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By Altus Group | October 30, 2017

By: Karen T. Syrylo, CPA

Multistate businesses that pay both state level and local level sales taxes should take note of this recent development. The U.S. Supreme Court on October 2, 2017 declined to review the West Virginia Supreme Court of Appeals’ ruling in Steager v. CSX Transportation, Inc., thereby letting stand the state court’s decision that West Virginia must allow credit against its sales/use tax for both state and local sales taxes paid to other states and their localities.

CSX, the interstate railroad company, buys motor fuel in other states and uses it in its operations in West Virginia. West Virginia imposes a state level use tax on the fuel used in the state. West Virginia’s localities do not impose local level use taxes on the fuel. The Tax Commissioner had denied CSX’s application for refund in which it had claimed credit against the West Virginia tax based on sales taxes that it had paid at both the state and municipal levels in other states, holding that only other state level taxes were creditable.

Both the lower circuit court as well as the administrative Office of Tax Appeals had both overruled the Tax Department’s disallowance of the credit, and the state high court affirmed those decisions, reasoning that the result was required in order to avoid violation of the dormant Commerce Clause. That is, that without the full credit discrimination against interstate commerce would occur because interstate transactions would be subject to a greater tax burden than strictly intrastate transactions.

Here in the sales tax context, the case is another use of the U.S. Supreme Court’s “internal consistency” test articulated recently in Comptroller of the Treasury of Maryland v. Wynne, in which the Court ruled that Maryland’s disallowance of credit to residents against their Maryland income tax for local income taxes paid in other states violated the dormant Commerce Clause. Internal consistency looks to the structure of the tax at issue to see whether its identical application by every state in the Union would place interstate commerce at a disadvantage as compared with intrastate commerce.

Lack of state and local credit violates the dormant Commerce Clause

The West Virginia court’s ruling analyzed the Tax Department’s position under the U.S. Supreme Court’s rulings dealing with the dormant Commerce Clause. The court provided a detailed discussion of the four prongs of the Constitutionality test provided by the Supreme Court in Complete Auto Transit v. Brady: 1) substantial nexus; 2) fair apportionment; 3) no discrimination against interstate commerce; 4) fairly related to the services provided by the state. Prongs one and four regarding nexus and state services were not an issue, as it was clear that CSX does business in West Virginia and benefits from government services in the state.

With respect to the second prong, the apportionment requirement, the court found that the tax itself was fairly apportioned because the tax applied only to the portion of fuel that was used in West Virginia operations. But the court went on: “However, we cannot reach the same conclusion with respect to the Tax Commissioner’s interpretation of the corresponding sales tax credit.” The court noted that the state statute was silent as to the scope of the sales tax credit allowed, i.e. the law used only the phrase “sales tax lawfully paid to another state,” and that the Tax Commissioner interpreted the phrase to mean only state level taxes and not local level taxes. But the court’s conclusion was “We find CSX’s position [that credit must be granted for both other state and local sales taxes] to be most in keeping with the Supreme Court’s internal consistency test and recent cases interpreting the same.”

Internal consistency test applies to sales tax too

Also, “Any other construction of this statute would invariably violate the Commerce Clause’s prohibition on subjecting interstate transactions to a greater burden than that imposed on strictly intrastate dealings. The easiest way to demonstrate this dichotomy is through simple math analysis.” And here the court provided its own hypothetical example with state and local sales tax rates, and state or state plus local taxes credited, depicting how disallowing credit for sales taxes imposed by subdivisions of other states produces a “total tax burden on interstate commerce that is higher than a purely intrastate transaction” in violation of the holding in Wynne and of the dormant Commerce Clause.

With respect to the Complete Auto third prong requirement of nondiscrimination, the court ruled that under the same analysis “allowing the sales tax credit only for sales taxes paid to other states unfairly discriminates against interstate commerce” and that credit must be allowed for sales taxes paid both to other states and to sales taxes paid to the municipalities of other states.

What it could mean for other taxpayers

Other multistate businesses should consider where they pay both state level and local level sales taxes and whether there are situations in which full credits are not granted on interstate transactions. While the case discussed here is specific to the state of West Virginia, the court’s analysis of the U.S. Supreme Court’s rulings on the Constitutional issue is good and thorough. Similar analysis can be applicable in other states.

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