Nexus Standards for Michigan Business Tax

 

State and Local Taxes Weekly, 10/27/2008, Volume 19, No. 43

Michigan Explains Nexus Standards for Michigan Business Tax

by Peter G. Pupke, Esq. (RIA)

The Michigan Department of Treasury has issued a Revenue Administrative Bulletin explaining the nexus standards for the new Michigan Business Tax (MBT), that took effect on January 1, 2008. It includes a discussion of the jurisdictional standard used to determine whether a taxpayer is subject to the MBT, how P.L. 86-272 applies to the tax, de minimis contacts, and how nexus is determined for members of a unitary business group. This RAB and the nexus standards described herein are effective January 1, 2008. ( Michigan Revenue Administrative Bulletin 2008-4, 10/21/2008 .)

Michigan Business Tax components. The MBT is comprised of four components: a business income tax, a modified gross receipts tax, a gross direct premiums tax, and a franchise tax. The gross direct premiums tax and franchise tax apply only to insurance companies and financial institutions respectively.

MBT nexus standards. There are two alternative nexus standards under the MBT. First, a person has nexus with the state if that person has physical presence in the state for more than one day during the tax year. Alternatively, a person has nexus with the state if the person actively solicits sales in the state and has Michigan gross receipts of $350,000 or more. Both alternative nexus standards apply to all components of the MBT.

Physical presence nexus standard. A taxpayer has nexus with Michigan for MBT purposes if that taxpayer “has a physical presence in this state for a period of more than 1 day during the tax year.” “Physical presence” means any activity conducted by the taxpayer or on behalf of the taxpayer by the taxpayer's employee, agent, or independent contractor acting in a representative capacity. Physical presence does not include the activities of professionals providing services in a professional capacity or other service providers if the activity is not significantly associated with the taxpayer's ability to establish and maintain a market in Michigan.

Physical presence is determined on a facts and circumstances basis. A taxpayer will have physical presence in Michigan and be subject to the MBT when-for a period of two or more days in a tax year-the taxpayer or on behalf of the taxpayer its employees, agents, or independent contractors acting in a representative capacity:

• Conducts business activity in Michigan. In-state business activity includes, but is not limited to: (1) performing services; (2) selling, renting, or leasing property, whether real, personal, or mixed, tangible or intangible; (3) soliciting sales; (4) making repairs, doing warranty work, or providing maintenance or service to property sold or to be sold; (5) collecting current or delinquent accounts related to sales of tangible personal property through assignment or otherwise; (6) installing or supervising installation at or after shipment or delivery; (7) conducting training, seminars, or similar events for employees, agents, representatives, independent contractors, brokers or others acting on its behalf, or for customers or potential customers; (8) providing customers any kind of technical assistance or service including, but not limited to, engineering assistance, design service, quality control, product inspections, or similar services; (9) investigating, handling, or otherwise assisting in resolving customer complaints; (10) providing consulting services; and (11) soliciting, negotiating, or entering into franchising, licensing, or similar agreements.
• Owns, rents, leases, maintains, or has the right to use and uses tangible personal or real property permanently or temporarily located in Michigan, including offices or other establishments.
• Delivers goods to Michigan in vehicles it owns, rents, leases, uses, or maintains.

If the taxpayer's only activities in Michigan are strictly limited to the activities listed below for less than 10 days, such activity will not constitute physical presence resulting in nexus. To the extent that any activity listed below is identified in this RAB or in Michigan Revenue Administrative Bulletin 2007-6, 12/28/2007 as establishing nexus, then the activity establishes nexus: (1) meeting with in-state suppliers of goods or services; (2) in-state meeting with government representatives in their official capacity; (3) attending occasional meetings (e.g., board meetings, retreats, seminars and conferences sponsored by others, etc.); (4) holding recruiting or hiring events; (5) advertising in the state through various media; (6) renting to or from an in-state entity customer list; and (7) attending and/or participating at a trade show at which no sales are solicited or made. Conducting any of the activities listed above for 10 days or more will not necessarily constitute physical presence resulting in nexus. In that case, whether nexus has been established will depend on the facts and circumstances of the in-state activity.

