Did It Impose a Limitation Not Required by Statute?
Arizona law requires taxpayers seeking to claim a transaction privilege tax (TPT) exemption to document the transaction with an exemption certificate. Exemption certificates are prepared by the purchaser, who certifies that the sale is exempt from tax, and given to the seller for its records. Exemption certificates are not filed with the Arizona Department of Revenue (Department) or municipal tax authorities, and are generally only reviewed in the event of an audit.
Taxpayers have the option of issuing a single-use certificate – good for one transaction – or, until recently, a “blanket” certificate, where the taxpayer would indicate the period for which the certificate was valid with no maximum length of term. Blanket certificates were particularly useful in circumstances where the buyer and seller transacted regular and ongoing tax-exempt business (for example, a construction contractor’s repeated purchase of exempt building materials from a materials supply house). In October 2015, however, the Department updated its Form 5000 (general TPT exemption certificate) and Form 5000A (resale certificate), limiting the period of validity for a blanket certificate to a maximum of one year. The prior form had no temporal limitation and the Department routinely accepted exemption certificates that were open ended—where the taxpayer used the language “until revoked” or a similar opened ended description. The single-use option remains in place without any change. This new one-year limitation is not required by A.R.S. § 42-5009 (the Arizona statute authorizing the use of exemption certificates) and appears to be an arbitrary limitation imposed by the Department. Did the Department impermissibly impose a restriction on exemption certificates not required by the statute? We suggest it did. Additionally, taxpayers may no longer use the Form 5000 to support exempt sales for resale and are required instead to use only the Form 5000A certificate (previously, taxpayers could use either form).
It is our understanding that the Department views the one-year rule as consistent with recent statutory and procedural changes adopted as part of Arizona’s ongoing sales tax simplification efforts, in particular the new annual TPT license renewal requirements in A.R.S. § 42-5005. Additionally, the Department has suggested that the change was made at the request of taxpayers and also suggests that it is not burdensome. Nonetheless, there is no statutorily-imposed limitation on the validity period of exemption certificates.
A.R.S. § 42-5009(A)(2) states that an exemption certificate “may be disregarded if the seller has reason to believe that the information contained in the certificate is not accurate or complete.” The Department translates this to a “good faith” standard: if the seller accepts the exemption certificate in good faith, then it can claim the exemption. By accepting from a customer an exemption certificate with a longer than one year period or “until revoked” language, will the Department consider the certificate not taken in good faith and thereby invalid? Also unclear is how the Department will treat preexisting blanket exemption certificates valid for more than one year, obtained by the vendor before the Department adopted its new one-year rule. The Department has suggested that taxpayers are not prohibited from relying on exemption certificates that exceed the one year limitation, but notes that by doing so, the taxpayer will be subject to the conditions of A.R.S. § 42-5009(B), which places the burden of establishing the right to a deduction on the taxpayer, rather than shifting it to the Department.
Although there are certainly some instances of invalid or fraudulent exemption certificates being used by unscrupulous taxpayers, the Department’s new one-year rule does not seem designed to target or prevent such behavior. Rather, some have suggested that the new rule may be a ploy by the Department to increase collections by making the cost of compliance exceed the burden of collecting and remitting the tax, whether or not a valid exemption exists.
Limiting exemption certificates to a one-year period of validity creates a compliance nightmare for taxpayers. Taxpayers will need to develop a system to track when each exemption certificate expires (the Department’s rule is based on the effective date stated on the certificate, rather than the calendar or tax year) and procedures to obtain a new exemption certificate from buyers. The taxpayer community communicated its concerns about the compliance burden imposed by the new one-year rule and is working with the Department to get the one-year rule changed. Perhaps a four-year rule, which matches the statute of limitations for audits, would be appropriate. If the Department can have four years to audit, why should an exemption certificate not be good for the same period?
Until the Department rescinds or changes its one-year arbitrary rule, in order to be safe and avoid tax problems down the road, taxpayers should limit all exemption certificates to the one-year validity period as required by the form, and implement procedures for updating expired certificates. Additionally, note that the Department’s position on preexisting blanket exemption certificates is unclear at this time. It is possible that the Department will take the position that a taxpayer relying on an older blanket exemption certificate is no longer relying on that certificate in good faith given the rule change, opening the taxpayer up to an assessment. Risk-adverse taxpayers should make efforts to update all preexisting blanket exemption certificates to the new form.