A private university’s online course revenue from Indiana residents was not included in the Indiana sales apportionment factor. The Indiana Tax Court ruled that the online course revenue was not sourced to Indiana.
The taxpayer, based in Arizona, provided educational services over the Internet. When calculating its Indiana income tax, the taxpayer sourced receipts from its Indiana ground campus students to Indiana. However, it did not source its receipts from its Indiana online students to Indiana. The Department of Revenue, finding that revenue from online students should be included in the taxpayer’s sales factor, assessed tax.
In finding that the online course revenue was not source to Indiana, the tax court addressed:
- the taxpayer’s income-producing activities;
- the proper method for sourcing revenue; and
- the location where most of the activities were performed.
Income-Producing Activities for Online Course
Indiana apportions business income from services based on where the taxpayer engages in income-producing activities. Here, the taxpayer produced a cost study that found four activities directly benefited students and treat these activities as its income-producing activities. These activities included:
- online eCampus platform;
- online faculty instruction;
- curriculum development; and
- graduation assistance.
The department claimed that the taxpayer had only one income-producing activity, providing the opportunity to attend a class online. Further, it argued that the activity was performed in Indiana.
Indiana sources revenue for the sales factor based on the seller’s acts. Income-producing activities are the acts a seller engages in to generate revenue. Accordingly, income-producing activities are not limited to what the taxpayer’s students paid for, i..e, an online class. The department did not show that the online classes were the taxpayer’s only income-producing activity. Thus, the Tax Court accepted the taxpayer’s determination of its “income-producing activities”.
Sourcing Revenue Based on Cost Method
In essence, the taxpayer argued that its income-producing activities:
- were performed both inside and outside Indiana; and
- should be sourced using the cost-based method.
The taxpayer’s cost study addressed both the taxpayer’s costs of performing its income-producing activities and where those costs were incurred. The study concluded that they occurred in many states, including Indiana.
Again, the department provided no evidence in rebuttal. It did not show it was entitled to use market-based sourcing as an alternative method for apportionment. As a result, the Tax Court concluded the income-producing activities were performed both in Indiana and in other states. Therefore, the taxpayer’s online educational services revenue must be sourced based on the cost-based method.
Location of Most Income-Producing Activities
Finally, the taxpayer asserted that none of its online educational services income should be sourced to Indiana. The taxpayer argued that most of its income-producing activities were performed outside of Indiana.
In Indiana, if the greater part of the costs are from activities performed in Indiana, all the income is attributed to Indiana. Further, if the greater part of the costs are incurred outside the state, none of the income is attributed to Indiana.
The department claimed the operation approach used in the study to identify the amount and location of costs was unreliable. It argued the cost study should have used a transaction-by-transaction approach.
However, Indiana regulations did not require the taxpayer to use a transaction-by-transaction approach in its cost study. Accordingly, the taxpayer showed that it performed most of its income-producing activities outside Indiana.
The University of Phoenix, Inc. v. Indiana Department of State Revenue, Indiana Tax Court, No. 49T10-1411-TA-00065, November 30, 2017, ¶402-790
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