My company provides IT and professional services across many locations and can't practically track which office's work generated which customer's revenue -- can I use payroll apportionment to situs my BPOL gross receipts to this county, and how do I compute the out-of-state deduction if so?

Plain-English summary

BPOL (Business, Professional and Occupational License) tax is a local tax based on gross receipts, and figuring out WHICH locality gets to tax which receipts (the "situs" question) can get complicated for a business with employees and contracts spread across many places. This ruling explains when a business gets to fall back on payroll-based apportionment instead of trying to trace each dollar of revenue to a specific office -- and how the separate out-of-state deduction has to be calculated once that method applies.

The general rule situses BPOL gross receipts to (1) the definite place of business where a service was actually performed, or if that's not identifiable, (2) the place from which the service was directed or controlled, or as a last resort, (3) apportioned between definite places of business based on payroll. A government IT and professional services contractor sought a refund from a county, arguing its original situsing method didn't accurately reflect where receipts should be attributed and that payroll apportionment was the only workable method, plus claiming a corresponding out-of-state deduction. The county denied the refund, concluding the original method was fine and that the taxpayer hadn't proven the out-of-state deduction.

The Department had already ruled on this exact situsing question for this same taxpayer in a different locality (P.D. 21-111), finding payroll apportionment appropriate because of specific, documented problems: subcontractor costs were assigned inconsistently, the degree of direction-and-control by any one office often wasn't discernible from contract language, and on fixed-price contracts receipts sometimes got assigned to a project manager's location even when services weren't actually performed or directed from there. Since this appeal raised the same underlying business-complexity issues with no meaningfully different facts, the Department applied the same conclusion here: payroll apportionment was the appropriate method, which under the statute REQUIRES gross receipts to be apportioned to all of the taxpayer's definite places of business (including this county) based on payroll.

The county pushed back with a "distortion" argument -- that apportioning by payroll would assign only a small share of revenue to a highly-compensated project manager's location relative to the huge revenue that manager's project generated. The Department rejected that as the wrong legal test: distortion isn't the standard; the standard is whether it's impractical or impossible to attribute receipts to a specific place of business under the general rule (citing the Virginia Supreme Court's Ford Motor Credit v. Chesterfield County). The Department also pushed back on the county's underlying assumptions -- that project managers necessarily work from one definite place of business, and that other employees on a project don't. With large contracts spanning hundreds of workers and subcontractors across many locations (and increasingly, remote/teleworking arrangements), assigning everything to one manager's location can itself distort the picture just as much.

Having found payroll apportionment appropriate, the Department turned to the separate out-of-state deduction (Va. Code § 58.1-3732 B 2), which removes from taxable gross receipts any receipts attributable to business conducted in another state where the taxpayer pays income tax. When payroll apportionment situses the receipts in the first place, the deduction has to be computed using THAT SAME payroll factor, via a three-step process the Department has established: (1) determine whether employees at the definite place of business earn or help earn receipts attributable to customers in other states where the taxpayer files an income tax return; (2) determine which receipts are eligible for the deduction; and (3) multiply those eligible receipts by the same payroll factor used to situs the gross receipts. Because the county had never actually reached this three-step analysis (having rejected payroll apportionment as the situsing method altogether), the Department sent the case back down, instructing the taxpayer and county to work together to resolve the out-of-state deduction using this process, with a new written final determination and a normal 90-day appeal right if either side disagrees with the result.

What this means for you

Multi-location businesses (especially government/IT contractors with subcontractors) with BPOL situsing disputes

Payroll apportionment isn't automatically available -- it's a method of last resort, used only when it's genuinely impractical or impossible to attribute receipts to a specific office under the general rule. But if your business has the kind of complexity described here (inconsistent subcontractor cost assignment, unclear direction-and-control, fixed-price contracts spanning many locations), that complexity itself can be the basis for using payroll apportionment.

Localities evaluating a taxpayer's request to use payroll apportionment

"Distortion" (the apportionment producing what looks like an unfair result for a highly-paid employee's location) is not the legal test. The test is whether it's impractical or impossible to situs receipts under the general place-of-performance/direction-and-control rule. Don't assume employees like project managers all work from one definite, identifiable location, especially with modern remote/teleworking arrangements.

