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Tennessee court addresses cost of performance sourcing methodology

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May 2019


The Court of Appeals of Tennessee recently held that cost-of-performance rules permit taxpayers to identify different categories of earnings-producing activity and then analyze each separately.  However, in the case, a multistate cable and internet provider did not correctly identify those categories, thereby failing to meet its burden of proving receipts should not be sourced to Tennessee.

The takeaway

Although the appellate court ruled in favor of the Department under the particular facts in the case, taxpayers may find certain elements of the decision instructive.  The trial court appeared to take a restrictive approach to defining earnings-producing activities.  The trial court noted that the starting point for analysis is one single number: total sales of other than tangible property.  Neither the statutes nor Rule 34 contemplate beginning with subgroups of gross receipts or multiple categories of income.  Although the appellate court disagreed with Comcast’s choice of revenue categories, the court did not go so far as to analyze all of Comcast’s service revenue as a single number.

The appellate court rejected the Department’s position that Comcast’s earnings-producing activity was the delivery of cable services to subscribers’ homes in Tennessee.  Accordingly, the reasoning in the opinion supports the position that the state cannot simply replace a costs-of-performance approach with a market-based analysis and that a more involved ‘direct costs’ approach may be required.

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Peter Michalowski

Peter Michalowski

State and Local Tax Leader, PwC US

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