Was inbound freight from furniture manufacturers exempt when separately passed through to customers, and was a mail-based sample audit valid?

Plain-English summary

Virginia taxed the manufacturer's freight to the dealer's warehouse even though the dealer separately passed that charge to customers. The exemption for separately stated transportation covered delivery from the seller to the final purchaser—transportation-out.

Shipping resale merchandise from the manufacturer to the dealer or its warehouse was transportation-in. It formed part of the dealer's product cost and taxable sales price, not exempt final-customer delivery.

Virginia also upheld the audit method. An auditor did not have to inspect records at the taxpayer's premises. Here, the accountant mailed records, and the auditor sampled five high, low, and average sales months before extrapolating underreported taxable sales. The dealer offered no records showing that method was invalid.

What this means for you

• Separate manufacturer-to-dealer freight from seller-to-customer delivery.
• Passing inbound freight through as its own invoice line does not make it exempt.
• An audit can be performed offsite using copies of records.
• Challenge a sample with specific data, not only an objection to location or format.

Common questions

Q: What is transportation-in?
A: Shipping resale merchandise from a manufacturer to the retailer or its warehouse.

Q: Was the assessment based on handling charges?
A: No. The ruling said it covered inbound shipping charges.

Q: Did Virginia require a field visit for a valid audit?
A: No.

Citations and references

• Va. Code §§ 58.1-203(A), 58.1-205, 58.1-219, and 58.1-609.5(3).
• 23 VAC 10-210-6000.
• Commonwealth, Department of Taxation v. Wellmore Coal Corp., 228 Va. 149, 320 S.E.2d 509 (1984).
• Virginia Public Document 99-223 (August 6, 1999).

Subject

Taxpayer did not collect the sales tax on transportation-in charge to customers

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 11-134

Original ruling text

July 26, 2011

Re: § 58.1-1821 Application: Retail Sales and Use Tax

Dear *:

This will reply to your letter in which you seek correction of the retail sales and use tax assessment issued to * (the "Taxpayer") for the audit period January 2007 through December 2009.

FACTS

The Taxpayer is a contract furniture dealer. The Taxpayer purchases furniture from manufacturers for contract customers and has the furniture shipped (transportation-in) to an independently owned and operated warehouse. The independent service contractor delivers and installs the furniture for the Taxpayer's customers. In this case, the Taxpayer passed the transportation-in charge on to its customers as a separate charge on the sales invoice but did not collect the sales tax on such charge. The Taxpayer contends the auditor characterized the transportation-in charges as shipping and handling and erroneously taxed such charges.

The Taxpayer also disputes the validity of the audit, contending the auditor did not conduct a field audit involving a first-hand review of the Taxpayer's books and records at the Taxpayer's offices. The Taxpayer seeks abatement of the entire audit assessment.

DETERMINATION

Transportation Charges

The Department's auditor based the audit assessment on transportation-in shipping charges from the manufacturer that were passed on to the Taxpayer's customers without the application of the sales tax. There were no handling charges included in the Department's assessment.

Virginia Code § 58.1-609.5 3 provides that the retail sales and use tax shall not apply to transportation charges separately stated. Title 23 of the Virginia Administrative Code (VAC) 10-210-6000 interprets Va. Code § 58.1-609.5 3 and provides that the tax does not apply to transportation or delivery charges added to a taxable sale, provided such transportation charges are separately stated on the invoice to the customer. Such charges, commonly known as "transportation-out," are charges for the delivery of the tangible personal property from the seller to the purchaser. Exempt transportation and delivery charges do not include charges from a manufacturer to a retailer's place of business, commonly known as "transportation-in" relating to purchases for resale.

Example 1 of the foregoing regulation addresses the distinction between "transportation-out" and "transportation-in." The Taxpayer's transportation-in charges for the delivery of resale merchandise from the manufacturer to the Taxpayer's place of business or warehouse do not qualify for exemption from the sales and use tax. Such transportation-in charges do not constitute delivery to the final consumer. The transportation-in charges are part of the cost of the product and are included in the sales price of the property and are subject to the tax. This concept is also addressed in various rulings of the Tax Commissioner. See P.D. 99-223 (8/6/99).

Virginia Code § 58.1-203 A gives the Tax Commissioner "the power to issue regulations relating to the interpretation and enforcement of the laws of this Commonwealth governing taxes administered by the Department." Virginia Code § 58.1-205 2 states, "Any regulation ... shall be sustained unless unreasonable or plainly inconsistent with applicable provisions of law." The courts have agreed that the Tax Commissioner's construction of a tax statute is entitled to great weight. See Commonwealth, Dept of Taxation v. Wellmore Coal Corp. , 228 Va. 149, 320 S.E.2d 509 (1984). A presumption of validity attaches to the Tax Commissioner's rulings and the burden is on the taxpayer to prove that the ruling is contrary to law or that the Commissioner has abused his discretion and acted unreasonably.

The Department's reliance on the regulatory definition of transportation for purposes of administering the sales and use tax is longstanding. Title 23 VAC 10-210-6000 is reasonable and consistent with existing provisions of the law. Accordingly, I find no basis to revise the Department's assessment.

Validity of Audit

The Department has the authority to investigate the books and records of a taxpayer in order to ascertain the proper tax liability. See Va. Code § 58.1-219. There is no requirement, however, that the investigation of the books and records be accomplished at a taxpayer's location. The Department's auditors conduct numerous audits and in some instances conduct audits of a taxpayer's records that do not involve visiting a taxpayer's business location.

In this instance, the auditor discussed the Taxpayer's records with the Taxpayer's accountant and received copies of records sufficient to perform the audit via the mail. Based on the records that were received, the auditor sampled five months of the audit period accounting for high, low and average sales months. The exceptions disclosed by the auditor's review were extrapolated for the audit period based on reported sales. The audit results determined that the Taxpayer's taxable sales were underreported. While the Taxpayer claims that the audit method is in error, the Taxpayer has not provided any documentation or evidence to prove that the method applied in this case is invalid.

Based on the foregoing and absent evidence to the contrary, I find that the audit methodology was reasonable and the resulting sales figures were properly computed. In addition, Va. Code § 58.1-205 provides that in any proceeding relating to the interpretation of the tax laws of Virginia, an "assessment of a tax by the Department shall be deemed prima facie correct." As such, the burden of proof is on the Taxpayer to prove that the assessment is incorrect. I do not find that the Taxpayer has met that burden. Accordingly, there is no basis to invalidate the assessment, which remains due and payable.

An updated bill, with interest accrued to date, will be sent to the Taxpayer. The outstanding balance must be paid within 30 days from the date of the bill to avoid the accrual of additional interest.

The Code of Virginia sections and regulation cited are available on-line In the Tax Policy Library section of the Department's website located at www.tax.virginia.gov. If you have any questions regarding this matter, please contact * of the Department's Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/1-4649651545.Q