Does a cellular-phone retailer owe sales tax on phones it buys for resale, even when it later gives those phones away free or at a reduced price to customers who sign up for phone service?

Subject

Whether there is any sales or use tax due on the original purchase of cellular telephones by XYZ which will ultimately be transferred as part of a cellular telephone service.

What this means for you

An accounting firm asked on behalf of a retailer (called "XYZ" in the opinion) that sells cellular phones and also acts as an agent signing customers up for cellular carrier service. XYZ buys phones tax-free for resale, then sells them at full retail price, a reduced price, or even for free -- whenever the free/discounted deal is bundled with the customer signing a phone-service contract through XYZ. XYZ still comes out ahead on those bundled deals because the carrier pays XYZ an activation commission, and XYZ separately charges for installation and service.

The Department's resale exclusion has a carve-out: property bought and given away (or sold for a token price that doesn't reflect true cost) purely for promotion/advertising isn't treated as bought "for resale" -- that purchase is itself taxable to the giver. But this opinion holds that carve-out doesn't apply here, because none of its three triggering conditions are met: XYZ doesn't give phones away with NO charge tied to a sale, the "reduced/free" pricing isn't a minimal charge disconnected from true cost (it reflects XYZ's real, profitable pricing strategy factoring in commissions and service fees), and XYZ ordinarily does sell cellular phones as part of its regular business. So the original purchase of the phones stays a tax-free resale purchase no matter how they're later priced to the customer -- but XYZ must still collect sales tax on the full receipts from the telephone service itself.

Q&A

Q: We buy phones tax-free for resale, then give some away free or cheap when a customer signs a service contract through us -- does that trigger tax on our original purchase?
A: Per this opinion, no -- as long as you're not simply giving items away for pure promotional/advertising purposes (with no compensating revenue), the resale exemption on your original purchase still applies, even if the phone itself is priced at zero or a steep discount to the customer.

Q: What if the "free phone" deal doesn't really reflect the phone's true cost -- doesn't that make it a promotional giveaway instead of a resale?
A: Not under this opinion's facts -- the retailer's overall pricing (phone price plus commissions earned plus installation/service fees) was viewed as a whole, and since the retailer profits from the bundle and ordinarily sells phones as part of its regular business, none of the three specific promotional-purchase criteria in the regulation were met.

Q: Do we still have to charge our customer sales tax on anything in this kind of deal?
A: Yes -- per this opinion, tax must be collected on the total receipts from the sale of the telephone service itself when that service is provided within New York State, regardless of how the phone was priced.

Citations

• Tax Law § 1101(b)(4) -- defines "retail sale," excluding property purchased for resale.
• Tax Law § 1105(b) -- imposes sales tax on telephone service receipts.
• 20 NYCRR § 526.6(c)(4) -- sets the three criteria (free giveaway, minimal charge not reflecting true cost, not ordinarily sold in the business) under which a purchase is treated as NOT for resale despite an intended future transfer.
• Matter of Anthony J. Ragusa, Jr. d/b/a The Stereo Advantage, Adv. Op. Comm. T&F, January 7, 1993, TSB-A-93(b)(5) -- prior opinion applying the same resale-exclusion analysis, cited and followed here.

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/sales_ao_1994.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/sales/a94_23s.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-94 (23)S
Sales Tax
May 3, 1994

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. S931209A

On December 9, 1993 a Petition for Advisory Opinion was received from KPMG Peat
Marwick, 345 Park Avenue, New York, NY 10154.
The issues raised by Petitioner, KPMG Peat Marwick, are:
1.
Whether there is any sales or use tax due on the original purchase of cellular
telephones by XYZ which will ultimately be transferred as part of a cellular telephone service.
2.
Whether XYZ's purchase of cellular telephones should be treated as items for
promotion or advertising purposes when the telephones are offered at a reduced price or at no charge
to XYZ's customers, whereby the purchase of the telephones would be subject to tax as a retail sale
and not excluded from tax as a sale for resale as set forth in Section 526.6(b)(4) of the New York
State Sales and Use Tax Regulations.
3.
What is the correct tax base on the cellular telephones which may be sold by XYZ
to its customers at a reduced price or at no charge in conjunction with a contract providing for
telephone carrier services?
XYZ, Inc. (hereinafter "XYZ") is a retail establishment which sells electronic equipment,
including cellular telephones ("telephones"). As a retailer, XYZ does not pay sales tax on its
purchases of cellular telephones since the telephones are for resale, but charges sales tax on the retail
price of the telephones sold by XYZ to its customers. In addition, XYZ will charge sales tax on
installation and service charges relative to the telephones.
Along with the purchase of a cellular telephone, the customer would need to contract for
telephone service from a cellular telephone carrier (or "telephone carrier"). XYZ is an authorized
agent of a telephone carrier and can offer service contracts to its customers.
Further, customers of XYZ have several options which include (a) the customer may
purchase a telephone from XYZ; (b) the customer may purchase a telephone from XYZ and contract
for telephone service through XYZ in its capacity as an agent for the telephone carrier; and (c) the
customer may contract for telephone service through XYZ in its capacity as an agent for the
telephone carrier, without the purchase of a telephone.
As a result, XYZ offers to its customers pricing programs for the retail purchase of
telephones, which may include a reduced price or no charge for the telephone to the customer under
circumstances whereby the customer contracts for the telephone service through XYZ as an agent
for the cellular telephone carrier. XYZ is compensated by the telephone carrier through an activation
commission (or "commission") received upon activation of the service contract and will receive

