Did a New Mexico commodities broker owe gross receipts tax on commissions when the futures trades were executed on out-of-state exchanges?

Subject

Charles L. Forkner (D&O 98-32)

Plain-English summary

Charles Forkner was a federally licensed commodities broker with an office in Albuquerque. Clients called him to place futures orders; he relayed the orders to a Chicago clearinghouse, received confirmation when an exchange executed a trade, and called the client back. The clearinghouse held client funds and executed trades in New York, Chicago, or Kansas City, then paid Forkner his share of the commission.

Forkner did not pay New Mexico gross receipts tax on those commissions. He had been told by state securities officials in the early 1970s that commodities trading was interstate commerce, federally regulated, and not subject to state tax or licensing. After federal information-sharing showed his 1990-1994 Schedule C commissions, the Department assessed $23,255.08 tax, $2,325.54 penalty, and $14,226.65 interest. It later agreed to abate the penalty.

Hearing Officer Gerald B. Richardson held that the commissions fit the express definition of gross receipts in Section 7-9-3(F)(1)(b). That provision covered fees from brokering the purchase or sale of "any property," not only stocks or securities, and a commodity future was intangible property.

The interstate-commerce deduction in Section 7-9-55(A) applied only when the Constitution prohibited the tax; it was not a blanket exemption for every interstate transaction. The tax satisfied the four-part Complete Auto test. Forkner performed the taxed brokerage service in Albuquerque, giving New Mexico substantial nexus. New Mexico taxed only Forkner's portion of the commission, not the clearinghouse's out-of-state share. The tax did not discriminate against interstate commerce and was related to the protections and services Forkner received while operating in New Mexico.

Federal commodities statutes did not preempt the tax either. The gross receipts tax did not dictate how futures trades were conducted, single out commodities activity, or conflict with any cited federal provision. The protest was DENIED, leaving tax and interest due after penalty abatement.

What this means for you

• The location of the broker's service can matter more than the exchange's location. Forkner's calls, advice, order placement, and confirmations occurred from his New Mexico office.
• Broker commissions were expressly included in gross receipts. The statute covered commissions for brokering any property, which included commodity futures.
• Interstate commerce is not automatically tax-free. The deduction extended only as far as the U.S. Constitution required.
• A properly apportioned tax on the in-state service passed Commerce Clause review. New Mexico taxed Forkner's commission, while the clearinghouse's separate share for out-of-state execution was not taxed.
• Federal regulation did not by itself create tax immunity. Preemption required a conflict with federal law, and the decision found none.

Key questions answered

Why were commodity-futures commissions gross receipts?
Section 7-9-3(F)(1)(b) included commissions from acting as a broker for any property. The decision treated a commodity future as intangible property.

Didn't the actual trade occur outside New Mexico?
Yes, but the activity being taxed was Forkner's brokerage service, which he performed from Albuquerque by advising clients and transmitting orders and confirmations.

Why didn't the interstate-commerce deduction apply?
Because the tax was constitutionally permissible: it had substantial nexus, was fairly apportioned, did not discriminate, and related to state services.

Did federal commodities law prevent the state tax?
No. The tax did not regulate trading practices or conflict with the federal commodities statutes.

Verbatim citations

The statutory definition covering commissions:

the total commissions or fees derived from the business of buying, selling or promoting the purchase, sale or leasing, as an agent or broker on a commission or fee basis, of any property, service, stock, bond or security;

The interstate-commerce deduction's limit:

Receipts from transactions in interstate commerce may be deducted from gross receipts to the extent that the imposition of the gross receipts tax would be unlawful under the United States constitution.

The decision's nexus finding:

The gross receipts tax was imposed upon his commissions from the service of brokering commodities trades, which service the Taxpayer performs from his office in Albuquerque.

The holdings:

The imposition of gross receipts tax upon the commissions the Taxpayer earned from brokering commodities futures transactions does not violate the Commerce Clause of the United States Constitution.

The imposition of gross receipts tax upon the commissions the Taxpayer earned from brokering commodities futures transactions is not preempted by the federal laws regulating the trading of commodities futures.