Any business using payroll apportionment that also wants the out-of-state deduction

The deduction has to be computed with the SAME payroll factor used to situs your receipts in the first place, following the Department's three-step process: identify which office's employees help earn out-of-state-taxed receipts, determine which receipts qualify, then multiply by the payroll factor. You can't apply a different, unrelated formula to the deduction once payroll apportionment governs the situs question.

Common questions

Q: When can I use payroll apportionment instead of the general place-of-performance BPOL situsing rule?
A: Only when it's genuinely impractical or impossible to attribute your gross receipts to a specific definite place of business under the general rule -- for example, because of inconsistent subcontractor cost assignment or unclear direction-and-control across multiple locations. It's a method of last resort, not a first choice.

Q: Can a locality deny payroll apportionment just because it would shift revenue away from where a key employee (like a project manager) is based?
A: No -- the Department has rejected "distortion" arguments like this as the wrong legal standard. The test is impracticality/impossibility of attribution under the general rule, not whether the payroll-based result looks proportionate to any one employee's role.

Q: Once I'm using payroll apportionment, how do I calculate my out-of-state deduction?
A: Using the Department's three-step process: determine which office's employees earn or help earn receipts attributable to out-of-state customers (where you file an income tax return there), determine which receipts are eligible, then multiply those eligible receipts by the SAME payroll factor used to situs your gross receipts.

Q: What happens if a county denies payroll apportionment as the situsing method and never actually reaches the out-of-state deduction question?
A: If the Department later determines payroll apportionment was the right method, the case is typically sent back to the county to work through the out-of-state deduction using the three-step process, with a new written final determination and the normal 90-day right to appeal that determination.

Citations and references

• Va. Code § 58.1-3703.1 A 3 a (general BPOL situs rule: gross receipts taxed at the definite place of business exercising the licensed privilege)
• Va. Code § 58.1-3703.1 A 3 a-b (order of situsing methods: place of performance, then direction/control, then payroll apportionment as a last resort when impractical/impossible to otherwise determine)
• P.D. 21-111 (8/24/2021) (same taxpayer, different locality; payroll apportionment found appropriate due to inconsistent subcontractor cost assignment and unclear direction-and-control)
• P.D. 04-26 (6/2/2004) (payroll apportionment is a method of last resort)
• Ford Motor Credit Co. v. Chesterfield County, 281 Va. 321, 707 S.E.2d 311 (2011) (Virginia Supreme Court on whether attributing receipts to a specific place of business was impractical or impossible)
• P.D. 18-168 (9/26/2018) (direct labor method as an alternative apportionment approach, useful only when it accurately reflects revenue assignment)
• Va. Code § 58.1-3732 B 2 (out-of-state deduction for receipts attributable to business conducted in another state where the taxpayer is liable for income tax)
• 23 VAC 10-500-80 A 2 (taxpayer must be liable for an income-based tax and file a return in the other state to claim the deduction)
• P.D. 10-229 (9/29/2010) (when payroll apportionment situses gross receipts, the out-of-state deduction is computed using the same payroll factor)
• Nielsen Company (US), LLC v. County Board of Arlington County, 289 Va. 79, 767 S.E.2d 1 (2015) (Department's three-step out-of-state deduction methodology; not reached where the county rejected payroll apportionment outright)

Subject

Situs : Apportionment - Payroll; Deductions : Out of State

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 22-66

Original ruling text

April 5, 2022

Re: Appeal of Final Local Determination

Taxpayer: *

Locality: *

Business, Professional and Occupational License Tax

Dear *:

This final state determination is issued upon the application for correction filed by you on behalf of * (the “Taxpayer”), with the Department of Taxation. You appeal the denial of refunds of Business, Professional and Occupational License (BPOL) by *** (the “County”) for the 2013 through 2016 tax years.

The BPOL tax is imposed and administered by local officials. Virginia Code § 58.1-3703.1 authorizes the Department to issue determinations on taxpayer appeals of BPOL tax assessments. On appeal, a BPOL tax assessment is deemed prima facie correct, i.e ., the local assessment will stand unless the taxpayer proves that it is incorrect.

The following determination is based on the facts presented to the Department summarized below. The Code of Virginia sections, regulation and public documents cited are available on-line at www.tax.virginia.gov in the Laws, Rules and Decisions section of the Department’s web site.