Additionally, physical presence does not include the activities of professionals providing services in a professional capacity or other service providers if the activity is not significantly associated with the taxpayer's ability to establish and maintain a market in the state. In other words, lawyers, accountants, investment bankers, and other similar professionals that are not employees of the out-of-state taxpayer who perform services in Michigan in their professional capacity for that out-of-state taxpayer are not considered to be conducting business activity in Michigan on behalf of the out-of-state taxpayer so long as those services are not intended to establish or maintain a market on behalf of the taxpayer. Similarly, other service providers that are not employees of the out-of-state taxpayer that perform services in Michigan for an out-of-state taxpayer cannot be considered to be conducting business activity in Michigan on behalf of the taxpayer so long as those services are not intended to establish or maintain a market for the taxpayer.

Corporations incorporated, or entities or persons organized, within the state have physical presence in Michigan.

Finally, physical presence exists for one day when physical presence is established for any portion of a day. Physical presence of more than one day is established when the presence of the taxpayer or its employees, agents, or independent contractors extends beyond a single day or occurs in more than one day. For example, an out-of-state taxpayer that drives into Michigan to perform repair services for two hours on March 1 does not have physical presence in Michigan for more than one day. If that same taxpayer returns to Michigan on March 2-or any other day within the tax year-to complete the repair job, then the taxpayer will have physical presence in Michigan for two or more days and will have nexus under the physical presence nexus standard.

Active solicitation with substantial Michigan gross receipts nexus standard. A taxpayer has nexus with Michigan and is subject to the MBT if the taxpayer actively solicits sales in Michigan and has gross receipts of $350,000 or more sourced to Michigan. Under Michigan Revenue Administrative Bulletin 2007-6, 12/28/2007 and pursuant to Mich. Comp. Laws Ann. § 208.1200(2) , “actively solicits” means purposeful solicitation of persons within Michigan. Solicitation means: (1) speech or conduct that explicitly or implicitly invites an order; and (2) activities that neither explicitly nor implicitly invite an order, but are entirely ancillary to requests for an order. Solicitation is purposeful when it is directed at or intended to reach persons within Michigan or the Michigan market. Active solicitation includes, but is not limited to, solicitation through: (a) the use of mail, telephone, and e-mail, (b) advertising, including print, radio, Internet, television, and other media, and (c) maintenance of an Internet site over or through which sales transactions occur with persons within Michigan.

Examples of active solicitation include sending mail order catalogs; sending credit applications; maintaining an Internet site offering on-line shopping, services, or subscriptions; and soliciting through media advertising, including Internet advertisements. In evaluating whether acts of solicitation are sufficient to establish “active solicitation,” the Department looks to the quality, nature, and magnitude of the activity on a facts and circumstances basis. Active solicitation, coupled with $350,000 in Michigan gross receipts, constitutes nexus under the MBT.

P.L. 86-272. The business income tax is levied on taxpayers with Michigan business activity unless prohibited by 15 USC §381 to §384, more commonly known as P.L. 86-272. P.L. 86-272 is a federal law that prohibits Michigan from imposing a business income tax if the only in-state business activity of the out-of-state person is the solicitation of orders for sales of tangible personal property where the orders are sent outside the state for approval or rejection and are filled by shipment or delivery from a point outside the state. A person whose activities are limited to those protected by P.L. 86-272 is not subject to the business income tax portion of the MBT. However, such a person otherwise having sufficient nexus with Michigan will be subject to the modified gross receipts tax portion of the MBT. Furthermore, P.L. 86-272 is a “safe harbor” and not an exclusion; any activity conducted by a taxpayer outside the protection of P.L. 86-272 will cause that taxpayer to lose the protection otherwise provided. Income from protected activities are not excluded or deducted from the tax base.

