United States: Virginia Department Of Taxation Expands Communications Sales Tax Application To Internet Connectivity Fees

On December 8, 2015, the Commissioner of the Virginia Department of Taxation ruled that charges related to Internet connectivity did not fall under the protection of the federal Internet Tax Freedom Act (ITFA).1 In ruling for the Department, the Commissioner relied on its prior rulings in this area to determine that fees were communications services subject to taxation pursuant to the Virginia Communications Sales and Use Tax (CST) Act.

Virginia CST

The Virginia CST is imposed at a rate of 5 percent of the sale of communications services sourced to Virginia. 2 For purposes of the tax, "communications services" are defined as:

The electronic transmission, conveyance, or routing of voice, data, audio, video, or any other information or signals, including cable services, to a point or between or among points, by or through any electronic, radio, satellite, cable, optical, microwave, or other medium of method now in existence or hereafter devised, regardless of the protocol used for the transmission or conveyance. The term includes, but is not limited to, (i) the connection, movement, change, or termination of communications services; (ii) detailed billing of communications services; (iii) sale of directory listings in connection with a communications service; (iv) central office and custom calling features; (v) voice mail and other messaging services; and (vi) directory assistance. 3

A variety of exclusions and exemptions are available from the tax. 4 Specifically, communications services on which the Virginia CST is levied do not include "Internet access service, electronic mail service, electronic bulletin board service, or similar services that are incidental to Internet access, such as voice-capable e-mail or instant messaging. 5

The statute defines "Internet access services" as:

A service that enables users to access content, information, electronic mail, or other services offered over the Internet, and may also include access to proprietary content, information, and other services as part of a package of services offered to users. "Internet access service" does not include telecommunications services, except to the extent telecommunications services are purchased, used, or sold by a provider of Internet access to provide Internet access. 6

In P.D. 06-138, the Commissioner provided guidelines and rules for the Virginia CST. In this guidance, the Commissioner interpreted taxable communications services to include "charges for connection, reconnection, termination, movement, or change of communications services, including Internet services." 7

Overview of Prior Virginia CST Rulings

Since the issuance of P.D. 06-138, the Commissioner has addressed the applicability of the Virginia CST to Internet-related charges in several rulings.

In P.D. 12-148, 8 a taxpayer in the business of providing wireless and cellular service appealed the denial of a refund related to the Virginia CST that it charged erroneously to its customers on fees associated with data-only plans and usage. The taxpayer specifically contested the assessment of tax on regulatory cost recovery, reactivation and activation fees. With respect to these fees, the taxpayer generally argued that the application of tax on these fees should follow the application of tax on the underlying service. Accordingly, if the underlying service is a data service that provides Internet access, a service not subject to the Virginia CST according to statute, 9 then the regulatory cost recovery, reactivation and activation fees should be similarly treated. However, citing the definition of taxable communications services outlined in P.D. 06-138, the Commissioner concluded that the fees were taxable despite the fact that the fees were related to the provision of Internet services.

In another ruling, the taxpayer was assessed Virginia CST on activation fees charged to its customers. 10 The taxpayer in P.D. 14-64 argued that the activation fees were more akin to an equipment or cost-recovery charge. To substantiate its position, the taxpayer showed that the fees were not charged when a customer used its own phone to receive cellular service from the taxpayer. Instead, the fees were only charged for the activation of phones purchased from the taxpayer or outside retailers. In this instance, the Commissioner agreed with the taxpayer and concluded that the fees were exempt from taxation, because the nature of the activation fees more closely resembled equipment cost-recovery charges, rather than fees related to communications services.

P.D. 14-13111 involved a group of taxpayers that provided mobile communications services to end-user retail customers. The taxpayers challenged an assessment resulting from audit on activation fees that were charged to customers who entered into a service agreement that exclusively provided Internet access. The taxpayers asserted that the tax assessment was incorrect, stating that the assessment violated both the Virginia CST and the ITFA. Further, they maintained that even if the activation charges were construed to be taxable under the Virginia CST, the ITFA bars states from assessing taxes on Internet access and thus, this exclusion applies to all charges.

In refuting the taxpayers' argument, the Department asserted that the provision of Internet access services is not strictly excluded from the definition of communications services, as outlined in the Virginia Code. 12 Rather, the statute specifically restricts the application of tax to Internet access services. In rebutting the taxpayers' reliance on the ITFA, the Commissioner stated that, while the Act does prohibit state taxes on Internet access, it does not prohibit the Department from deeming the connectivity charges subject to the Virginia CST. Furthermore, the Commissioner found that the Department is authorized to apply the Virginia CST to communications services as long as such act does not violate the provisions of the ITFA. Consequently, the Commissioner concluded that the Department was within its power to assess tax on the connectivity fees.