Source

• Listing: New Mexico Decisions & Orders
• Decision post: Charles L. Forkner
• Decision PDF: D&O 98-32

Original ruling text

BEFORE THE HEARING OFFICER
OF THE TAXATION AND REVENUE DEPARTMENT
OF THE STATE OF NEW MEXICO

IN THE MATTER OF THE PROTEST OF
CHARLES L. FORKNER NO. 98-32
ID. NO. 02-327122-00 1, PROTEST TO
ASSESSMENT NO. 2105598

DECISION AND ORDER

This matter came on for formal hearing on April 14, 1998 before Gerald B.

Richardson, Hearing Officer. Charles L. Forkner, hereinafter, “Taxpayer”, represented

himself at the hearing. The Taxation and Revenue Department, hereinafter,

“Department”, was represented by Frank D. Katz, Chief Counsel. Based upon the

evidence and the arguments presented, IT IS DECIDED AND ORDERED AS

FOLLOWS:

FINDINGS OF FACT

1. The Taxpayer is a commodities broker licensed by the federal Commodities

Futures Trading Commission. He is neither licensed, nor required to be licensed by the

state of New Mexico to be a commodities broker.

2. The Taxpayer maintains an office in Albuquerque, New Mexico.

3. During the relevant tax years, the Taxpayer maintained a relationship with a

clearinghouse, First Commercial Financial Group of Chicago, Illinois. Clearinghouses

have seats on commodities exchanges in order to be able to execute commodities

transactions.

4. Individual clients who wish to make a commodities futures transaction may

not do so directly through a clearinghouse. Rather, they do so through a broker.

Individual clients do, however, maintain an account with a clearinghouse which reflects

transactions executed through commodities brokers, balances on deposit, etc.

5. The Taxpayer’s role in a commodities futures transaction is to act as a broker

on the transaction and to give advice, should a client desire, on commodities transactions.

In a typical transaction, a customer will telephone the Taxpayer and place an order for a

commodity, for a future date, at a designated price. The Taxpayer then telephones in the

order to the clearinghouse. The clearinghouse will either execute the transaction or not,

depending upon whether the transaction can be completed at the price set by the client. If

the transaction is executed, the clearinghouse telephones the Taxpayer to confirm that the

transaction has been executed and the Taxpayer telephones the client to inform the client

that the transaction has been executed. The clearinghouse then generates a financial

statement of the trade and the client’s account to the client. The Taxpayer receives a daily

summary of all transactions executed on behalf of his clients from the clearinghouse. The

clearinghouse charges a commission on the transaction to the client’s account and sends

the Taxpayer its share of the commission.

6. All commodities futures transactions for which the Taxpayer acted as broker

were executed in New York, Chicago or Kansas City, where commodities exchanges

exist.

7. The Taxpayer handles no client money in its role as broker for commodities

futures transaction. Rather, the client maintains an account with the clearinghouse from

which funds are drawn or credited as buy and sell transactions are made.

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8. The Taxpayer has clients from both within New Mexico and out of state.

Roughly 50% of the trades brokered by the Taxpayer are performed for in-state clients

and 50% are performed for out-of-state clients.

9. During tax years 1990 through 1994, the Taxpayer reported the commissions

he earned as a commodities broker on federal Schedule C when reporting his income for

federal income tax purposes.

10. Pursuant to the information sharing agreement between the Internal Revenue

Service and the Department, the Department was provided information concerning the

commissions the Taxpayer earned as a commodities broker during tax years 1990

through 1994.

11. As a result of this information, on February 5, 1997, the Department issued

Assessment No. 2105598 to the Taxpayer, assessing $23,255.08 in gross receipts tax,

$2,325.54 in penalty and $14,226.65 in interest for tax years 1990 through 1994.

12. On March 3, 1997 the Taxpayer filed a written protest to Assessment No.

2105598 with the Department.

13. The Department has agreed to abate the penalty portion of the assessment.

DISCUSSION

The Department assessed gross receipts tax upon the Taxpayer’s commissions

received on commodities futures transactions for which he acted as a broker. The

Taxpayer had not paid gross receipts tax upon his commissions because he had been

informed in the early 1970s by former commissioners of the New Mexico Securities

Division that because the commodities transaction was a transaction in interstate

commerce, that it was not subject to gross receipts tax. Additionally, he was informed

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that because commodities trading was regulated by the federal government, he was not

required to be licensed by the state to broker commodities transactions nor were such

transactions regulated by the state Securities Division.

