Does Texas's intercorporate services exemption cover computer services one bank buys from an affiliated bank if the buying bank is eligible to file a consolidated federal return but has chosen not to?

Plain-English summary

Starting in April 1997, BANK A began buying computer services from BANK B. Both banks were ultimately owned by the same parent corporation (CORPORATION C) — BANK A 84.04% owned, BANK B 100% owned — and both qualified to be included in CORPORATION C's consolidated federal income tax return as members of an affiliated group under 26 U.S.C. § 1504. BANK B was actually included in the consolidated return; BANK A, despite being eligible, had elected not to join it for the past three years. The taxpayer asked whether the two banks nonetheless met Texas's intercorporate services exemption.

The Comptroller ruled yes. Rule 3.331(d)(1) exempts taxable services purchased between affiliated corporations that "qualify to report their income to the Internal Revenue Service on a single consolidated return" — the test is eligibility to file consolidated, not whether the affiliate actually elects to do so. Because both banks were eligible affiliates under federal law (each return included the required affiliated-group schedule proving membership), the exemption applies to the computer services BANK A buys from BANK B, as long as those services became taxable after September 1, 1987 — data processing services are the example given. The exemption does not reach services that were already taxable on or before September 1, 1987 (like repair of tangible personal property) or any sale, lease, or rental of tangible personal property, and it doesn't hand the selling affiliate (BANK B) a resale exemption on its own purchases used to provide the service.

What this means for you

Affiliated corporate groups (especially banks and financial holding companies)

If your company buys services from a commonly-owned affiliate, check whether both companies are eligible to file a consolidated federal return as an affiliated group under 26 U.S.C. § 1504 — actually filing jointly is not required. One affiliate can choose not to join the consolidated return (for whatever business reason) and the exemption still applies, as long as eligibility exists and can be documented (e.g., the affiliated-group schedule each return files).

Businesses relying on the intercorporate services exemption generally

The exemption only covers services first made taxable after September 1, 1987 (like data processing). It does NOT cover older-vintage taxable services (like tangible personal property repair) or any sale, lease, or rental of tangible personal property, and it doesn't create a resale exemption for the providing affiliate's own purchases.

Accountants and tax professionals

Worth flagging in any affiliate-services intercompany-billing review: confirm eligibility for consolidated filing (not actual election) under Rule 3.331(d)(1), and separately confirm the service category post-dates September 1, 1987 before assuming the exemption applies.

Common questions

Q: Does an affiliate have to actually file on the consolidated federal return to qualify for the intercorporate services exemption?
A: No — Rule 3.331(d)(1) requires only that the corporations qualify (are eligible) to file a single consolidated return, not that they actually do so.

Q: What services does the exemption cover?
A: Only taxable services that first became taxable after September 1, 1987, such as data processing services.

Q: What does the exemption NOT cover?
A: Services taxable on or before September 1, 1987 (e.g., repair of tangible personal property), any sale/lease/rental of tangible personal property, and it does not give the service-providing affiliate a resale exemption on its own purchases.

Q: Can other affiliated companies rely on this exact answer?
A: No. This is a Texas STAR letter ruling binding on the Comptroller only for the taxpayer it addresses (34 Tex. Admin. Code Rules 3.1, 3.10); confirm your own group's eligibility and service types with a tax professional.

Citations and references

Statutes and rules:

• Tex. Tax Code § 151.346 (intercorporate services exemption)
• 34 Tex. Admin. Code § 3.331(d) (intercorporate services requirements)
• 26 U.S.C. § 1504 (federal definition of affiliated group)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/200009768L

Original ruling text

September 28, 2000

Dear **:

Thank you for your letter concerning the exemption of intercorporate services
found in Tax Code Section 151.346.

In April, 1997, ** (BANK A) began purchasing computer services from
**, CITY D, Texas (BANK B). BANK A and BANK B as both members of a
controlled group of corporations ultimately owned by **
(CORPORATION C). Both BANK A and BANK B are qualified and eligible to file a
consolidated return with CORPORATION C. BANK A is owned 84.04% by CORPORATION
C, while BANK B is owned 100% by CORPORATION C.
BANK B is included in the consolidated return: however, BANK A, in the past
three years, has elected not to be included in the consolidated return even
though it is eligible. Both returns, as required by IRS regulation, include an
affiliated group schedule that shows that both BANK A and BANK B are members of
an affiliated group of corporations as defined in U.S.C. section 1504.

You believe that both BANK B and BANK A meet the intercorporate services
exemption requirements from sales and use tax, since they are affiliated
corporations under U.S.C. Section 1504 and are qualified to file a consolidated
return.

The intercorporate services exemption is found in Rule 3.331(d). Subsection
(d)(1) of the rule states:

Sales or use tax is not due on charges for taxable services between affiliated
corporations which qualify to report their income to the Internal Revenue
Service on a single consolidated return with other members of the affiliated
group for the tax year in which the taxable service is provided.

Therefore, the intercorporate services exemption is applicable to the computer
services if the services became taxable after September 1, 1987 (e.g., data
processing services). Services that are taxable on or before September 1, 1987
(e.g., the repair of tangible personal property) and the sale, lease and rental
of tangible personal property are not covered by Section 151.346. In addition,
the service provider has no resale exemption for the purchase of tangible
personal property or for taxable services as explained in (d)(4) and (5) of the
rule.

This opinion is based on the facts you submitted. Other facts, though similar,
may yield different results.

You may call me toll free at 1-800-531-5441, ext. 5-0030. The direct line is
512/475-0030. You may also write to Tax Policy, Comptroller of Public
Accounts.

Sincerely,

David Somerville
Tax Policy Division

cc: Janita Jaster, ** Audit