FACTS

The Taxpayer, a provider of professional and information technology services primarily for the United States government, filed for a refund of BPOL taxes paid to the County for the 2013 through 2016 tax years. The refund was based on changing the situsing of gross receipts to the County by using payroll apportionment and claiming the out-of-state deduction. The County denied the refund, and the Taxpayer filed an appeal with the County. In its final determination, the County concluded that the Taxpayer’s original method of situsing gross receipts was in accordance with the general statutory methods and that the Taxpayer had not provided sufficient information to substantiate the out-of-state deduction. The Taxpayer appealed to the Department, contending that its cost tracking system did not accurately situs gross receipts and that it was not otherwise possible or practical to situs gross receipts using the general methods. The Taxpayer also contends that the out-of-state deduction should be computed using the method applicable to payroll apportionment.

ANALYSIS

Situs

The general rule for establishing situs for the BPOL tax is that whenever the tax is measured by gross receipts, “the gross receipts included in the taxable measure shall be only those gross receipts attributed to the exercise of a privilege subject to licensure at a definite place of business within [the] jurisdiction.” See Virginia Code § 58.1-3703.1 A 3 a. In determining the situs of gross receipts, Virginia Code §§ 58.1-3703.1 A 3 a 4 and 58.1-3703.1 A 3 b state that receipts from services are to be taxed based on (in order): (i) the definite place of business at which the service is performed, or if not performed at any definite place of business, (ii) the definite place of business from which the service is directed or controlled; or as a last resort (iii) when it is impossible or impractical to determine where the service is performed or from where the service is directed or controlled, by payroll apportionment between definite places of business.

The Department has recently ruled on this issue in another locality with regard to the Taxpayer. See Public Document (P.D.) 21-111 (8/24/2021). In that case, the Department determined that payroll apportionment was the appropriate situsing methodology to use under the circumstances and remanded the case to the locality so the Taxpayer and the locality could work together to resolve the out-of-state deduction issue in light of the Department’s determination regarding the situs issue. This current appeal raises the same issues, and the Taxpayer’s business operations in the County do not appear to be such that a different result would be warranted. Under these circumstances, once the Department made the determination that payroll apportionment was the appropriate methodology, the statute required that “the gross receipts . . . be apportioned between the definite places of business on the basis of payroll.” [Emphasis supplied]. See Virginia Code § 58.1-3703.1 A 3 b. A consistent application of the statute requires that gross receipts be sitused to any of the Taxpayer’s other definite places of business on the basis of payroll, including any definite places of business in the County.

In its final determination, the County used an example to demonstrate how payroll apportionment could materially distort the situs of revenue and create an unfair representation of business operations in this case. The County explained that a project manager of the Taxpayer could be directing and controlling large projects performed by subcontractors with significant revenue impact. The County reasoned that if payroll apportionment were used, only a small percentage of revenue would be sitused to the location where the project manager worked because his or her pay would be small in proportion to the total payroll.

However, distortion is not the standard on which a determination as to whether the situs of gross receipts must be determined by payroll apportionment is made. Instead, payroll apportionment is a method of last resort to be used only when a business has more than one definite place of business and it is impractical or impossible to determine to which definite place of business gross receipts should be attributed under the general rule. See P.D. 04-26 (6/2/2004). As the Virginia Supreme Court observed in Ford Motor Credit Co. v. Chesterfield County , 281 Va. 321, 337, 707 S.E.2d 311, 319 (2011):

we then must decide whether the circuit court erred in holding that it was “neither impractical nor impossible” to attribute the gross receipts to the performance of services at a specific, definite place of business, and that payroll apportionment was not required.

The direct labor method described in P.D. 18-168 (9/26/2018) may sometimes prove useful in arriving at a fair proportion, but as the Department cautioned in P.D. 21-111, the direct labor method is only applicable to the extent it accurately reflects the assignment of revenue. The more difficult that assignment is, the more likely payroll apportionment will be necessary. Ultimately, the determination whether payroll apportionment should be used depends on an analysis of all of the relevant facts and circumstances.