Virginia's Recent Ruling Expanding Applicability of Virginia CST

The newest addition to these rulings involved a taxpayer who provides local telephone services and high-speed Internet access to Virginia customers. 13 The assessment resulted from an audit which imposed the Virginia CST on early termination fees, service activation fees, and broadband recovery fees charged to customers. The taxpayer appealed the assessment, stating that the fees were charged for a customer's right to access the Internet and thus, the assessment of tax on these fees under the Act was barred by the ITFA. The taxpayer also relied on P.D. 14-64 in contesting the assessment of tax, stating that fees related to Internet access services are also exempt.

Consistent with prior rulings, the Commissioner agreed with the Department. Specifically, in rebutting the taxpayer's argument, the Commissioner referred to its decision that activation and termination fees fall under the definition of taxable communications services. These fees, while related to the provision of Internet service, are still subject to the Virginia CST. 14 The ruling also stated that the Department is within its power to assess taxes on connectivity charges, provided that these taxes do not violate the provisions of the ITFA. 15 The Commissioner rejected the taxpayer's use of P.D. 12-64, citing that the charges at issue in the taxpayer's situation were more in the nature of taxable telecommunications charges, rather than nontaxable equipment charges.


With this recent ruling, the Department has further clarified its position on the taxability of Internet-related charges with respect to the communications sales and use tax. Despite the IFTA, the Virginia CST is strengthened by rulings that clearly indicate the Commissioner considers any charge or fee not solely related to Internet access charges as subject to the communications sales tax, absent an explicit exemption.

The complexity of telecommunications billing is further highlighted by this ruling, as the Department seeks to impose tax on charges seemingly protected by the IFTA. In addition, the important practice of separately stating any charges that telecommunications providers believe are fairly related to Internet access charges and thus, protected under the IFTA, should be a lesson from this and similar Virginia rulings.

The Commonwealth is not alone in its attempts to circumvent the moratorium on the taxation of Internet access as mandated by the ITFA. For example, some states have tried to tax the purchases or sales of telecommunications services used to provide Internet services by Internet service providers; in 2007, an amendment16 to the ITFA closed this loophole. Several states were able to retain their existing Internet access service taxes through a grandfather provision in the ITFA. 17 Another avenue for directly imposing tax on Internet access is through a non-gross receipts regime, such as Washington business and occupation tax. 18

These creative measures by states to circumvent the moratorium on the taxation of Internet access are likely to multiply in the wake of the ITFA being made permanent. On February 24, 2016, President Barack Obama signed the Trade Facilitation and Trade Enforcement Act of 201519 which made the moratorium on the taxation of Internet access permanent. Additionally, under the Act, the ability of grandfathered states to tax Internet access will end on June 30, 2020. It is estimated that revenue losses for grandfathered states could be as high as $561 million annually and $6.5 billion for all states and the District of Columbia. 20 Given these figures, it is likely that states will be more aggressive in testing the boundaries of the ban as Virginia has done in its recent CST rulings.


1 Ruling of Commissioner, P.D. 15-218, Virginia Department of Taxation, Dec. 8, 2015.

2 VA. CODE ANN. § 58.1-648.A.

3 VA. CODE ANN. § 58.1-647.

4 See VA. CODE ANN. § 58.1-648.B, C.

5 VA. CODE ANN. § 58.1-648.C(vii).

6 VA. CODE ANN. § 58.1-647.

7 Ruling of Commissioner, P.D. 06-138, Virginia Department of Taxation, Nov. 1, 2006.

8 Ruling of Commissioner, P.D. 12-148, Virginia Department of Taxation, Sep. 17, 2012.

9 VA. CODE ANN. § 58.1-648(c).

10 Ruling of Commissioner, P.D. 14-64, Virginia Department of Taxation, May 14, 2014.

11 Ruling of Commissioner, P.D. 14-131, Virginia Department of Taxation, Aug. 7, 2014.

12 VA. CODE ANN. § 58.1-647.

13 Ruling of Commissioner, P.D. 15-218, Virginia Department of Taxation, Dec. 8, 2015.

14 Ruling of Commissioner, P.D. 12-148, Virginia Department of Taxation, Sep. 17, 2012.

15 Ruling of Commissioner, P.D. 14-141, Virginia Department of Taxation, Aug. 13, 2014.

16 Pub. L. No. 114-53.

17 As an example, Wisconsin's enactment is codified in WIS. STAT. § 77.52(2)(a)5.a.

18 See WASH. REV. CODE § 82.04.297(1).

19 H.R. 644.

20 Jennifer DePaul, Effort Afoot to Remove PITFA From Trade Package, TAX ANALYSTS STATE TAX TODAY, Jan. 11, 2016. "Michael Mazerov of the Center on Budget and Policy Priorities said there are seven states currently taxing Internet services under the ITFA grandfather clause -- Hawaii, New Mexico, North Dakota, Ohio, South Dakota, Texas, and Wisconsin. Should Congress approve PITFA and remove the grandfather provision, those states stand to lose $ 561 million annually, Mazerov said. All 50 states, plus the District of Columbia, could potentially lose $ 6.5 billion annually in forgone revenue, he said."

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