A Virginia circuit court recently held that Best Buy was not entitled to a refund of sales tax remitted to the Virginia Department of Taxation on certain credit card sales.1
When Best Buy made sales to customers using a Best Buy private-label credit card at its Virginia stores, it remitted Virginia sales tax to the Virginia Department of Taxation on the full purchase price of the goods that were sold. However, some of Best Buy’s Virginia retail customers ultimately defaulted on their payments on their Best Buy credit card. Best Buy claimed a refund of the sales tax remitted with respect to those “bad debts.” This claim was based on a Virginia statutory provision that provides a sales tax credit for bad debts “owed to the dealer.”2 The Department of Taxation challenged Best Buy’s entitlement to the credit.
In its decision, the Circuit Court for the City of Richmond focused on Best Buy’s use of a third-party financing arrangement for the credit card sales in reaching its conclusion that Best Buy was not the “dealer” to whom the bad debt was owed.3 As of today, it does not appear that Best Buy has requested that the circuit court’s decision be reviewed by the Supreme Court of Virginia.
The Best Buy decision appears to follow the trend of court decisions that have interpreted state sales tax credits for bad debts in an extremely narrow manner. It does, however, offer a glimmer of hope that Virginia’s bad debt credit may still be available in limited circumstances—even when the financing is provided by a separate finance company.
The Best Buy Facts and Holding
The Best Buy decision involved Best Buy’s contract with Beneficial National Bank USA ("BNB USA"), pursuant to which BNB USA provided financing to Best Buy customers through the issuance of a private label Best Buy credit card. When a customer made a purchase in Virginia with his or her Best Buy credit card, Best Buy remitted the sales tax on the purchase to the commonwealth. BNB USA would then purchase the receivables from the Best Buy credit card transactions from Best Buy at a price designated by their agreed purchase plan. The price that BNB USA paid to Best Buy incorporated a discount for a loss debt ratio (this ratio was intended to take into account the likelihood that a portion of the purchased receivables would prove uncollectable).
Best Buy argued that it was entitled to claim the credit for bad debts because it “economically bore the cost of the bad debts on an overall portfolio basis [because of the ‘loss debt ratio’ provided for in the contract].” Best Buy further argued that if it were not allowed to claim the credit, then the commonwealth would receive a windfall every time a customer that used its Best Buy credit card to make a purchase in Virginia failed to pay the credit card bill, because in that scenario Virginia would receive sales tax for a transaction that was never completed. The court disagreed.
The court found that the relationship between Best Buy and BNB USA could not be characterized as a "group or combination acting as a unit," and thus Best Buy was not entitled to the credit for bad debts. Specifically, the court found that BNB USA was a separate and independent actor from Best Buy. “[BNB], having bought the paper from Best Buy, suffers any loss except that any rebates to which Best Buy is entitled is reduced by the loss ratio of bad debt … [t]hough Best Buy receives less than the full purchase price … it does not suffer the loss from an account which has found to be ‘worthless’ as required in Va. Code § 58.1-621.” Ultimately, the court held that because BNB USA bears the entire risk of bad debt loss, Best Buy was not entitled to the bad debt credit and, thus, was not entitled to a refund.
Thus, in the view of the court, a retailer that bears the cost of bad debts with respect to a portfolio of debt obligations through a contractual allowance for projected losses is not a dealer, but a retailer that bears the full risk of loss with respect to a particular debt obligation is a dealer.
What does this mean for Taxpayers?
An important point in this decision is the court’s focus on the relationship between the retailer and the finance company. While the Virginia bad debt statute does not allow for a credit in a situation where the retailer is not a “dealer” bearing the risk of loss, the court hinted that it might allow a credit to a retailer in a situation where the party bearing the risk of loss is a finance company that is not “a separate and independent actor” from the retailer. The court found support for this position in the statutory definition of “person,” which includes “a group or combination acting as a unit.”4 However, since the entities in this case were entirely unrelated, it is unclear how close a connection there would need to be between two entities before a court would treat them as a single person for purposes of determining status as a “dealer” entitled to claim the bad debt credit.5
Unlike many other states, which have closed the door completely on the possibility of allowing a bad debt credit to a retailer that has transferred its receivables to a finance company, Virginia has left the door open—if only just a crack. Virginia retailers that sell their receivables to a related finance company, or that retain at least some of the risk of loss with respect to the receivables they sell to unrelated finance companies, may still be able to claim Virginia’s bad debt credit.6
If you have questions about Virginia’s credit for bad debts or a general question on Virginia tax law, please contact the authors of this Alert, or the Reed Smith lawyer with whom you usually work. For more information on Reed Smith's Virginia tax practice, visit www.reedsmith.com/vatax. If you’d like to receive a copy the Motions for Summary Judgment or full text of the decision in this case, please send an email to Dan Dixon at firstname.lastname@example.org.
1. Best Buy Stores, L.P. v. Burns, LT-2635-01 (Va. Cir. Ct. Apr. 24, 2013)
2. Va. Code § 58.1-621 (emphasis added).
3. The finance company and the retailer in this case were not related. Since it was the independent finance company that bore
the entire risk of loss with respect to any “bad debts,” the retailer was not a “dealer” and was not entitled to the credit.
4. Va. Code § 58.1-602(A).
5. Compare South Dakota Code § 10-45-30 (using stringent I.R.C. §§ 267 and 707 definitions) with DaimlerChrysler Services North America, LLC v. Department of Treasury, 723 N.W.2d 569, 574 (Mich. Ct. App. 2006) (affiliated financing companies are entitled to bad debt deduction since they are “acting as a unit”), superseded by statute.
6. Thank you to Michael Lurie in Reed Smith’s State Tax Group, Philadelphia office, for his contributions to this Alert.
Client Alert 2013-146