In P.D. 21-111, several specific issues were identified with regard to situsing gross receipts based on the location of project managers. First, subcontractor costs were inconsistently assigned. In some instances, gross receipts were allocated to the location of the project manager but other times to other locations such as the location of the purchaser. Second, the extent of direction and control was not always discernable from the language of the contract or captured in a report. Third, in the case of fixed price contracts, receipts were assigned to the location of the project manager even though the services may not have been the definite place of business where they were performed or directed and controlled. Based on these circumstances, the Department reasoned that payroll apportionment was an appropriate situsing methodology because of the difficulty in applying the general rule to such a complex business operation.

The Department also takes issue with the County’s example of distortion. A large project may have hundreds, if not thousands, of individuals contributing to its completion. While work on the contracts is performed by numerous individuals and subcontractors at multiple locations throughout the United States and even around the world, the County’s example assumes that the location of project managers should be considered the locations where services are directed and controlled. First, the county presupposes the project managers all work at a definite place of business. Second, the County also makes the assumption that the Taxpayer’s other employees assigned to a contract do not work from a definite place of business. Such assumptions, however, should not be made, given that these issues require a full analysis of the facts and circumstances in any given case. In addition, these issues may require an even closer examination in the day and age of advanced teleworking technology and remote workforces. In fact, situsing the entire gross receipts derived from the activities of such a large workforce to the location of a specific project manager could itself create an unfair or distorted representation of business operations.

Out-of-State Deduction

Virginia Code § 58.1-3732 B 2 provides a deduction from gross receipts otherwise taxable for any receipts “attributable to business conducted in another state or foreign country in which the taxpayer . . . is liable for an income or other tax based upon income.” Title 23 of the Virginia Administrative Code (VAC) 10-500-80 A 2 further explains that a taxpayer must be liable for an income or an income-like tax in the other state and file a return in that state to take advantage of the deduction.

The statutory language allowing the deduction is best analyzed as consisting of three requirements:

“any receipts” includes receipts that have already been assigned to the definite place of business for BPOL taxation purposes. A business cannot deduct receipts that have already been excluded by the situsing rules.

“attributable to business conducted in another state or foreign country” conveys that some portion of the receipts assigned to the definite place of business must be attributable to business activity in another state. To ascertain if such gross receipts exist, a business must analyze whether employees from the Virginia definite place of business earn, or participate in earning receipts attributable to customers in other states.

“in which the taxpayer (or its shareholders, partners or members in lieu of the taxpayer) is liable for an income or other tax based upon income” denoting that a business must be liable for income tax to the state in which occurred the business activity considered in the second requirement.

When gross receipts are apportioned by using the general payroll apportionment formula, the amount of the out-of-state deduction would be determined by multiplying the total out-of-state gross receipts by the same payroll factor used to determine the situs of gross receipts. See P.D. 10-229 (9/29/2010).

Subsequently, the Department established a three-step process for computing the out-of-state deduction when payroll apportionment is used to situs gross receipts. These steps are as follows:

Determine if employees from the definite place of business earn, or participate in earning receipts attributable to customers in other states where a taxpayer filed an income tax return;

Determine the receipts that are eligible for deduction; and

Multiply the receipts eligible for the deduction by the same payroll factor used to determine the situs of gross receipts.

The Department’s methodology was upheld in Nielsen Company (US), LLC v. County Board of Arlington County , 289 Va. 79, 767 S.E.2d 1 (2015). In this case, the County denied the out-of-state deduction, but because the County declined to grant the Taxpayer’s request to use payroll apportionment, the issue was not examined under the three-step methodology outlined above.

DETERMINATION

Under the facts and circumstances presented, the Department finds that the Taxpayer was eligible to use payroll apportionment to apportion gross receipts. In light of that conclusion, the case is being returned to the County to determine to what extent, if at all, the Taxpayer was eligible to claim the out-of-state deduction under the process used when payroll apportionment is used to situs gross receipts.

Accordingly, the Taxpayer and the County are instructed to work together to resolve the out-of-state deduction issue. The Taxpayer must respond to any further information requests from the County in a timely fashion. Once the County has had an opportunity to re-examine the out-of-state deduction issue, the County is instructed to issue a final determination as to that issue to the Taxpayer in writing, thoroughly analyzing the facts and circumstances in light of the applicable laws and policies. If the Taxpayer wishes to dispute that final determination, it may appeal to the Department within 90 days as provided under Virginia Code § 58.1-3703.1.

If you have any questions regarding this determination, you may contact * in the Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/4031.M

Related Documents

21-111

04-26

18-168

10-229