Intangible personal property and services. Only the solicitation to sell tangible personal property is afforded immunity under P.L. 86-272; therefore, the leasing, renting, licensing or other disposition of tangible personal property, or transactions involving intangibles, such as franchises, patents, copyrights, trademarks, service marks and the like, or any other type of property are not protected activities under P.L. 86-272. The solicitation, sale, or performance of any type of service is also not protected under P.L. 86-272 unless ancillary to solicitation or otherwise protected under this RAB.

Solicitation. For the in-state activity to be a protected activity under P.L. 86-272, it must be limited solely to solicitation (except for de minimis activities described herein). “Solicitation” means: (1) speech or conduct that explicitly or implicitly invites an order, and (2) activities that neither explicitly nor implicitly invite an order, but are entirely ancillary to requests for an order. Ancillary activities are those activities that serve no independent business function for the seller apart from their connection to the solicitation of orders. Activities that a seller would engage in apart from soliciting orders are not considered as ancillary to the solicitation of orders. The mere assignment of activities to sales personnel does not, merely by such assignment, make such activities ancillary to solicitation of orders. Additionally, activities that seek to promote sales are not ancillary, because P.L. 86-272 does not protect activity that facilitates sales; it only protects ancillary activities that facilitate the request for an order.

The conducting of activities not falling within the foregoing definition of solicitation will cause the company to lose its protection from the business income tax afforded by P.L. 86-272, unless the disqualifying activities are either de minimis or are otherwise permitted under this RAB.

Unprotected activities. The following in-state activities are not considered to be solicitation of orders or ancillary thereto or otherwise protected under P.L. 86-272 and will cause otherwise protected sales to lose their protection under the P.L. 86-272, and will cause the taxpayer to be subject to the business income component of the MBT:

• Making repairs or providing maintenance or service to the property sold or to be sold.
• Collecting current or delinquent accounts, whether directly or by third parties, through assignment or otherwise.
• Investigating credit worthiness.
• Installation or supervision of installation at or after shipment or delivery.
• Conducting training courses, seminars or lectures for personnel other than personnel involved only in solicitation.
• Providing any kind of technical assistance or service including, but not limited to, engineering assistance or design service, when one of the purposes thereof is other than the facilitation of the solicitation of orders.
• Investigating, handling, or otherwise assisting in resolving customer complaints, other than mediating direct customer complaints when the sole purpose of such mediation is to ingratiate the sales personnel with the customer.
• Approving or accepting orders.
• Repossessing property.
• Securing deposits on sales.
• Picking up or replacing damaged or returned property.
• Hiring, training, or supervising personnel, other than personnel involved only in solicitation.
• Using agency stock checks or any other instrument or process by which sales are made within Michigan by sales personnel.
• Maintaining a sample or display room in excess of two weeks (14 days) at any one location within the state during the tax year.
• Carrying samples for sale, exchange or distribution in any manner for consideration or other value.
• Owning, leasing, using or maintaining any of the following facilities or property in-state: (1) repair shop; (2) parts department; (3) any kind of office other than an in-home office as described as permitted herein; (4) warehouse; (5) meeting place for directors, officers, or employees; (6) stock of goods other than samples for sales personnel or that are used entirely ancillary to solicitation; (7) telephone answering service that is publicly attributed to the company or to employees or agent(s) of the company in their representative status; (8) mobile stores, i.e., vehicles with drivers who are sales personnel making sales from the vehicles; and (9) real property or fixtures to real property of any kind.
• Consigning stock of goods or other tangible personal property to any person, including an independent contractor, for sale.
• Maintaining, by any employee or other representative, an office or place of business of any kind (other than an in-home office located within the residence of the employee or representative that: (1) is not publicly attributed to the company or to the employee or representative of the company in an employee or representative capacity, and (2) so long as the use of such office is limited to soliciting and receiving orders from customers; for transmitting such orders outside the state for acceptance or rejection by the company; or for such other activities that are protected under P.L. 86-272 or this RAB). A telephone listing or other public listing within the state for the company or for an employee or representative of the company in such capacity or other indications through advertising or business literature that the company or its employee or representative can be contacted at a specific address within the state will normally be determined as the company maintaining within Michigan an office or place of business attributable to the company or to its employee or representative in a representative capacity. However, the normal distribution and use of business cards and stationery identifying the employee's or representative's name, address, telephone and fax numbers and affiliation with the company will not, by itself, be considered as advertising or otherwise publicly attributing an office to the company or its employee or representative. The maintenance of any office or other place of business in Michigan that does not strictly qualify as an “in-home” office as described herein, will, by itself, cause the loss of protection. For the purpose of this provision it is not relevant whether the company pays directly, indirectly, or not at all for the cost of maintaining such in-home office.
• Entering into franchising or licensing agreements; selling or otherwise disposing of franchises and licenses; or selling or otherwise transferring tangible personal property pursuant to such franchise or license by the franchisor or licensor to its franchisee or licensee within the state.
• Conducting any activity not listed in the “Protected Activities” list herein which is not entirely ancillary to requests for orders, even if such activity helps to increase sales.

