Was a separately stated $10 pager-activation fee taxable when buyers could choose another carrier or decline store-arranged activation?

Plain-English summary

A discount retailer's separately stated $10 pager-activation fee was nontaxable. Buyers paid the same price for the pager whether they accepted store-arranged activation or chose another carrier, and activation consisted of entering customer and pager information into the carrier's computer rather than modifying or assembling the pager.

The decision treated the arrangement as an optional service rather than a required part of the tangible-property sale. It recommended removing the activation fees from the audit sample used to measure claimed exempt sales.

Citations and references

• California Revenue and Taxation Code sections 6012(b)(1) and 6051 (as cited)
• PUC tariff allegedly treating activation fees separately from equipment sales — petitioner's contention summarized; tariff identity, text, and copy not supplied in the official PDF
• Petition for redetermination and March 2, 1994 Appeals conference concerning an April 3, 1988–April 6, 1991 audit, November 1990 test, $618,257 disallowed measure, $612,235 approximate agreed measure, and $6,022 disputed activation-fee measure — petition, audit workpapers, conference notice, appearances, and transcript not reproduced in the official PDF
• Feb. 14, 1992 attorney letter identified as attached Exhibit A and sample receipt submitted at the Appeals conference — described; neither item reproduced in the published PDF despite the closing “W/Exhibit A” notation
• The source says a customer who “does enter” an agreement is not charged, while its immediately preceding sentence and Official Annotation 295.0421 say customers who do not enter an agreement are not charged — unresolved printed wording conflict; the preserved source remains verbatim
• June 8, 1994 recommendation to remove activation fees from the Audit Item A test sample — recommendation only; no redetermination, Board action, revised audit, refund, appeal, or later outcome supplied in the official PDF
• Official Annotation 295.0421's pager sale, service agreement, monthly airtime, $10 activation, fax approval, thirty-minute activation, optional charge, remittance, volume discount, separate statement, no pager modification, section 6012(b)(1), and June 8, 1994 date — annotation omits the petition, audit figures, tariff contention, attorney letter, exhibit, receipt, conference, mixed-contract test, recommendation status, missing records, and final outcome and supplies no additional audit record

Source

• Annotated Legal Opinions collection: https://cdtfa.ca.gov/taxes-and-fees/annotations-menu.htm
• Annotation page: https://cdtfa.ca.gov/lawguides/vol2/suta/295-0000-all.html
• Original supporting opinion: https://cdtfa.ca.gov/lawguides/annotations/295-0421.pdf

Original ruling text

295.0421
STATE OF CALIFORNIA
BOARD OF EQUALIZATION
BUSINESS TAXES APPEALS REVIEW SECTION

In the Matter of the Petition
for Redetermination Under the
Sales and Use Tax Law of:

Petitioner

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6/8/94

DECISION AND RECOMMENDATION
No. ----

The Appeals conference in the above-referenced matter was held by Elizabeth Abreu, Staff Counsel on March 2, 1994 in --- California.

Appearing for Petitioner:

Appearing for the Sales and Use Tax Department:

Protested Item
The protested tax liability for the period April 3, 1988 through April 6, 1991 is measured by: Item

State, Local and County

A. Claimed exempt sales not allowed based
on a test of November 1990 untaxed sales
Less: Approximate measure with which
petitioner agrees
Disputed measure related to paper activation
fees

$618,257
612,235

$6,022

Petitioner's Contention
Petitioner's activation fees for paging units are charges for nontaxable services.

