Why do consumer product companies care about Delaware's gross receipts tax?
Consumer product companies care about Delaware's Wholesalers Gross Receipts tax because many sell a significant volume of products at wholesale in Delaware. Volume has increased for many businesses because of a recently opened Wal-Mart regional distribution center in Delaware. Shipments to that facility support Wal-Mart stores in three states. (For example, The Dial Corporation, a company that has just litigated a wholesalers tax case, supplies that facility and consumer product shipments to that facility were a focus of attention in that case.)
A number of these companies have not been filing wholesalers tax returns in Delaware. For many companies, the decision not to file was not based on a lack of nexus with Delaware. The state's position is that companies that ship products into Delaware are not protected from the wholesalers tax by P.L. 86-272. And the state has not ruled out an economic nexus approach for this tax. Instead, many companies that have not filed gross receipts tax returns did so relying on the Delaware courts' decisions in Franklin Fibre.1 These companies were disappointed when, earlier this year, the Delaware Supreme Court upheld the application of the Delaware Wholesalers Gross Receipts tax to The Dial Corporation and Ford Motor Company and, thereby, called the Franklin Fibre decision into question.2
What are the risks, and why have the risks increased?
Even companies with a small annual exposure face a material lifetime exposure if they have never filed returns. Consistent with the position that Delaware takes in the unclaimed property context, Delaware will assess tax on non-filers back to the year in which the tax was enacted, if the non-filers are detected as a result of audit enforcement. Although the Delaware wholesaler tax was enacted in 1969, most out-of-state taxpayers would only be exposed to liability beginning in July 1985, when the tax was amended to impose tax on a destination basis.3 So for a non-filer that has been making Delaware sales since 1985, a $40,000 annual tax liability yields $7 million in tax, interest and penalty going back to July 1985.4 The penalties under that calculation were limited, however, because the 5 percent-per-month penalty was capped at 50 percent. Now, under H.B. 268,5 the statutory cap on penalties will not apply for go-forward years.
How does the new VCI mitigate the risk? Why should I be careful?
H.B. 268, the same legislation that increased the risks of non-filing by removing the penalty cap, also authorized a Voluntary Compliance Initiative (VCI). The VCI is scheduled to run from Sept. 1, 2009 to Oct. 30, 2009.6 The initiative waives interest and penalties for unpaid "eligible" taxes, including gross receipts taxes, and cuts off liability for tax periods before 2004. Paying a small tax liability—no penalties and interest—for 2004 forward could be affordable insurance against a potential hefty assessment for many companies. Continuing with our example, a company with a $40,000 annual tax liability that comes forward under the VCI would pay tax of $230,000.
The VCI, therefore, may be attractive to many companies. Taxpayers must proceed with care, however, in approaching and dealing with Delaware. Several taxpayers have had expectations unsettled because voluntary disclosure agreements have gone bad. For example, the ongoing CA, Inc. v. Cordrey unclaimed property litigation illustrates Delaware's aggressive approach even in the context of voluntary disclosure negotiations.7 Thus, it is important to exercise care and diligence in approaching the state under the VCI and bringing the process to conclusion.
The rate increase
Meanwhile, taxpayers that come forward will have to pay a greater amount of tax beginning in 2010 because the legislature has also increased the tax rate.8 The increase for wholesalers is about 8 percent, because the rate has increased from 0.384 percent to 0.4147 percent.
At first glance, the Delaware gross receipts taxes might not appear to be a material exposure for many companies. After all, a taxpayer that makes $10 million of sales into Delaware pays annual tax of only about $40,000. However, actual exposure might be significant in light of recent developments, including the Delaware Supreme Court decisions, increase to the tax rate, and elimination of the cap on penalties. Thus, taxpayers should consider whether they should take advantage of this VCI opportunity, or let it go. The Ford case is still on appeal and, for many consumer product companies, the question of nexus remains unresolved.