Protected activities. The following in-state activities will not cause the loss of protection for otherwise protected sales:

(1) Soliciting orders for sales by any type of advertising.

(2) Soliciting orders by an in-state resident employee or representative of the company, so long as such person does not maintain or use any office or other place of business in the state other than an "in-home" office as described herein.

(3) Carrying samples and promotional materials only for display or distribution without charge or other consideration.

(4) Furnishing and setting up display racks and advising customers on the display of the company's products without charge or other consideration.

(5) Providing automobiles to sales personnel for their use in conducting protected activities.

(6) Passing orders, inquiries and complaints on to the home office.

(7) Missionary sales activities; i.e., the solicitation of indirect customers for the company's goods. For example, a manufacturer's solicitation of retailers to buy the manufacturer's goods from the manufacturer's wholesale customers would be protected if such solicitation activities are otherwise immune.

(8) Coordinating shipment or delivery without payment or other consideration and providing information relating thereto either prior or subsequent to the placement of an order.

(9) Checking of customers' inventories without a charge therefor (for re-order, but not for other purposes such as quality control).

(10) Maintaining a sample or display room for two weeks (14 days) or less at any one location within the state during the tax year.

(11) Recruiting, training or evaluating sales personnel, including occasionally using homes, hotels or similar places for meetings with sales personnel.

(12) Mediating direct customer complaints when the purpose thereof is solely for ingratiating the sales personnel with the customer and facilitating requests for orders.

(13) Shipping or delivering goods into this state by means of private vehicle, rail, water, air or other carrier, irrespective of whether a shipment or delivery fee or other charge is imposed, directly or indirectly, upon the purchaser.

(14) Owning, leasing, using or maintaining personal property for use in the employee or representative's “in-home” office or automobile that is solely limited to the conducting of protected activities. Therefore, the use of personal property such as a cellular telephone, facsimile machine, duplicating equipment, personal computer and computer software that is limited to the carrying on of protected solicitation and activity entirely ancillary to such solicitation or permitted by this RAB under the Protected Activities list will not, by itself, remove the protection under this RAB.

Independent contractors. P.L. 86-272 provides protection to certain in-state activities if conducted by an independent contractor that would not be afforded protection if performed by the business or its employees or agents. Independent contractors may engage in the following limited activities in the state without the company's loss of immunity: soliciting sales; making sales; and maintaining an office.

Sales representatives who represent a single principal are not considered to be independent contractors and are subject to the same limitations as those provided under P.L. 86-272 and this RAB. Maintenance of a stock of goods in the state by the independent contractor under consignment or any other type of arrangement with the company, except for purposes of display and solicitation, shall remove the protection.

