A Florida district court issued a recent ruling allowing a taxpayer to use a service cost method to derive its service revenue. This decision challenges Treasury Department policy, which favors market-based procurement of service revenues. With this issue remaining open in Florida, taxpayers with income from sales other than tangible personal property should investigate opportunities to reduce their Florida allocation.
On November 28, 2022, the second circuit court of the Circuit Court of Florida rendered its final judgment Target Enterprise, Inc. vs. Fla. Dept. of Rev.,1 Conclude that Target Enterprise, Inc. (“TEI”) correctly applies Florida’s benefit cost ordinance to its service revenue and correctly derives such revenue outside of Florida.
The Florida Department of Revenue (the “Department”) has issued an income tax assessment for the 2016 through 2018 tax years to TEI, a Minnesota subsidiary of Target Corporation (“Target”). This evaluation resulted from the Department’s procurement of certain receipts that TEI received from Target for providing merchandising, marketing and management services to Florida. TEI owned no property in Florida and had less than 1% of its payroll in Florida.
Under Florida’s Sales Factor regulation, the rule for sourcing “Other Sales” is often used for sourcing receipts from services.2 Under this rule, a receipt is obtained in Florida if (1) the income-generating activity is performed entirely in Florida, or (2) the income-generating activity is performed inside and outside of Florida but a major portion is performed in Florida, based on benefit costs.3 In many cases, the Department has taken the position that this rule introduces some variation in market-based procurement.4
The ministry tried to take a similar approach target company. During the trial, the Department argued that TEI failed to provide sufficient documentation to demonstrate the application of service cost sharing under the regulations. Therefore, according to the Ministry, the Ministry should be entitled to use its reasonable authority to develop a new methodology for the sales factor of TEI. The Department argued that TEI should be required to allocate its service receipts to Florida based on Target’s retail store area (i.e., using a fraction of the retail area of stores in Florida versus the retail area of stores nationwide).
The court ruled in favor of TEI, dismissing the ministry’s arguments. The court concluded that TEI provided sufficient documentation to support its performance cost analysis. According to the court, the “best evidence of the cost of providing these services would be TEI’s payroll working paperwork” – and that evidence was presented to the Ministry during the audit. Because the majority of TEI’s labor costs were incurred outside of Florida, the court concluded that none of the income from the sale of TEI’s services should be considered sales in Florida.
The court also criticized the department’s alternative apportionment method based on the square footage of Target retail stores. The court found that “[e]even if it were reasonable for DOR to rely on it [its equitable authority]this court finds that DOR’s proposed splitting method has no relevant connection with TEI’s operations in the State of Florida.” The court added that “DOR’s proposed formula would involve Target’s operations in Florida TEIbusiness activity. TEI is a separate legal entity separate and separate from Target.”
This court’s application of sales factor sourcing rules for services in this case – focusing on the location of TEI’s own operations and costs, rather than focusing on the location of its customers’ operations – could have implications for many other taxpayers .
The ministry can appeal against the final judgment of the court target company. However, as this case demonstrates, this continues to be an issue in flux in Florida. Taxpayers should review their procurement methodology to see if there are opportunities to reduce their apportionment and resulting taxes.
- Target Enterprise, Inc. v. Florida State Treasury DepartmentCase No. 2021-CA-002158, Leon County, Florida, Circuit Court of the Second Judicial Circuit (decision of November 28, 2022).
- SeeB. Florida Technical Assistance Advice No. 20C1-003 (March 3, 2020) (Application of Other Sales Rule to Obtain Receipts from Services); Florida Technical Assistance Advice No. 13C1-011 (21 Nov 2013) (Note: “[t]The only rule that applies to sales of services is “the “other sales” rule).
- Fla. Admin. Code Rule 12C-1.0155(2)(l).
- See, e.g. B. Florida Technical Assistance Advice No. 20C1-003 (March 3, 2020) (positioning that the “income-generating activity occurs in Florida if the taxpayer’s customer is a Florida resident”); Florida Technical Assistance Advice No. 13C1-011 (November 21, 2013) (“In Florida, raising gross receipts depends on customer location.”); Florida Technical Assistance Advice No. 20C1-001 (January 13, 2020) (stating that “[w]Analyzing each part of the receipts must determine the final destination of the product or service sold.”).
Customer Alert 2022-394