Geoff Thorpe, Senior Tax Counsel at Chevron Corporation, focuses his practice on U.S. state and local tax issues. We sat down with Geoff to discuss the challenges in U.S. sales tax compliance and how companies can mitigate related risks.
Let’s start with some background on Chevron.
Depending on how you measure it, our origin goes back to Standard Oil in the 19th Century. In the early 20th Century, the U.S. Government separated Standard Oil into different pieces, and Chevron is descended from one of those pieces, plus Gulf, Unocal and Texaco. Today, Chevron has 58,500 employees working throughout the world. We operate in all 50 states, though in many states our commercial profile is relatively small.
What is your role at Chevron?
We have a tax department of several hundred people around the world. The head of our tax department is a lawyer who reports to Chevron’s CFO – we’re separate from Chevron’s other in-house lawyers.
The reputation of big in-house tax departments at companies like Chevron is that they have even stronger tax practices than any law firm. Why do you think that is?
Chevron’s tax department handles an extremely high volume of diverse tax work. Legal issues come up every day, but most of them individually are not large or uncertain enough to warrant intervention by outside counsel.
I’m part of the group that focuses on U.S. state and local taxes. The volume of local-level work is quite high – we file sales taxes in hundreds of jurisdictions in the U.S., either on a single statewide return for a given state or on separate returns for individual cities.
What kinds of transactions give rise to sales taxes for Chevron?
In addition to the fuels we all know, Chevron sells lubricants and greases optimized for particular machines, e.g. a farmer’s tractor or a factory’s turbine. Chevron sells these products through authorized distributors. Chevron files a sales tax return in each state and city where these distributors operate. We typically don’t owe a tax if it’s sold at wholesale, but we are registered in that state and city, who have us in their system and expect a monthly or quarterly return. There are also times when we will sell directly to an end user, collect tax, and remit that tax to the government.
Under the law, all of our sales are presumed taxable unless they’re documented otherwise. So the wholesale customer has to give us a certificate on an official form saying, “I am a wholesaler registered in City A or State A, and I am buying product, X, and will not use it as an end user myself.” And an end user customer, if claiming exemption, must give us a certificate saying, for example, “I am using the product in transportation as an interstate common carrier, which is exempt from sales tax in State B.”
When we’re audited, the auditor comes and says, “Show me all your sales in my state (or city) in the last three years.” And we say, “Here.” And he or she says, “Ok, show me the resale and exemption certificates for the ones where you did not collect tax.” We have thousands of certificates filed away from every customer who is a wholesaler. The auditor scrutinizes them and double checks to confirm they’re registered and filing. If they’re not or if there’s a defect in the certificate, then we get billed with interest and penalty.
So in the distributors’ contract with you, I imagine, you give them the right to say, “I sell Chevron products,” and they promise that they are truly buying wholesale and not using the products themselves as an end user?
Correct, and then if they happen to end use something because they have their own machines, then they have to remit their own tax on that directly to the state as if they were a retail buyer. That’s called a use tax (the tax amount may differ because it’s a percentage of the wholesale cost and not a percentage of the marked up price at which they would have sold it to their end user customer).
There are also states that impose a tax at every level of distribution. Those are gross receipts taxes, and they’re a minority, but they can be burdensome.
What from your perspective are the toughest sales tax issues you see – either the most difficult to comply with or the ones you see tripping up vendors all the time?
One challenging area is the cloud: how do you apply sales and use taxes, which are really early- and mid-20th century taxes, to the cloud when billions of dollars are moving through the cloud? E-commerce is the simple example: you can buy a razor or book by mail. And as more commerce moves into the cloud, states are going to be pressured to find ways to collect these taxes because cloud commerce is steadily eroding the traditional sales tax base (and, of course, challenging the local merchants who historically have paid sales taxes). But cloud services and software are more abstract and difficult.
The statutes are slow to be amended, and most sales taxes apply to so-called tangible personal property. Within our lifetimes, you bought software by going to a store and buying a box full of CDs – which is easy from a tax perspective because you just tax it as a physical delivery. But then what do you do when Microsoft Office isn’t a CD anymore? You pay money online through your credit card, and they give you a key code to unlock it, and you can either download the software onto your hard drive or, nowadays, just keep everything up in the cloud and access it through mobile devices.
Many states define “canned software,” like Office, as tangible personal property for sales tax purposes – so it is taxable under the sales tax. This brings its own set of questions. Who is taxed if you’re accessing the software remotely from the cloud in a state that taxes electronically delivered software? Or let’s say I work for a company in California, but when my flight stops at LaGuardia Airport for a layover I go onto my phone and open Microsoft or Google Cloud to do some work for my employer. Does my employer now owe a New York use tax? Questions like these arise and by the time they’re settled, technology has evolved and the question may become academic.
The real concern, of course, is that two states decide to tax the same transaction or use in full and when the consumer tries to resolve it, each state will point at the other and say, “Well they’re wrong; get a refund from them.”
Practically speaking, how do you recommend a smaller company handle issues like this?
I’d start by noting that compliance can be more difficult – and more contentious – than anyone expects. For example, your company might be based in State A, but it’s State B that comes knocking on your door. And then you say, “Wait a minute, we’ve never even been to State B,” and they say, “Well, under our statute, you regularly solicit through our commercial media, the market of our state, so you owe us taxes on the sales made to the residents of our state.” You might say, “Well I paid 100% of my taxes to State A, my home state, so I’m ok.” And they say, “No you’re not, that was wrong. Get a refund from State A. That’s not our problem. Here’s your bill.”
The penalty for noncompliance with sales tax rules is steep: for example, businesses that didn’t register and file can be assessed tax at up to 10% on their gross sales, plus interest, going back many years.
Smart companies need to seek professional tax advice. A tax specialist can look at a business and say, “Here’s my risk diagnosis,” and then explain those risks in a way that makes it possible for the company to prioritize them based on dollar impact and probability.