Summary
Petitioner operates nine discount membership department stores in “X” California. The stores sell a variety of merchandise, including “Y” pagers which petitioner purchases from “Z” an air carrier. Although there is a notation on the back of the packaging for the pagers that states "Activation Not Required," the pagers are useless unless activated by an air carrier. A purchaser may go to any air carrier for activation, but petitioner's sales clerks encourage customers to complete a written service and rental agreement with “Z”. Under these agreements, the customers agree to pay a monthly fee for airtime and a one time $10.00 activation fee. If a customer enters into a service and rental agreement at the time of purchase, petitioner's sales clerk faxes the agreement to “Z” for immediate approval. “Z” generally gives approval and activates the pager within thirty minutes after receipt of the fax. If a customer does not obtain activation from “Z” through petitioner, the customer must directly request “Z” or another air carrier to activate the pager which generally takes seven to ten days. Petitioner charges and collects the $10.00 activation fee from customers who enter into the service and rental agreements at petitioner's stores. A customer who does enter into an agreement is not charged the fee. Petitioner remits the activation fees to “Z”. Petitioner asserts that “Z” does not reimburse petitioner for this service. “Z” does, however, give volume discounts based upon the number of pagers sold by petitioner. According to petitioner, activation does not involve modification, alteration, electronic data input, or other activity which modifies a pager. Rather, activation involves entry of certain information into the computer system of the air carrier selected by the owner of a pager. This information identifies the pager and its owner for billing and paging purposes. During the audit, the auditor performed a test for the month of November, 1990 of claimed exempt sales. Included in the disallowed sales were the charges for the activation fees. The auditor determined that because a pager is useless without activation, the activation fee is a charge for a service that is part of the sale of a pager. Thus, these fees may not be deducted or excluded from the measure of tax. (Rev. & Tax. Code § 6012 (b) (1).) Petitioner's contentions are set forth in detail in a letter from its attorney dated February 14, 1992. (Copy attached as Exhibit A.) Its contentions may be summarized as follows:

1. Activation fees are separately tariffed by the PUC and are prohibited by law from being
   treated by the seller as a part of an equipment sale.
2. The activation fees are charges for services which are not necessarily associated with the
   purchase of a paging unit.
3. The services for which the activation fees are charged involve the carrier's switch and do not
   involve modification of the paging unit. The services are not services the seller must perform as a condition to the buyer's using the paging unit. Paging units are often sold by non-utilities for use on any number of systems.

Analysis and Conclusions
Revenue and Taxation Code section 6051 imposes a sales tax on all retailers from retail sales of tangible personal property. Sales tax is measured by gross receipts which includes charges for services which are part of the sale of the property. (Rev. & Tax. Code § 6012(b) (1).) The issue in this case is whether the activation of a pager is a taxable service that is part of the sale of the pager. The Board has recognized that certain contracts may be mixed sales and service contracts in which only separately stated charges for tangible personal property are taxable. To determine whether a contract is a mixed sales and service contract or whether the service is part of the sale of tangible personal property, the following analysis is generally used:

1. Is the service optional? If the tangible personal property may not be acquired without the
   service, the service is part of the sale, and the charges for the service are taxable.
2. Are the charges for the service included in a lump-sum amount or are the charges for the
   service and property separately stated? Generally, charges for services which are included in a lump-sum amount are taxable.
3. Is the service necessary to put the property into the form contracted for by the customer or to
   have the property furnished in a specific place or manner? Fabrication and assembly labor are always taxable unless the sale of the tangible personal property is otherwise exempt or excluded from tax. Charges for services such as pumping gas are also taxable because the customer has contracted to have the gas dispensed into a specific place. In the present case, the service for activation of a pager is optional, and petitioner charges the same price for the pager whether a customer pays for the service or declines the service. As shown on a copy of a sample receipt which petitioner submitted at the Appeals conference, petitioner separately states the charges for activation fees on its sales receipts. Finally, according to petitioner, activation does not modify or alter the pager in any manner. In other words, activation does not involve fabrication or assembly of the pager. Nor does activation affect where the pager is furnished by petitioner. Based on these representations by petitioner, we conclude that charges for the activation fees are not taxable, and we recommend that these charges be eliminated from the test sample for Audit Item A. Recommendation Redetermine by deleting the activation fees from the test sample for Audit Item A.

6/8/94
Elizabeth Abreu, Staff Counsel

W/Exhibit "A"

Date