (e.g., a phone plus an accessory kit) for 25% or more of its acquisition cost, the transfer is a taxable sale.
6. If COMPANY A gets coupons for free cellular service time from independent, unaffiliated carriers at no cost, and gives those coupons to customers at no cost, COMPANY A owes no sales or use tax on the coupons.
7. Same as answer 6, but if COMPANY A's own employees use the coupons instead of customers, COMPANY A still owes no sales or use tax on the coupons.
8. If COMPANY A sells a cellular phone to another dealer and accepts a valid resale certificate from that dealer, COMPANY A is not liable for sales tax — even if the dealer later transfers the phone for less than what the Comptroller would consider a valid sale.

What This Means For You

The 25%-of-acquisition-cost line matters. This letter uses a bright-line test: a cellular phone transfer priced at 25% or more of the dealer's acquisition cost is treated as a taxable sale, while a transfer priced below that threshold — when bundled with a service contract — is presumed not to be a sale at all, so no sales tax applies to the transfer charge.

Surcharges can tip the balance. A dealer can pass along a surcharge that just covers the tax it pays on its own acquisition cost without that surcharge itself being taxed, provided it isn't called a "tax." But watch the math: if the surcharge brings the customer's total payment up to 25% or more of the dealer's acquisition cost, the whole transaction flips to a taxable sale.

Free coupons from unaffiliated carriers stay untaxed. If a dealer receives coupons for free service time from carriers it isn't affiliated with, at no cost to the dealer, and passes those coupons on for free — to customers or even to its own employees — no sales or use tax applies to the coupons either way.

Resale certificates protect the selling dealer. A dealer that sells a phone to another dealer and takes a valid resale certificate is not on the hook for sales tax, even if that second dealer later transfers the phone in a way that wouldn't itself qualify as a valid taxable sale.

Q&A

Q: Is selling a cellular phone always a taxable sale?
A: Not always. If COMPANY A sells the phone for 25% or more of its acquisition cost, the transfer is treated as a sale for sales tax purposes. If it's sold for less than 25% of acquisition cost bundled with a service contract, the transfer is presumed not to be a sale.

Q: If a phone is sold below the 25% threshold with a service contract, does the dealer collect sales tax on the transfer charge?
A: No. The letter states COMPANY A should not collect sales tax on the transfer charge to the customer in that situation.

Q: Can a dealer charge a "surcharge" to cover its own tax cost without that surcharge being taxed?
A: Yes, as long as the surcharge isn't described in any way as a tax. But if the surcharge causes the total amount paid to equal or exceed 25% of the dealer's acquisition cost, the entire charge becomes subject to sales tax.

Q: Are free coupons for cellular service time taxable?
A: No. If COMPANY A receives the coupons at no cost from independent, unaffiliated carriers and gives them to customers at no cost, there is no sales or use tax liability on the coupons. The same is true if COMPANY A's own employees use the coupons instead.

Q: What if a dealer sells a phone to another dealer who resells it improperly?
A: The selling dealer (COMPANY A) is not liable for sales tax if it accepted a valid resale certificate from the buying dealer, even if that dealer later transfers the phone for less than what the Comptroller would consider a valid sale.

Q: Does bundling a phone with accessories change the analysis?
A: The same 25%-of-acquisition-cost rule applies. If COMPANY A sells a package — such as a phone and an accessory kit — for 25% or more of its acquisition cost, the transfer is treated as a taxable sale.

Original ruling text

August 11, 1993

Dear **:

I apologize for not answering your letter of July 27, 1993, sooner. I have been
out of town and have just returned this week. You asked several questions
concerning the sale and transfer of cellular phones and coupons for services.
The answers to your questions are as follows:

1. If COMPANY A sells a cellular phone for 25% or more of its acquisition cost,
   the transfer to the customer will be treated as a sale for sales tax purposes.

2. If COMPANY A sells a cellular phone for less than 25% of its acquisition
   cost and the sale is coupled with the customer entering into a contract for
   cellular services, the transfer will be presumed not to be a sale to the
   customer for purposes of the sales tax.

3. In the situation described in answer 2, COMPANY A should not collect sales
   tax on the transfer charge to the customer.

4. In the situation described in answer 2, if COMPANY A collects an amount
   described as a surcharge which is equal to the tax it will have to pay on its
   acquisition cost, COMPANY A will not be liable for tax on the surcharge so long
   as it is not denominated in any way a tax. If the surcharge causes the amount
   paid to COMPANY A by the customer to equal or exceed 25% of COMPANY A's
   acquisition cost, the entire charge will be treated as a sale subject to sales
   tax.

5. If COMPANY A sells a package of merchandise (e.g. a telephone and accessory
   kit) for 25% or more of its acquisition cost, the transfer will be treated as a
   sale subject to sales tax.

6. If COMPANY A receives coupons for free cellular service time from
   independent, unaffiliated carriers at no cost and COMPANY A and gives the
   coupons to its customers at no cost, COMPANY A will not be liable for sales or
   use tax on the coupons.

7. In the same situation as answer number 6 except COMPANY A's employees use
   the coupons, COMPANY A will not be liable for sales or use tax on the coupons.

8. If COMPANY A sells a cellular phone to another dealer and accepts a resale
   certificate from the dealer, COMPANY A will not be liable for sales tax even
   though the dealer to whom the phone was sold later transfers the phone for less
   than the Comptroller would consider a valid sale under the sales tax act.

I hope this satisfactorily answers your questions.

Sincerely,

Wade Anderson
Assistant Director of Tax Administration

cc: Mike Doyle, Director of Tax Administration
Charles Johnstone, Manager of Tax Administration
Al Van Allen, Tax Specialist