Washington Sources Service Revenue to Location Where Customer Received Benefit

January 31, 2022

A photo of port Tacoma and a snow topped Mount Rainier

By: Aspen Fairchild, SALT Senior Associate

At a glance

  • The main takeaway: Determining how to source service revenue for state tax apportionment purposes can be a difficult and complex analysis as regulatory standards are vague and are open to interpretation in each state.
  • Assess the impact: Based on a ruling in Washington, product design is an apportionable service and any revenue generated should be attributed to the state where the taxpayer’s customer manufactured the product and not where that product was ultimately delivered upon sale.
  • Take the next step: Aprio’s State and Local Tax (SALT) team can provide guidance on analyzing and interpreting state apportionment rules to determine where to source your service revenues.

The full story:

On December 14, 2021, the Washington Court of Appeals issued an opinion on the million-dollar question facing taxpayers that provide services: Where do you source your service revenue for state tax purposes?[1]

 The two main rules focus on where the service is performed (i.e., cost of performance) and where the service is received (i.e., market-based). Among the states that apply market-based principles, the specific statutory language varies, and the regulatory standards are often open to multiple interpretations. Therefore, taxpayers are left to decipher the meaning of these rules without much comfort as to whether the state will agree with that approach.

Regarding this specific ruling, the taxpayer is an industrial design firm headquartered in the State of Washington. The taxpayer specializes in designing the interior of passenger airplanes such as those manufactured by Boeing, one of its major customers. The taxpayer was a contractor for Boeing during the tax years 2011 through 2014 and designed the interiors of planes that Boeing manufactured in Washington. Once the manufactured planes were sold to a particular airline, the taxpayer customized the designs accordingly so that Boeing could incorporate them before final delivery. The taxpayer invoiced Boeing for its designs and services and was not involved in the manufacturing process.

For Washington Business and Occupation Tax (B&O Tax) purposes,[2] the taxpayer sourced its design revenue to Washington, where Boeing’s manufacturing plant is located. Subsequently, the taxpayer filed a refund claim on the basis that its revenue should have been apportioned to the location where the airline customers used or received the aircraft interiors (i.e., where the aircraft was delivered to Boeing’s customers), not Boeing’s manufacturing plant in Washington. That refund claim was denied, and this case ensued.

The ruling, explained

 Under the B&O Tax, aerospace product development is an apportionable service activity in Washington, and the service revenue is attributable to the state where the customer received the benefit of the taxpayer’s services.[3] The “customer” is the “person or entity to whom the taxpayer makes a sale or renders services or from whom the taxpayer otherwise receives gross income of the business.”[4] When the taxpayer services rendered relates to tangible personal property, the benefit is received where the property is located or expected to be located, generally where its principal use occurs or is expected to occur upon future delivery.[5]

The taxpayer argued that because the final customized airplane is delivered to airline customers in other states, its service income should be apportioned accordingly. However, the court determined that the “benefit” of the taxpayer’s services was received in Washington because Boeing is the “customer,” not the individual airlines, and therefore, the airline interior designs were expected to be used by Boeing during the manufacturing process in Washington. Therefore, the taxpayer’s customer received the benefit of the taxpayer’s services in Washington.

The bottom line

Despite the specific result in this case, these rules are often ambiguous and open to multiple interpretations. It is notable that the decision in this case was not unanimous, with a dissenting judge finding that the taxpayer’s sourcing argument was reasonable.

Aprio’s SALT team has experience analyzing the rules in each state and the interpretive guidance and can assist your business to determine the source of its service revenues for state tax apportionment purposes. In some cases, it might make sense to obtain private letter rulings from each state and Aprio can draft and submit those on your behalf. 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.

Contact Aspen Fairchild, SALT Senior Associate, State & Local Tax Services at  aspen.fairchild@aprio.com or Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at jeff.glickman@aprio.com for more information.

This article was featured in the January 2022 SALT Newsletter.

[1] Walter Dorwin Teague Associates, Inc. v. State of Washington Dep’t. of Revenue, No. 54959-0-II, Wash. Ct. of App. 2d Div., December 14, 2021.

[2] Washington’s Business and Occupation Tax is a gross receipts tax.

[3] RCW 82.04.462(3)(b)(i)

[4] RCW 82.04.462(3)(b)(viii)

[5] WAC 458-20-19402(303)(b)


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 the matter.

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About the Author

Jeff Glickman

Jeff Glickman is the partner-in-charge of Aprio, LLP’s State and Local Tax (SALT) practice. He has over 18 years of SALT consulting experience, advising domestic and international companies in all industries on minimizing their multistate liabilities and risks. He puts cash back into his clients’ businesses by identifying their eligibility for and assisting them in claiming various tax credits, including jobs/investment, retraining, and film/entertainment tax credits. Jeff also maintains a multistate administrative tax dispute and negotiations practice, including obtaining private letter rulings, preparing and negotiating voluntary disclosure agreements, pursuing refund claims, and assisting clients during audits.