Ohio Upholds Assessment Due to Insufficient Documentation to Support Out-of-State Sourcing

At a glance

• The main takeaway: The Ohio Board of Tax Appeals upheld a decision where a taxpayer failed to provide sufficient business records to support the amount of in-state versus out-of-state sales reported on its tax return.

• Assess the impact: This decision further highlights the importance for businesses to maintain adequate records that support the sourcing methodology on their tax return or be subject to additional tax during an audit. 

• Take the next step: Aprio’s State and Local Tax (SALT) team can assist your business in determining how to accurately source and document sales so you can achieve the best possible outcome during an audit. 

Schedule a free consultation today to learn more!

The full story:

One of the more complex issues to address in the state and local tax area, is how to determine the correct jurisdiction for sourcing a sale, particularly sales of services. This issue arises in sales tax (i.e., In which state do I charge sales?), income tax apportionment (i.e., Does the sale belong in the numerator of the sales factor?) and in states that impose gross receipts taxes (i.e., Is the revenue taxable in that state?). Given the complexity of those sourcing determinations, it is crucial that taxpayers maintain sufficient documentation to support those positions on tax returns; otherwise, the state may make its own determination. This situation was the subject of a recent Ohio Board of Tax Appeals decision.¹

A closer look at the case

In lieu of a corporate income tax, Ohio imposes a gross receipts tax, referred to as the Commercial Activity Tax (CAT) on the taxable gross receipts sitused to Ohio. The taxpayer, an Ohio architectural firm that provides services ranging from architectural design to interior planning, was audited by Ohio. The state assessed additional tax, claiming that the taxpayer “underreported taxable gross receipts from sales situsable to Ohio.”

In support of its position, the taxpayer provided summary spreadsheets claiming to identify the gross receipts attributable to its out-of-state sales. The state requested documentation to corroborate the information provided on those spreadsheets, specifically invoices, work orders, or other business records. The taxpayer provided its federal tax return, however, did not provide any of the specific documents requested by the state.

So, how does a taxpayer determine whether revenue is “sitused to Ohio?”  

Well, that depends on how the revenue was derived, as there are different rules applicable to sales of tangible personal property, services, etc. For services, as is the case here, the general rule is that gross receipts are sourced based on the proportion of the purchaser’s benefit received from that service in Ohio.²  

The state’s regulations provide additional guidance for applying that general rule with respect to a variety of different services, including architecture services. For those services, sourcing is based on the location of where the property is being designed.³ If those services are performed for properties located both inside and outside Ohio, “the gross receipts are sitused using any reasonable, consistent, and uniform method of apportionment that is supported by the service provider’s business records as they existed at the time the service was provided.”⁴ 

The ruling explained

The key issue in this appeal concerned the italicized portion of the sentence above.⁵ Ultimately, the state found the summary spreadsheets ambiguous and required further clarity, and the taxpayer did not meet its burden to provide support. The Board questioned how the documents were prepared, were they amended or audited, were they part of the standard business records or created solely for the audit. None of the documentation provided clarity on what architectural services were provided and for whom as well as what was being designed and where it was located. As a result, the additional assessment was upheld against the taxpayer.

The bottom line

This appeal highlights the importance for a business to maintain adequate and contemporaneous business records to support its sourcing methodology on the tax return. Lack of sufficient support is a common reason why taxpayers are assessed additional tax during an audit.  

Aprio’s SALT team works with businesses to assist them in determining how to source sales in different states as well as how to properly document those transactions so that the sourcing positions will be sustained on audit. We also provide support and guidance to businesses that are under audit to be sure they achieve the best possible outcome based on the information available. We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.  

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¹ Ford & Associates Architects, Inc. vs. Tax Comm’r of Ohio, Case No. 2020-2429, February 27, 2023

² Ohio Rev. Code § 5751.033(I).

³ Ohio Admin. Code § 5703-29-17(C)(6).

⁴ Ohio Admin. Code § 5703-29-17(C)(6)(b) (emphasis added). The default method looks to the number of properties, but in some cases, square footage may be appropriate.

⁵ This language is also found in the statute and in the regulation reciting the general rule for sourcing services. See Ohio Rev. Code § 5751.033(I) and Ohio Admin. Code § 5703-29-17(A).