On March 30, 2016 the South Carolina Administrative Law Court (ALC) issued an order which determined that proceeds from the sale of damage waivers are subject to sales tax. Rent-A-Center East, Inc. v. South Carolina Department of Revenue, Docket No. 13-ALJ-17-0601-CC. Businesses renting and selling tangible personal property should be aware of the decision, and carefully evaluate whether they should be collecting sales tax on charges for damage waivers or similar insurance type products.
The ALC case involved a taxpayer in the business of renting and selling tangible personal property. The taxpayer entered into rental purchase agreements with customers. The taxpayer also offered its customers, through a separate document, the option to purchase a damage waiver (which covered, for example, losses from lightning, fire, and theft). The damage waiver fee was calculated as a percentage of the payments due under the rental purchase agreement. The rental purchase agreement included fees for the damage waiver when a customer opted for the damage waiver coverage.
The taxpayer did not charge or collect sales tax on proceeds from damage waivers. The South Carolina Department of Revenue (DOR or Department) audited the taxpayer, determined that the proceeds from damage waivers were subject to sales, and proposed a sales tax assessment exceeding $700,000. The taxpayer filed a request for a contested case hearing with the ALC. The sole issue before the ALC was whether the damage waiver fees should be included in the sales tax base.
South Carolina sales tax applies broadly to the value accruing from the sale, lease, or rental of tangible personal property. The taxpayer argued that the rental purchase agreement and damage waiver agreement were separate agreements. If the ALC accepted this argument, the charges for the damage waiver would not be subject to sales tax. The ALC, however, determined that the rental purchase agreement and damage waiver agreement were in fact one agreement. Based on this factual conclusion, the ALC found the proceeds from the damage waiver were attributable to the sale, lease, or rental of tangible personal property because the taxpayer received the damage waiver fees in connection with its sale or rental of tangible personal property.
The taxpayer in the ALC case now faces the prospect of being liable for hundreds of thousands of dollars of sales taxes. While the taxpayer could have collected the sales taxes from its customers at the time of sale, it no longer has the option of collecting taxes for prior periods from its customers as a practical matter. Given the liabilities at issue, the taxpayer will likely appeal the ALC order.
While the ALC order may be appealed by the taxpayer, the order serves as a reminder to all businesses to carefully evaluate the applicability of sales tax to charges imposed in connection with the sale of tangible personal property. Charges for intangible items that are ordinarily not subject to sales, such as insurance, may in fact be subject to sales tax when they are made in connection with the sale of tangible personal property. A business must examine the specific facts and circumstances of its business model to determine which charges are subject to sales tax. With careful planning, a business may be able to utilize a model that segregates charges for intangible items from tangible personal property charges so the business is only required to collect sales tax on the tangible personal property charges.