Alabama Tax Tribunal Concludes that Shipping Charges are not Taxable when Separately Stated and Reimbursed by the Purchaser
A recent Alabama case involving a company selling advertising merchandise illustrates the different approaches to the taxability of transportation charges.
By Jess Johannesen, SALT manager
As with most issues in sales/use tax, states have different rules and requirements regarding the inclusion of transportation (i.e., shipping) charges in the tax base in connection with the sale of tangible personal property. In Alabama, a recent Tax Tribunal case addressed the sales and use taxation of transportation charges. 
In the case, the taxpayer was a marketing company headquartered in Tuscaloosa that sold advertising merchandise. The taxpayer did not maintain inventory so it outsourced most customer orders to certain suppliers based on the type of merchandise. Most deliveries were shipped from the suppliers via common carrier directly to the taxpayer’s customers. The supplier paid the transportation charge to the common carrier and invoiced the taxpayer for reimbursement of such charges. The taxpayer then separately invoiced the customer for reimbursement (without markup) of the transportation charges. The taxpayer did not include the transportation charges in its taxable gross proceeds for sales tax purposes, and the Alabama Department of Revenue (“the Department”) assessed state and local sales tax on those charges.
The taxpayer relied on a 1986 amendment to the sales tax statutes which added the following language to the definition of the term “sale”: “where billed as a separate item to and paid by the purchaser, the freight, postage, or other transportation charge paid to a common carrier or the U.S. postal service is not a part of the selling price.”  The taxpayer also pointed to a regulation dealing with transportation charges which was amended in 1987 as a result of the statutory amendment. The regulation provided that transportation charges paid to a common carrier or the U.S. Postal Service are not subject to sales or use tax if billed as a separate item and paid directly or indirectly by the purchaser.  The regulation stated that “indirect payment of the transportation charges shall include those instances where the seller prepays the freight to the common carrier or U.S. Postal Service and is reimbursed by the purchaser.”
The Department relied upon a different regulation also dealing with transportation charges which went into effect in 1982, four years before the statutory definition change.  This regulation stated that, “in no event may a seller deduct . . . costs of delivering property from factory to his customer when such factory to customer transportation is paid by the seller either to a transportation company, [or] the manufacturer.” The Department also argued that the regulation cited by the taxpayer was inapplicable since it excludes transportation charges reimbursed by the purchaser only when “the seller prepays the freight to the common carrier,” and in this case, the supplier prepaid the freight to the common carrier (the seller/taxpayer reimbursed the supplier).
The judge in the Tax Tribunal sided with the taxpayer, first noting that the amended statute and the regulation cited by the taxpayer clearly intended to exclude transportation charges that were (i) billed separately and (ii) paid by the purchaser (i.e., the purchaser ultimately bore the financial burden). In addressing the Department’s argument that the regulation cited by the taxpayer was inapplicable, the judge noted that the last sentence regarding indirect payments uses the term “shall include,” that said phrase does not mean “only includes” and that it was clearly intended that an indirect payment can include other instances where the purchaser bears the financial burden of the shipping charges. The judge agreed with the Department’s statement that the 1982 regulation specified that the freight charges may not be deducted when paid by the seller, but the judge held that the 1982 regulation was not applicable in this case because the freight charges were ultimately paid by the purchaser. 
The SALT group at Aprio is experienced with the sales and use tax treatment of charges that are included in and excludable from the sales tax base. We constantly strive to keep our clients advised of important issues and developments in state and local taxes in order to help them address their specific tax situations. We will continue to monitor these and other significant SALT developments and include any them in future issues of the Aprio SALT Newsletter.
This article was featured in the February 2016 SALT Newsletter. To view the newsletter, click here.
 Mike Kilgo & Associates, Inc. v. State of Alabama Department of Revenue, S. 14-1060, 01/13/2016.
 Ala. Code §40-23-1(a)(5)
 Ala. Admin. Code §810-6-1-.178(2)
 Ala. Admin. Code §810-6-1-.179
 While this case addresses Alabama’s particular rules regarding the taxability of transportation or freight charges, it is worth noting that this case also highlights an interesting issue regarding a potential inconsistency in the Department’s regulations. The amendment to the statutory definition led the Department and the taxpayer to reach different conclusions by relying upon different regulations dealing with transportation charges. As state tax laws continue to evolve and change and new or amended regulations are promulgated, it is sometimes the case that existing regulations that are inconsistent with those new rules are not amended or repealed, resulting in unclear guidance.
Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding this matter.