Foreign commerce. P.L. 86-272 applies, by its terms, to “interstate commerce” and does not directly apply to foreign commerce. The Department, however, will apply the same standards set forth in the P.L. 86-272 and in this RAB to business activities in foreign commerce to ensure that foreign and interstate commerce are treated on the same basis. Such an application also avoids the necessity of expensive and difficult efforts in the identification and application of the varied jurisdictional laws and rules existing in foreign countries.

Incorporation or domicile. The protection afforded by P.L. 86-272 and the provisions of this RAB do not apply to any person incorporated or organized within Michigan or to any individual who is a resident of or domiciled in Michigan.

Duration. The protection afforded under P.L. 86-272 and the provisions of this RAB are determined on a tax year by tax year basis. Therefore, if at any time during a tax year the company conducts activities that are not protected under P.L. 86-272 or this RAB, no sales in Michigan or income earned by the company attributed to Michigan during any part of said tax year shall be protected from taxation under P.L. 86-272 or this RAB.

De minimis activities. De minimis activities are those that, when taken together, establish only a trivial connection with Michigan or the taxing state and do not establish nexus. An activity conducted within Michigan on a regular or systematic basis or pursuant to a company policy (whether such policy is in writing or not) shall normally not be considered trivial. Whether or not an activity consists of a trivial or non-trivial connection with the state is to be measured on both a qualitative and quantitative basis.

For purposes of P.L. 86-272, if an activity either qualitatively or quantitatively creates a nontrivial connection with the taxing state, then such activity exceeds the protection of P.L. 86-272. Establishing that the disqualifying activities only account for a relatively small part of the business conducted within the taxing state is not determinative of whether a de minimis level of activity exists. The relative economic importance of the disqualifying in-state activities, as compared to the protected activities, does not determine whether the conduct of the disqualifying activities within the taxing state is inconsistent with the limited protection afforded by P.L. 86-272.

For purposes of the physical presence nexus standard under Mich. Comp. Laws Ann. § 208.1200 and further described under this RAB, the Department determines that de minimis activities that establish only a trivial connection with Michigan are limited to the following activities conducted in Michigan for less than 10 days:

• Meeting with in-state suppliers of goods or services.
• In-state meeting with government representatives in their official capacity.
• Attending occasional meetings (e.g., board meetings, retreats, seminars and conferences sponsored by others, etc.).
• Holding recruiting or hiring events.
• Advertising in the state through various media.
• Renting to or from an in-state entity customer list.
• Attending and/or participating at a trade show at which no sales are solicited or made.

Whether any of these activities conducted for 10 days or more establish nexus will depend on the facts and circumstances of the in-state activity.

Nexus standards for apportionment. The same standards used to determine nexus for out-of-state taxpayers, as described herein, will be applied to determine whether a taxpayer is taxable in another state for purposes of apportionment under the MBT. For purposes of apportionment, the Department may require taxpayers to document nexus in other states, which will be subject to verification by the Department.

Time periods covered once nexus is established. Once nexus is established by a taxpayer during a tax year for MBT purpose, nexus exists for that taxpayer for the entire tax year.

Unitary business groups. A taxpayer under the MBT includes a unitary business group. A unitary business group is comprised of two or more U.S. persons. So long as one member of a unitary business group has nexus with Michigan, all members of the unitary business group must be included when calculating the taxpayer's business income and modified gross receipts tax bases and apportionment formula. Furthermore, so long as one member of a unitary business group has nexus with Michigan and exceeds the protections of P.L. 86-272, all members of the unitary business group-including members protected under P.L. 86-272-must be included when calculating the taxpayer's business income tax base and apportionment formula.

Filing of MBT return once nexus is established. Taxpayers, other than insurance companies or financial institutions taxed under chapters 2A or 2B of the MBT, must file an MBT return if the taxpayer's apportioned or allocated gross receipts equal or exceed $350,000.