State revenue departments are no longer the sole concern for corporate tax directors tasked with compliance oversight. Taxpayers with sales tax collection and reporting requirements have been warned: the SEC means business-and the potential state tax implications for companies with sales tax obligations are alarming.
In the Matter of Hudson Highland Group, Inc. (January 10, 2011), the Securities and Exchange Commission ("Commission") instituted cease-and-desist proceedings pursuant to Section 21C of the Securities and Exchange Act of 1934 ("Act") against Hudson Highland Group ("Hudson") for its failure to "consistently comply with tax laws that required it to collect taxes from its customers, and to remit them to the taxing jurisdictions as their fiduciary."1 In addition to instituting these proceedings-requiring Hudson to refrain from committing or causing any future violations of sales tax compliance laws-the Commission imposed a $200,000 penalty for Hudson's violation of Sections 13(b)(2)(A),(B) of the Act.2
Calling the Order "a settlement,"3 Hudson neither admitted nor denied the Commission's findings, yet the background facts are both compelling and cautionary: Following Hudson's spin-off from parent Monster Worldwide, Inc. in 2003, members of Hudson's in-house tax staff became concerned that Hudson was failing to consistently collect and remit state sales taxes as required because its accounting software was inadequate, and they expressed their concerns to Hudson's executives.4 According to the Order, Hudson's accounting software was unable to apply proper sales tax rates to Hudson's services and failed to track the location of work performed for purposes of making sourcing determinations. Hudson also failed to adequately track its customers' "direct pay" permits.5 Although Hudson hired a Big Four accounting firm to assist with its known sales tax compliance issues soon after the concerns of its in-house staff were raised, the company's efforts to rectify its records maintenance deficiencies presumably failed until 2007, when Hudson hired a new CFO who, in conjunction with the company's former tax team, began to closely monitor Hudson's efforts to quantify its outstanding sales tax liabilities. Ultimately, Hudson paid approximately $3.9 million to various jurisdictions to settle its sales tax collection obligations. Although Hudson was able to finally rectify its sales tax compliance issues in 2008, years of sales tax non-compliance had led to a severe result: Namely, the Commission's institution of cease-and-desist proceedings and imposition of a significant penalty.
Q: How Does The Commission's Response in Hudson Affect Your Company?
A: The Implications of Hudson Are Alarming and Potentially Far-Reaching.
The Commission's actions in Hudson sound new and significant alarms for publicly traded corporations with sales tax collection obligations. Going forward, publicly traded corporations will need to view tax compliance not just as a tax issue, but also as a securities law compliance issue.
The Commission order in Hudson raises a series of new issues that publicly traded corporations will need to grapple with over the coming years:
- What level of non-compliance will create risk of violation of the internal accounting system controls required under Section 13(b)(2)(B) of the Act?
- What are the facts that might result in a violation of the books and record-keeping requirements of Section 13(b)(2)(A) of the Act?
- Will the newly promulgated whistleblower incentives under Section 21F of the Act cause an uptick in the reporting of tax-related violations of Section 13(b)(2)(A) and (B)?
- Will the Commission become the new adjudicator of whether your corporation has nexus (and, thus, a sales tax collection obligation)?
- Are cash-strapped state revenue departments going to exchange information on purported taxpayer non-compliance with the Commission?
To discuss the important implications of this development to your sales tax compliance systems, contact one of the authors of this Alert or another member of the Reed Smith State Tax Group. Reed Smith's state and local tax practice is comprised of 30 lawyers across seven offices nationwide. Coupled with the firm's exceptional multinational corporate and securities practice, the Reed Smith State Tax Group is uniquely poised to respond to these considerations.
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1. In the Matter of Hudson Highland Group, Inc., Securities and Exchange Act of 1934, Release No. 63688, III, ¶ 2, p. 2 (January 10, 2011). Hudson is a NASDAQ company whose common stock is registered pursuant to Section 12(b) of the Securities and Exchange Act of 1934 ("Act"). Section 13(b)(2)(A) of the Act requires companies to "make and keep books, records, and accounts which, in reasonable detail, accurately and fairly reflect their transactions and dispositions of their assets." Section 13(b)(2)(B) of the Act requires all reporting companies to "devise and maintain a system of internal accounting controls sufficient to provide reasonable assurances that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles." The SEC concluded that Hudson's failure to maintain an accounting system-resulting in non-compliance with its sales and use tax obligations-resulted in a violation of Section 13(b)(2)(B) of the Act.
2. In the Matter of Hudson Highland Group, Inc., IV (B), p. 5.
3. "Hudson Highland Group Settles with SEC," Press Release (Jan. 11, 2011).
4. In the Matter of Hudson Highland Group, Inc., III, ¶ 4, p. 3.
5. Id. at III, ¶ 3, pp. 2-3.
Client Alert 2011-011