The sole issue to be determined herein is whether the Taxpayer is subject to gross

receipts tax upon his commissions. “Gross receipts” generally include receipts from

performing services in New Mexico, and are specifically defined to include:

the total commissions or fees derived from the business of
buying, selling or promoting the purchase, sale or leasing,
as an agent or broker on a commission or fee basis, of any
property, service, stock, bond or security;

Section 7-9-3(F)(1)(b) NMSA 1978, 1993 Repl. Pamp.1 The Department had a

regulation under Section 7-9-3 during the periods relevant to the assessment at issue

which addressed stockbroker’s commissions which provided that:

Gross receipts include commissions received by
stockbrokers, located in New Mexico, for handling
transactions for out-of-state as well as in-state residents.

Regulation GR 3(F):17.

The Taxpayer argues that he is not subject to gross receipts tax upon his

commissions on several grounds. First, he argues that as a commodities broker, he is

quite different than a stockbroker, being subject to different federal laws and regulation,

not requiring licensing by the state, etc. Secondly, he argues that because the

commodities futures transactions are transactions in interstate commerce, and are subject

to federal regulation, they are immune from state taxation.

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The prior version of the statute, applicable to the earlier years covered by the Department’s assessment
was substantially similar, providing that, “ ‘Gross receipts’, for the purpose of the business of buying,
selling or promoting the purchase, sale or leasing, as an agent or broker on a commission or fee basis, of

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In making these arguments, the Taxpayer cited to the Grain Futures Act of 1921,

the Commodity Exchange Act of 1936, and the Commodities Futures Trading

Commission Act of 1974, all of which are federal laws pertaining to and regulating

commodities trading. These acts are codified in 7 U.S.C. §§ 1-25.

While it is undisputed that commodities futures brokers are different than

stockbrokers, coming under different federal regulatory acts, not being licensed or

regulated by the state, etc., the definition of gross receipts found at § 7-9-3(F)(1)(b) does

not limit itself to commissions derived from the purchase or sale as agent or broker of

only stocks, bonds or securities. Rather, it is broadly worded to include commissions

derived from acting as agent or broker promoting the purchase or sale of “any property”.

Since a commodities future represents a kind of intangible property, the taxpayer’s

commissions fall within the definition of gross receipts.

Although the Taxpayer’s commissions are gross receipts, there is a deduction

from gross receipts tax for certain transactions in interstate commerce. The Department

does not dispute that the commodities transactions for which the Taxpayer received a

commission were transactions occurring in interstate commerce. It disputes, however,

that the Taxpayer’s transactions are such that the deduction is available to the Taxpayer.

The deduction for receipts from transactions in interstate commerce is found at §

7-9-55 (A) NMSA 1978. It provides:

Receipts from transactions in interstate commerce may be
deducted from gross receipts to the extent that the
imposition of the gross receipts tax would be unlawful
under the United States constitution. (emphasis added)

any property, service, stock, bond or security, includes the total commissions or fees derived from the
business.”

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As the emphasized language indicates, the deduction is not a blanket deduction for any

transaction in interstate commerce, but is limited to those situations where imposition of a

tax would be prohibited under the law as it has developed under the Commerce Clause.

The Taxpayer appears to be operating under a misunderstanding of the law as it applies to

transactions in interstate commerce because his argument appears to be that once a

transaction occurs in interstate commerce, states are barred from imposing any sort of tax.

While there may have been some basis for this understanding of the law in the early

1970s, when the Taxpayer was informed by state securities commissioners that he was

not subject to tax on his commissions, the law of taxation with respect to the Commerce

Clause has evolved since that time. In 1951, the Supreme Court had struck down a

Connecticut tax on the privilege of engaging in business when it was applied against a

business engaged exclusively in interstate commerce. Spector Motor Service v.

O’Connor, 341 U.S. 602 (1951). That decision was overruled, however, in Complete

Auto Transit v. Brady, 420 U.S. 276 (1977), which remains the seminal case regarding

the taxation of transactions in interstate commerce. In Complete Auto Transit, the court

announced a four part test for determining whether a state tax violates the Commerce

Clause. A tax will not violate the Commerce Clause where it is applied to an activity

with substantial nexus with the taxing state, is fairly apportioned, did not discriminate

against interstate commerce and is fairly related to the services provided by the state. Id.

