Washington Court Rules Taxpayer has Physical Presence Despite No Offices or Employees

By: Betsy Goldstein, SALT Senior Manager

At a glance

• The main takeaway: Even though most of the focus over the last several years has been on economic nexus, companies still need to consider their physical presence.
• Assess the impact: This case is an important reminder that certain activities, even those performed by independent contractors on your company’s behalf, can be attributed to you when determining if you have a physical presence in the state. 
• Take the next step: Aprio’s State and Local Tax (SALT) team can perform a nexus and taxability study to analyze whether your business has physical and/or economic nexus in a state, and help you maintain your compliance moving forward.

Schedule a free consultation today to learn more!

The full story:

Much of the focus on state tax nexus over the last several years has been on the enactment of economic nexus laws, both for sales tax and for income tax (i.e., factor-presence nexus thresholds). However, these new laws do not replace the historical and constitutional application of physical presence nexus. On November 14, 2023, the Washington Court of Appeals (Court) issued a decision that addressed whether a taxpayer had physical presence for Business and Occupation (B&O) Tax¹ purposes, despite not having any offices, property, or employees in the state.²

Take a closer look at the case

The taxpayer, Citibank (South Dakota) National Association (Citibank), is engaged in the business of originating, managing and servicing unsecured revolving consumer loans as a credit card issuer. Citibank offers:

1. General credit cards (i.e., Visa and Mastercard) which can be used anywhere that accepts those cards,
2. Private label, store-branded cards that can be used at the branded stores only and
3. Co-branded cards that could be used both at the branded stores as well as other general retailers. 

Citibank generated revenue from its business through the receipt of interest on unpaid balances, interchange fees from retailers/banks, as well as fees from cardholders, such as annual fees, cash advance fees, balance transfer fees and late payment fees.

Citibank had private label card agreements with three retailers that operated in Washington — Home Depot, Sears and Federated Department Store. Those agreements generally required the retailer to market the credit cards to customers through activities, such as prominently displaying credit card applications, having employees solicit new credit card accounts and accepting payments of credit card balances. In addition, Citibank hired attorneys in Washington to file thousands of cases in Washington courts to collect debts from resident cardholders.

Unpacking the Court’s ruling

The Washington Department of Revenue (Department) conducted a B&O Tax audit on Citibank for the period of January 1, 2007, to May 31, 2010. During that period, Citibank did not have employees or property in the state. As a result of the audit, Citibank was assessed $6 million in Washington B&O Tax as well as additional penalties and interest. The tax was based on $1.7 billion of gross receipts that the Department determined should have been sourced to the state under its B&O Tax sourcing rules for financial institutions. Citibank appealed the assessment, arguing that it did not have nexus in the state.

The audit period is significant because prior to June 1, 2010, the Department asserted B&O Tax nexus only on businesses that had a physical presence in the state. It was not until the state legislature started enacting changes to its nexus statute, the first became effective on June 1, 2010, that the Department started applying economic nexus standards to the imposition of certain taxes.³ Thus, the issue of nexus in this case was based solely on whether Citibank had physical presence in the state.

The Court relied upon a Washington Supreme Court decision that addressed the physical presence requirement as follows:

[T]o the extent there is a physical presence requirement, it can be satisfied by the presence of activities within the state. It does not require a “presence” in the sense of having a brick and mortar address within the state. We do not see a material difference whether the activities are performed by staff permanently employed within the state, by independent agents contracted to perform the activity within the state, or persons who travel into the state from without. The activities must be substantial and must be associated with the company’s ability to establish and maintain the company’s market within the state.⁴

Based on this language, the Court concluded that the activities of the attorneys to file lawsuits to collect debts, and of the private label retailers to market the credit cards and accept payments on behalf of Citibank were sufficient to establish and maintain a market within the state.

The bottom line

This case serves as an important reminder that physical presence is still alive and well, and that certain activities performed on your behalf, even if by independent contractors, can be attributed to you for purposes of determining if you have physical presence in the state. 

Aprio’s SALT team has experience analyzing nexus issues and understands the different types of activities that can create physical presence. We can assist your business with a nexus and taxability study to analyze whether your business has physical and/or economic nexus in a state, and whether there is any state tax exposure attributable to such nexus. Our team can also work with you to address any prior tax exposure and maintain your compliance going forward to ensure that you do not incur any unexpected tax liabilities. We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

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¹ Washington does not impose a traditional income tax on businesses, but instead levies a B&O Tax based on a business’ Washington-sourced gross receipts.

² Citibank (South Dakota), National Association v. Washington DOR, No. 57127-7-II (Wash. Ct. App. Div. II, Nov. 14, 2023).

³ The Department has a very helpful chart to view the various nexus standards for sales tax and B&O Tax that have applied over the years. The rules beginning January 2020 are still applicable at the time this article was written.

⁴ Lamtec Corp. v. Dep’t of Revenue, 170 Wn.2d 838, 850-51 (2011).