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Sales Tax
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this commission regardless of whether XYZ offers the telephone to the customer at the full retail
selling price, at a reduced price, or at no charge.
Although a customer may receive the telephone for a reduced price or at no charge as part
of contracting with the telephone carrier, XYZ makes a profit due to the activation commissions
received from the telephone carrier and charges to its customers for installation and service. The
cost of the telephone, commissions earned, installation and service fees are viewed as a whole by
XYZ in determining its pricing and retail strategy for cellular telephones.
Section 1101 of the Tax Law states, in part:
Definitions.--... (b) When used in this article for the purpose of the taxes
imposed by subdivisions (a), (b), (c) and (d) of section eleven hundred five and by
section eleven hundred ten, the following terms shall mean:
(4) Retail sale.
(i) A sale of tangible personal property to any person
for any purpose, other than (A) for resale as such or as a physical component part of
tangible personal property ....
Section 526.6 of the New York State Sales and Use Tax Regulations states, in part:
Retail sale. [Tax Law, §1101(b)(4)] (a) The term retail sale or sale at retail means
the sale of tangible personal property to any person for any purpose, except as
specifically excluded.
(c) Resale exclusion. (1) Where a person, in the course of his business operations,
purchases tangible personal property or services which he intends to sell, either in the
form in which purchased, or as a component part of other property or services, the
property or services which he has purchased will be considered as purchased for
resale, and therefore not subject to tax until he has transferred the property to his
customer.
*

*

*

(4)(i) Tangible personal property which is purchased and given away without charge,
for promotion or advertising purposes is not purchased for resale. It is a retail sale to
the purchaser thereof, and is not a sale to the recipient of the property.
(ii)
Tangible personal property which is purchased for promotional or
advertising purposes and sold for a minimal charge which does not reflect its true
cost, or which is not ordinarily sold by that person in the operation of his business,
is a retail sale to the purchaser thereof, and not a sale to the recipient of the property.
(iii) A resale certificate may not be used by the person making the
purchases described in subparagraphs (i) and (ii) of this paragraph for such
purchases.

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Example 2:

A bank has purchased premiums which will be given to depositors upon the
opening of an account in a new branch. As the bank is not in the business of
selling such items, and as it in fact does not sell such items to its customers,
the sale to the bank of such items of tangible personal property is a retail sale
which is taxable at the time of purchase. The bank has not purchased items
for resale.

Example 3:

A vendor purchases catalogs and distributes them to his potential customers
for a minimal charge, which does not reflect the cost to him. He is the retail
purchaser of the catalog, and is required to pay the tax thereon. He cannot
charge his customer tax on the charge for the catalog.

Section 526.6(c)(4) of the Sales and Use Tax Regulations sets forth specific criterion under
which purchases of tangible personal property will not be considered to have been purchased for
resale. The specific criteria are:
(a) Property which is purchased and given away without charge for promotional or
advertising purposes;
(b) Property which is purchased for promotional or advertising purposes and sold for a
minimal charge which does not reflect its true cost; and
(c) Property which is purchased for promotional or advertising purposes and is not ordinarily
sold by that person in the operation of his business.
In the instant matter criteria "a", above, is not applicable since XYZ does not give away
cellular telephones without charge for promotional or advertising purposes. Criteria "b" does not
apply since XYZ's purchases of cellular telephones for resale to customers at a reduced price or for
inclusion at no charge to the customer in conjunction with the customer's purchase of a contract for
cellular telephone services for which XYZ receives commissions and in which the cost of the
telephone, commissions to be earned, installation and service fees are the basis for XYZ in
determining its pricing are not considered to be purchases of property for promotional or advertising
purposes and are not considered to be sold for a minimal charge which does not reflect its true cost.
Criteria "c" does not apply since XYZ ordinarily sells cellular telephones in the operation of its
business.
Accordingly, XYZ's original purchases of cellular telephones are considered to be purchases
for resale purposes regardless of whether the telephones are sold individually or transferred in
conjunction with the sale of a cellular telephone service. Anthony J. Ragusa, Jr. d/b/a The Stereo
Advantage, Adv Op Comm T&F, January 7, 1993, TSB-A-93(b)(5).

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Sales Tax
May 3, 1994
XYZ's purchases of cellular telephones are not considered to be purchases of items for
promotional or advertising purposes when offered to the customer at a reduced price or when offered
at no charge to the customer when such offering is in conjunction with the sale of a contract for
cellular telephone service. Anthony J. Ragusa, Jr. d/b/a The Stereo Advantage, supra.
XYZ must collect the tax imposed under Section 1105(b) of the Tax Law on the total receipts
from the sale of the cellular telephone service to a customer, when such service is to be provided
within New York State.

DATED: May 3, 1994

/s/
PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.