United States

Indiana: Online University’s Revenue from In-state Students Not Attributed to Indiana

Dec 11, 2017
From KPMG TaxWatch

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In a case of first impression, the Indiana tax court recently rejected the Department of Revenue’s position that an out-of-state service provider’s receipts from Indiana customers should be sourced to the state. The taxpayer at issue was a Phoenix-based online university. The receipts at issue were receipts from online students with an Indiana billing address. Under Indiana law, sales, other than sales of tangible personal property, are sourced to Indiana if the income-producing activity is performed in Indiana. The receipts are also sourced to Indiana if the income-producing activity is performed both within and without Indiana and a greater proportion of the income-producing activity is performed in Indiana than in any other state, based on costs of performance. The relevant regulations provide that the “income-producing activity” means the act or acts directly engaged in by the taxpayer for the ultimate purpose of obtaining gains or profit. 

Before the court, the taxpayer argued that the Department’s proposed assessments were incorrect because it (1) engaged in four separate income-producing activities, (2) these activities were performed both inside and outside of Indiana, and (3) that a greater proportion of the income-producing activities were performed outside the state. In support of its first contention, the taxpayer’s expert witness, a cost accountant, presented an extensive and detailed cost study supporting the taxpayer’s claimed income-producing activities and their allocation across states. The Department, on the other hand, argued that the only income-producing activity the taxpayer performed was the act that lead to the production of income when an Indiana student accepted an offer to attend a class. In other words, the Department’s definition of “income-producing activities” focused only on the activities that provided a student the opportunity to attend an online class in return for the student’s payment for that class. In the tax court’s view, this definition was not consistent with the use of the term “income-producing activity” in the sourcing statute or its interpretive regulation. In addition, the court noted that “it bears stating that the Department did not put forth any probative evidence, testimony or otherwise, in support of its own claims or to rebut the University’s evidence.”

Having determined that the taxpayer was engaged in income-producing activities, the court next held that they occurred both in Indiana and other states. As such, the Department erred when it automatically applied a market-based sourcing method (assigning all the receipts to Indiana), rather than analyzing where the applicable costs of performance occurred. The final issue was whether, under Indiana’s all or nothing approach, the greater costs of performance occurred outside of Indiana. Here, the Department took issue with the taxpayer’s cost study and argued that it was flawed because it did not use a transaction-by-transaction methodology to determine direct costs. As support for its position, the Department cited to authorities in Oregon and Idaho. However, unlike in those states, Indiana’s regulation did not mandate that the term “income-producing activity” be applied to each separate item of income. The tax court, declining to read into the law language that was not there, held that the University’s cost study was probative evidence that persuasively demonstrated that the greater proportion of the taxpayer’s  income-producing activities were performed outside of Indiana. Importantly, the decision was identified as “For Publication,” meaning it is precedential. It remains to be seen if the DoR will appeal. Please contact Marc Caito at 317-951-2434 with questions on University of Phoenix v. Indiana, Dep’t of State Revenue.


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The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.