Did HMOs' gross-premium tax and franchise-tax exemption also exempt their separate management company from franchise tax or sales tax on taxable services?

Plain-English summary

A Texas corporation provided licensing, provider contracting, marketing, billing, claims administration, accounting, and other management services to health maintenance organizations. The HMOs paid gross-premium tax and were exempt from franchise tax, but that treatment did not pass through to the separate management company.

The Comptroller said the management company remained subject to franchise tax. It was a separate legal entity, it did not provide insurance protection, and its tax base was stated capital and surplus rather than the HMOs' insurance premiums. Taxing both entities therefore was not double taxation of the same entity or tax base.

The letter also said that using funds already subjected to gross-premium tax did not create a sales-tax exemption. The management company could issue a resale certificate when it bought a taxable service for resale to an HMO, then collect tax on its charge to the HMO. If it billed a lump sum and taxable services exceeded 5% of the charge, the letter said the entire charge would be taxable.

Common questions

Did the HMOs' franchise-tax exemption cover the management company? No. They were separate corporations, and no applicable exemption covered the management company.

Did prior gross-premium tax make taxable services exempt from sales tax? No.

Could the management company buy a taxable service for resale? Yes. The letter said it could issue a resale certificate and then collect tax from the HMO.

What happened to a lump-sum management charge? The entire charge was taxable if the part attributable to taxable services was greater than 5%.

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/8903L0934D01

Original ruling text

COMPTROLLER OF PUBLIC ACCOUNTS
STATE OF TEXAS
AUSTIN, 78774

March 9, 1989

Dear **:

This is in response to your letter of February 2, 1989 to Mr.
Martin Cherry, regarding the applicability of Texas franchise and
sales taxes to your client. Your client, a Texas corporation,
performs management services on behalf of health maintenance
corporations (HMOs) authorized to do business in Texas. Mr.
Cherry has asked me to respond to your letter.

Your client, a management company, provides the Texas HMOs with
the following services:

1. Application and maintenance of state licenses and permits.
2. Development of benefit contracts.
3. Contracting with providers.
4. Development and conducting quality assurance and risk
   management programs.
5. Conducting of marketing programs.
6. Implementation of management information systems.
7. Preparation of program planning.
8. Preparing annual budgets.
9. Billing and collection of accounts.
10. Depositing and collection of accounts.
11. Disbursement of funds.
12. Recommending premium structures.
13. Implementation and maintenance of claims administration.
14. Maintaining accounting records and reports.
15. Engaging legal services.
16. All other management services reasonably necessary for
    the management of the operation of an HMO.

The HMOs are subject to an annual gross premiums tax under Tex.
Ins. Code, art. 20A.33(a), and as a result are specifically exempt
from franchise tax under Sec. 171.052.

Your questions are and our response follow:

1. Is the management company exempted from payment of franchise
   taxes since the funds used by the HMOs to compensate the manage-
   ment company already have been subject to annual gross premium
   taxes under the provisions of Tex. Ins. Code, art. 20A.33.

ANSWER 1: There is currently no exemption provided in Texas Tax
Code Sec. 171, Subchapter B, applicable to corporations that are
paid from funds previously taxed to another corporation under an
annual gross premium tax.

In your argument, you contend that making the franchise tax and
gross premium tax exemptions reciprocal was to avoid double taxa-
tion on the same basis. You cite 28 Tex. Adm. Code Section 7.1704(a)
which states that

[u]nder no circumstances, shall the tax imposed by the
Act be due and payable, more than once with respect to
any funds ultimately utilized for the payment of
services fees or benefits relating to a plan.

Assessing franchise tax on your client would not be double taxation
for the following reasons. First, your client and the HMOs it ser-
vices are two separate legal entities. Sec. 171.001 of the Tax Code
stipulates that "[a] franchise tax is imposed on each corporation
that does business in this state..." While insurance companies are
specifically exempted under Sec. 171.052, there is no exemption pro-
vided for your client. Third insurance "premium is the consideration
paid by a person for insurance protection or coverage". Brownsville
Fabrics, Inc. v Gulf Insurance Co. (Tex. Civ. App. - Corpus Christi,
1977, writ ref'd n.r.e.). Your client is not providing insurance
protection.

Therefore, there is no double taxation of the same entity.

Secondly, the HMOs are taxed on their gross receipts from insurance
premiums, while your clients' tax basis is its stated capital and
surplus.

Question 2: Is the management company exempted from payment of
sales tax on the management services rendered since the funds used
by the HMOs to compensate the management company have already been
been subject to annual gross premium taxes under the provisions of
Tex. Ins. Code, art. 20A.33?

Answer 2: The management company would not be exempted from payment
of sales tax, to a third party provider of a taxable services, solely
because it is compensated with funds previously taxed under the Texas
Insurance Code. The HMO for which your client provides management
services is not exempt from sales tax on taxable services performed
on its behalf, even though it pays for these services from funds pre-
viously taxed under an annual gross premium tax. 34 Tex. Adm. Code
3.355 (b) states "[i]nsurance services defined in subsection (a) of
this rule performed on behalf of an insurance carrier, its insured,
its policyholders, or others pertaining to a policy or policies of
insurance for monetary fees, dues, or other consideration are taxa-
ble".

If your client was reselling a taxable service to its HMO client,
for example the billing and collection of accounts by a third party,
it could issue a resale certificate to the third party provider.
Your client would then collect tax based on its charge to the HMO
for the taxable service.

If your client bills the HMOs on a lump-sum basis, the entire charge
would be taxable if the portion relating to taxable services sold is
greater than 5%.

This opinion is based on the facts presented. Additional or different
facts could result in a different opinion.

If you have any questions or need more information, please call our toll-
free number 1-800-531-5441. The regular number is 512/463-4502.

Sincerely,
Gilbert Zamora
Taxability Section
Legal Division