TX Supreme Court rules on market-based sourcing for receipts

Background

The issue in the case is the method by which monthly subscription fees for Sirius’ programming are sourced for apportionment purposes. Under Texas Tax Code Section 171.103(a), receipts from services are sourced to Texas if a service is performed in the state. Sirius argued that the service it performs for its subscribers is the production of radio shows and the transmission of a radio signal. The comptroller argued that the service is the “receipt-producing, end-product act” and, therefore, that the service performed is the provision of access to its encrypted radio signal.

Sirius produces its content in studios primarily located in New York City and Washington, D.C.; however, one radio show was produced from within Texas. The content is broadcast by satellites at uplink facilities in Georgia, New Jersey, and Washington, D.C. Once the signal reaches a customer’s radio, a “chip set” within the radio decrypts the radio signal. For the 2009 and 2010 franchise tax report years, Sirius, using its methodology for sourcing services, apportioned 0.47% and 0.26% of its total receipts to Texas, but the comptroller asserted apportionment should have been 8.3% and 8.36% of total receipts, respectively, based on its methodology for sourcing services.

In its finding for the taxpayer, the court rejected the comptroller’s use of the “receipt-producing” or “end-product act” concepts for sourcing services, noting that these terms were absent from the Texas statute. Instead, the court analyzed the issue by referencing Texas state legal precedent, which looks to where the service is performed rather than where it is received to determine sourcing. The court also rejected the comptroller’s view that Sirius’ customers pay for decryption of the satellite broadcasts. The court found that customers pay for the Sirius content and that the encryption (and corresponding decryption) is a benefit to Sirius, not the customer, because it serves as a barrier to access.

Implementation

On Jan. 15, 2021, while this case was pending before the Texas Supreme Court, the comptroller released a change to its receipt-sourcing regulation to require the sourcing of services to be based on the receipt-producing, end-product act (Texas Administrative Code 3.591(e)(26)(A)). The decision in Sirius renders this regulation invalid. It is widely expected that the comptroller will issue revised regulations consistent with the Texas Supreme Court ruling. Until the Texas comptroller provides guidance on implementation of Sirius and updates the receipt-sourcing regulation issued in January 2021, the precise methodology for sourcing of services for purposes of Texas franchise tax apportionment will remain unclear. Companies that provide services remotely to customers in Texas or provide services remotely from a location in Texas should consult with their tax advisers to evaluate how to source revenue from services in light of this decision.