430 U.S 278-279.

Applying this test to the facts of this case, I find that the state’s tax does not

violate the Commerce Clause. New Mexico’s gross receipts tax is imposed upon the

privilege of engaging in business in New Mexico. Section 7-9-4 NMSA 1978. What the

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Taxpayer does when he brokers a commodities transaction is to counsel clients and place

orders over the telephone from his office in Albuquerque. He also receives confirmations

when those orders are executed out of state, at his office in Albuquerque. The gross

receipts tax was imposed upon his commissions from the service of brokering

commodities trades, which service the Taxpayer performs from his office in

Albuquerque. Thus, there is no question that the activity taxed has substantial nexus with

New Mexico, since the activity taxed occurs in New Mexico. The tax is also fairly

apportioned. It only applies to the Taxpayer’s commission. The portion of the

commission which is retained by the clearinghouse, which compensates them for their

activities in executing the requested trade, which occurs out of state, was not taxed by

New Mexico. The only portion of the commission taxed was the Taxpayer’s

commission, which related to his brokering activities performed in New Mexico. There

is also no basis to find that the tax discriminates against interstate commerce. The tax is

only being applied to activities occurring in New Mexico and there is no allegation that

any other state can impose a tax upon the Taxpayer’s activities which occur in New

Mexico. Finally, the tax is fairly related to services provided by the state. The Taxpayer

receives the benefit of engaging in business in New Mexico, which includes police

protection, access to the courts, roads, highways, public education and the many other

benefits which fall under the broad categorization as the benefits of living in a civilized

society. Thus, the tax does not interfere with interstate commerce in such a manner as to

violate the Commerce Clause.

Although the Taxpayer did not explicitly articulate a federal preemption argument

against the imposition of the gross receipts tax, implicit in his Commerce Clause

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argument was the argument that the various federal statutes which regulate the

commodities business regulate it so comprehensively so as to leave no room for any state

to act in that realm. While it is undisputed that Congress in enacting the various federal

laws regulating futures trading intended to prescribe the means and conditions under

which futures trading can be conducted, nothing in the application of New Mexico’s

gross receipts tax to the Taxpayer’s commissions from futures trading conflicts with or

interferes with the federal regulation of futures trading. Futures trading is not singled out

for taxation from any other business to which the gross receipts tax applies nor is the

imposition of such a tax inconsistent with any provision of the federal law.2 Not only

does the state’s tax not conflict with the federal acts, but it is also clear that Congress did

not completely bar state laws which address commodities trading, so long as they are not

in conflict with the federal provisions. See, Dickson v. Uhlmann Grain Co., 288 U.S.

188 (1933) (Grain Futures Act did not supersede provisions of Missouri law making

gambling in grain futures illegal). Because the state’s gross receipts tax in no way affects

the manner in which commodities futures transactions are traded, nor does it conflict with

any of the provisions of the federal acts regulating the trading of commodities futures, the

imposition of tax upon the commissions derived from commodities futures trading is not

preempted.

CONCLUSIONS OF LAW

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The burden of proving the Department’s assessment to be contrary to law was upon the Taxpayer. Section
7-1-17(C) NMSA 1978. The Taxpayer cited to no provision of the federal acts regulating commodities
futures trading which are inconsistent with the imposition of the state’s gross receipts tax upon the
Taxpayer’s commissions. Additionally, this decision maker was unable to find any provisions which
prohibit or are inconsistent with the imposition of the gross receipts tax under the facts of this case.

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1. The Taxpayer filed a timely, written protest to Assessment No. 2105598

pursuant to Section 7-1-24 NMSA 1978 and jurisdiction lies over both the parties and the

subject matter of this protest.

2. The imposition of gross receipts tax upon the commissions the Taxpayer

earned from brokering commodities futures transactions does not violate the Commerce

Clause of the United States Constitution.

3. The imposition of gross receipts tax upon the commissions the Taxpayer

earned from brokering commodities futures transactions is not preempted by the federal

laws regulating the trading of commodities futures.

For the foregoing reasons, the Taxpayer’s protest IS HEREBY DENIED.

DONE, this 26th day of May, 1998.

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