The State Board of Equalization has long taken the position that a gift of an item (with few exceptions) is a use and the donor would owe use tax measured by the purchase on the cost of the item given away. Moreover, then Annotations state this use tax is due even if the item is shipped out of California.

It is this interpretation which led Yamaha Corporation to sue the State Board of Equalization for over $700,000 in taxes assessed and paid in an audit involving the promotional gifts of musical instruments that were shipped out of state.

This case, recently heard by the Supreme Court of California, has important ramifications for all future sales and use tax disputes.

The decision by the Supreme Court didn’t answer the question of whether an out of state shipment constitutes a taxable gift but rather focused on what legal effects courts must give to the Board’s Annotations.

An Annotation is an opinion by the Board of Equalization’s legal staff on certain transactions. They consist of a brief summary of facts followed by an opinion and are often used by the audit staff and the appeals staff to support their position. In fact in one case, I wrote a letter asking if a certain publication qualified as an exempt newspaper. The opinion which stated it was not a newspaper (and therefore subject to tax) become an Annotation and was later used by the appeal staff in deciding that same case. This circular reasoning highlights the issue in the Yamaha case (it’s taxable because the State Board of Equalization says it’s taxable).

Background

The California Court of Appeals (CT of App52CalApp4th1268(1997) reversed a lower courts decision that promotional gifts of inventory items made to out of state donees were not subject to use tax. In doing so the court of appeals cited Annotation 280.1140. This Annotation holds the view that items purchased in California under a resale card which are subsequently given away are taxable notwithstanding the fact that they may be shipped out of state. Similarly, Annotation 280.0040 states items purchased out of state that are given away in this state are taxable. If the item first comes into California and is subsequently shipped out of state it is still taxable since the use occurs when the merchandise is delivered to a common carrier.

The Supreme Court did not address the correct interpretation of the law, the Regulations, or the Annotations governing this issue but did express an opinion as to whether or not the Annotations are entitled to the same weight or deference as the statue, the Regulations, and case law. On this point, they concluded that the court of Appeals gave greater weight to the Board’s Annotation than it warranted. An excerpt from the discussion of the case follows:

Courts must, in short, independently judge the text of the statute, taking into account and respecting the agency’s interpretation of its meaning, of course, whether embodied in a formal rule or less formal representation. Where the meaning and legal effect of a statute is the issue, an agency’s interpretation is one among several tools available to the court. Depending on the context, it may be helpful, enlightening, even convincing. It may sometimes be of little worth.

In summary, the State Board of Equalization’s, “Because I said so,” reasoning will no longer work when challenged in the courts.

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