Creating a not so Happy New Year for out-of-state taxpayers, the Court of Appeals for Division II found that Space Age Fuels, Inc. (Space Age) had nexus for Washington B&O tax based on the delivery of fuels to Washington customers in company owned trucks. Space Age Fuels, Inc. v. Washington, Docket No. 44195-1, Court of Appeals Division II (12/31/2013).

Space Age, a corporation maintaining its principal place of business in Oregon, operates a wholesale and retail fuel business. While all of its fuel stations are located in Oregon, Space Age had about 40 wholesale customers in Washington. The Washington customers would place an order via telephone, fax or email. Space Age quoted a price for fuel and a separate price for delivery of the fuel, which varied according to distance.

No Space Age employees ever visited Washington to solicit sales or assess a customer’s needs and no employees were located in Washington. Further, Space Age did not own or lease any real or personal property in Washington. The only presence of Space Age in Washington was the delivery of fuel by Space Age employees in Space Age trucks.

During a three and a half-year period from a January 1, 2004 through June 30, 2007, Space Age grossed over $48 million in sales from 1675 recorded sales to wholesale customers. During the last two years of the audit period, Space Age’s vehicles drove over 140,000 miles on Washington roadways.

Washington assessed B&O tax against Space Age on the sales of fuel delivered to Washington customers. Space Age maintained that it did not have substantial nexus in Washington as required by the commerce clause. The superior court dismissed Space Age’s claim for refund on a summary judgment motion. The Washington Supreme Court transferred the appeal by Space Age to the Court of Appeals.

In finding that substantial nexus existed due to the delivery activity, the court noted that under Tyler Pipe and Lamtec substantial nexus exists “when a company’s activities in Washington are both substantial and significantly associated with its ability to establish and maintain a market in Washington for its sales.” The court found that the regular deliveries into Washington established physical presence, that the deliveries were substantial and that the delivery activities were significantly associated with the ability of Space Age to establish and maintain a market in Washington for its sales.

Space Age asserted that delivery alone could not establish substantial nexus, citing to an example in WAC 458-20-193 (Rule 193), arguing that the delivery activities were not designed to generate sales and arguing that the underlying reasoning for the bright line test in Quill did not support the creation of substantial nexus through delivery activities alone. The court rejected each of these arguments.

Rule 193(11)(a) provides an example of a California business that sells parts to a Washington company and delivers those parts in its own vehicles. The example states that the sale is subject to retail sales and B&O tax “if the seller has nexus, or use tax if nexus is not present.” While not specifically addressing whether delivery in its vehicles creates nexus, the example implies that nexus is not created merely by delivery of the parts in the California company’s vehicles.

Citing to Ass’n of Wash. Bus. v. Dep’t of Revenue, 155 Wn.2d 430, 447, 120 P.3d 46 (2005), the court noted that interpretive rules, such as Rule 193, are not binding on Washington courts. Also, the court ruled that no deference would be given to the Department of Revenue’s regulations interpreting the dormant commerce as the Department of Revenue does not administer or enforce the commerce clause of the U.S. Constitution. Finally, the court noted somewhat disingenuously that the example in the regulation did not specifically indicate that delivery did not create nexus.

The court also dismissed the argument that the delivery activities were not significantly associated with the company’s ability to establish and maintain a market for its products in Washington. Space Age argued that the delivery activity was not “designed to generate sales,” therefore delivery differed from the nexus creating activities in other cases such as Tyler Pipe, Standard Pressed Steel, and Lamtec. The court found that Space Age ignored the extent to which its delivery activity made possible the realization and continuance of sales to its customers.

There was however a troubling side note in the court’s discussion on this argument. The court stated, “But Space Age fails to account for Lamtec’s statement that a company’s physical presence can establish a substantial nexus.” This statement could be interpreted to infer that any physical presence can establish nexus, whether or not that physical presence is associated with establishing or maintaining a marketplace within the state of Washington. Such a holding would seem to be directly contrary to the holdings of Lamtec. While Lamtec found that activities within Washington could establish a physical presence that did not need a brick and mortar address in Washington, Lamtec also clearly indicated in the same paragraph that these activities must be both substantial and associated with the company’s ability to establish and maintain the company’s market within Washington.

The court also refused to accept Space Age’s argument that deliveries did not create nexus under the reasoning of Quill. Space Age argued that if it had used a common carrier to make its deliveries then the bright line nexus rule of Quill would have applied. Accordingly, Space Age argued that given commerce clause concerns about the effects of state regulation on the national economy, it would be inappropriate for the taxation of Space Age to turn on the method by which the fuel was delivered. The court rejected this argument noting that the Supreme Court fully considered the commerce clause’s structural concerns in its decision to maintain the bright line physical presence rule.

Finally, the court briefly examined the recent Board of Tax Appeals decision in Sage V Foods LLC v. Dep’t of Revenue. The court noted that Sage used a common carrier to deliver its food product to Washington customers in rail cars that Sage had leased. Here, Space Age did not engage a common carrier to make its deliveries, accordingly Sage provided no precedent for Space Age’s position. While falling short of endorsing the BTA decision in Sage, at least the court did not criticize this decision.

If there is any beneficial aspect of this opinion to out-of-state taxpayers, it would be that the court applied the commerce clause nexus standard of physical presence to the B&O tax. When Washington adopted the economic presence nexus test for “apportionable activities” in 2010, Washington specifically adopted the physical presence nexus standard for B&O tax on all other activities. The application by the court of the physical presence standard for these earlier years arguably affirms the proper application of the physical presence standard for B&O tax purposes for periods before June 1, 2010.

While Space Age Fuels establishes that substantial nexus may be created solely by reason of delivery into Washington using company owned vehicles, note that the use of common or private carriers to deliver product into Washington is not by itself enough to avoid a finding of physical presence nexus in Washington. Washington continues its aggressive posture in application of the physical presence nexus standard. Any activities in Washington related to establishing or maintaining a marketplace, including exhibiting at trade shows have been found by Washington to create substantial nexus.

In accordance with Circular 230 Disclosure