A New York State Administrative Law Judge upheld the denial of a securities rating agency's request for a refund of sales tax, holding that the rating agency failed to prove that it did not collect the sales tax from its customers and to prove that it had refunded such amounts to those customers. Matter of Kroll Bond Rating Agency, Inc., DTA Nos. 826900 & 827411 (N.Y.S. Div. of Tax App., Oct. 5, 2017).

Facts. Kroll Bond Rating Agency, Inc. ("Kroll") is a small securities rating agency that was formed in 2010 to compete with larger rating agencies like Standard & Poor's and Fitch. Kroll negotiated its fees for its rating services individually with each customer, and memorialized those fees in an engagement agreement. Although Kroll understood that the industry practice was not to collect New York sales tax on rating services, it was nevertheless unsure whether the service it provided was properly subject to sales tax. Therefore, on March 8, 2012, it requested an Advisory Opinion from the New York State Department of Taxation and Finance.

Beginning in October 2011, and during the period when its Advisory Opinion request was pending, Kroll's invoices to customers included the statement "includes any applicable sales taxes." Kroll did not remit sales tax to the Department on the entire amount of the invoice; instead, it allocated the total invoice amount into taxable services, non-taxable services (where applicable), and sales tax. The total amount on each invoice was the amount paid by the customer, which was the same as the amount reflected in each engagement agreement.

On September 9, 2013, 18 months after its request, Kroll received the Advisory Opinion, which concluded that its securities rating service was not subject to sales tax. Kroll subsequently submitted refund claims for the portion of the New York State sales taxes it remitted on its sales of securities rating services for the period December 1, 2010, through August 31, 2013 (Kroll later filed a second refund claim for the New York City sales taxes it paid). The Department denied the refund claims on the grounds that Kroll had not provided any documentation indicating that it had refunded the overpaid sales tax to its customers. Kroll asserted that it did not collect any sales tax from its customers, but rather that it paid the tax on behalf of its customers.

Law. Tax Law 1139(a) provides that the Department may refund any sales tax erroneously collected or paid if timely application is made, but no refund will be made of sales tax collected from customers unless the vendor "has repaid such tax to the customer." If the words "tax included" or similar words appear on a sales slip, then "the entire amount charged is deemed the sales price" subject to sales tax. 20 NYCRR 532.1(b)(3). The taxpayer bears the burden of proof to show that it is entitled to the refund requested. 20 NYCRR 3000.15(d)(5).

ALJ Decision. The ALJ acknowledged that the securities rating services were not subject to New York State sales tax, and that Kroll had erroneously remitted sales tax to the Department. However, the ALJ rejected Kroll's argument that it had paid the sales tax on behalf of its customers, finding that Kroll did not demonstrate that the tax had not been collected from its customers. The ALJ noted that if Kroll had paid the sales tax on behalf of its customers, the sales tax would have been due on the total invoice amount, per sales tax regulation 532.1, and not just on the portion representing the charge for the rating services.

Instead, the ALJ found that the invoice amounts given to and paid by the customers included the sales tax, consistent with the reference to "tax included" on the face of each invoice. The ALJ therefore found Kroll's assertion that it had not collected sales tax from its customers to be "untenable." Accordingly, the ALJ held that Kroll's refund claims were properly denied because it did not demonstrate that it had refunded those amounts to its customers who paid the sales tax.

The ALJ also rejected Kroll's argument that allowing the Department to keep the erroneously paid sales tax would result in unjust enrichment. Kroll maintained that this was especially true where, as here, the Department exceeded by more than a year the four-month statutory time frame within which the Department must issue an Advisory Opinion, which Kroll claimed caused it to continue to erroneously pay sales tax while awaiting the opinion. The ALJ did not directly address Kroll's unjust enrichment claim, noting only that the Division of Tax Appeals does not have jurisdiction over the timely issuance of Advisory Opinions, and that Kroll's customers had paid the tax, not Kroll.

Additional Insights

The ALJ's decision seems to elevate form over substance. In this case, the record demonstrated that the customer paid the same price -- the price set out in the engagement agreement -- for Kroll's services both before and after Kroll started remitting sales tax. Therefore, it seems logical to conclude that it was Kroll that bore the cost of (and actually paid) the sales tax. This is true regardless of the statement on the invoice that any applicable sales tax was included, since Kroll received less money as a result of remitting sales tax while the customer remained in the same position. It is also questionable why the fact that Kroll paid sales tax on only a portion of the total invoice amount should be found to demonstrate that a portion of the amount paid by the customer represented sales tax.