Third Party’s Activities Create Nexus

The U.S. Supreme Court declined to review a finding of substantial nexus by New Mexico for gross receipts tax on mail-order and online sales in that state by a subsidiary of Texas-based computer maker Dell Inc.

The New Mexico Court of Appeals last summer affirmed an assessment of gross receipts tax on Dell’s sales subsidiary, holding that customer support services by an instate contractor created substantial nexus for the vendor. New Mexico’s ruling is similar to that of a Louisiana appellate court three years ago (Louisiana v. Dell International Inc., 922 So. 2d 1257 (2006)). A Connecticut court, however, has ruled in Dell’s favor (Dell Catalog Sales LP v. Commissioner of Revenue Services, 834 A.2d 812 (Conn. Super. Ct. 2003)). The U.S. Supreme Court has resolved cases involving sales activities but not nonsales activities provided by third parties. See, for example, Scripto Inc. v. Carson, 362 U.S. 207 (1960), and Tyler Pipe Industry Inc. v. Washington State Department of Revenue, 483 U.S. 232 (1987).

Dell Catalog Sales (Dell) is a limited partnership with its principal place of business in Texas. Dell uses a direct-to-the-customer model to sell its computers via telephone, mail and Internet. Dell shipped computers to New Mexico customers via common carrier. Dell also sold on-site, in-home service contracts to its customers that were serviced solely by BancTec USA Inc. (BancTec), an independent, in-state company. In many instances, Dell bundled the service contract with the computers. About 75% of the New Mexico customers purchased service contracts. The state audited Dell in July 1999. During the audit period (January 1993 to June 1999), BancTec technicians were dispatched on 1,273 installation and service calls.

The court ruled that Dell had substantial nexus with New Mexico because of its relationship with and activities provided by and on behalf of BancTec. The court found that the agreement between Dell and BancTec mandated that BancTec follow very specific dispatch procedures and use Dell-issued replacement parts. If BancTec underperformed, Dell reserved the right to take over or assign BancTec obligations. Dell’s parent acted as BancTec’s agent, registered BancTec within the state and paid the gross receipts tax on Dell’s sale of BancTec’s service contracts within the state.

As a result of the audit, however, New Mexico also assessed an additional $1.14 million in gross receipts taxes on Dell’s computer sales. Dell protested the assessment.

The court based its ruling on the fact that the availability of the service contract was an important component of Dell’s marketing and sales package. It also quoted the Multistate Tax Commission’s Bulletin 95-1, which provides that an in-state repair service supports a finding of substantial nexus, because such service “provided by a direct marketing computer company as part of the company’s standard warranty or as an option that can be separately purchased and as an advertised part of the company’s sales contributes significantly to the company’s ability to establish and maintain its market for computer hardware sales in the State.”

The court distinguished this case from the Connecticut case, although it involved the same taxpayer and similar facts. The Connecticut court entered judgment in favor of Dell because the tax commissioner failed to provide evidence of the number of service calls made by BancTec—a crucial factor in determining whether nexus was substantial or minimal.

The New Mexico Court of Appeals also affirmed an additional assessment of nearly $32,000 in compensating taxes on the value of sales catalogs mailed by Dell from out of state to New Mexico residents. A compensating tax is a 5% excise tax designed to prevent the importation of tangible property that would have been subject to the gross receipts tax if it had been made or designed in-state. The court rejected Dell’s argument that it lacked physical control and possession of the catalogs and as a result did not use them. The court determined that Dell not only contracted for the design and production of the catalogs outside the state but also retained the right to determine distribution within the state.

The New Mexico Supreme Court in July 2008 declined to review the case. In March, the U.S. Supreme Court denied Dell’s application for certiorari.

 Dell Catalog Sales LP v. Taxation and Revenue Department of the State of New Mexico, 199 P.3d 863 (N.M. Ct. App. 2008)

By Jean T. Wells, CPA, J.D., assistant professor of accounting, Howard University, Washington, D.C.