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Cooperative Held Liable for Collecting Sales Tax on Sales of Electricity to Shareholders

Client Advisory

March 1, 2001
An Administrative Law Judge for the New York State Division of Tax Appeals ("DTA") has ruled that a corporation that owns a cooperative housing complex in Manhattan must collect sales tax on electricity charges to its residential tenant-shareholders and commercial tenants. The ALJ rejected the cooperative's argument that the electricity charges are part of the rent.

Background


In In re Mutual Redevelopment Houses, Inc. (DTA No. 817075), decided December 7, 2000, Mutual Redevelopment Houses Inc. appealed from a Notice of Determination asserting that it owed sales taxes on electricity charges collected from residential tenant-shareholders and commercial tenants during the audit period (September 1, 1990 through November 30, 1993. Mutual Redevelopment ("Mutual") is a New York corporation formed under the Redevelopment Companies Law (Article 5 of the Private Housing Finance Law) to own and operate a housing cooperative.

Mutual's residential tenants are all shareholders of Mutual. Commercial tenants are not shareholders. Each tenant-shareholder's ownership of shares entitles the tenant-shareholder to occupy an apartment in the cooperative pursuant to an occupancy agreement between the tenant-shareholder and Mutual which sets forth the terms and conditions of the tenant-shareholder's rights to occupancy. Each tenant-shareholder has one vote regardless of the number of shares allocated to that shareholder's apartment. The monthly rentals that Mutual's tenant-shareholders pay pursuant to their occupancy agreements are in addition to the payment they make for the purchase of their shares in Mutual.

Prior to 1982, Mutual did not separately charge its tenant-shareholders for the electricity they consumed. Such charges were instead included in each tenant's monthly carrying charges. In 1982, after approval by shareholder vote, Mutual installed submeters and began to charge its tenant-shareholders for electricity consumed in their apartments based on the submetered readings of their actual consumption. The purpose of submetering was to encourage conservation of electricity and to provide a fairer system of allocating the cost of electricity consumed in the tenant-shareholders' apartments. Mutual makes no profit on submetering.

Since 1986, Mutual has operated a cogeneration plant which produces the electricity consumed by Mutual and its residential and commercial tenants. In addition to electricity, Mutual's cogeneration plant uses the byproducts from the electric generation for other energy purposes, i.e., to heat the domestic water system (hot water), to provide heat for the buildings in the winter and to provide chilled air cooling to the buildings in the summer.

Mutual had never collected or paid sales tax on the chargers it imposes on its residential tenant-shareholders and commercial tenants for electricity provided to them pursuant to their occupancy agreements or leases.

Mutual's Arguments

Mutual argued that its provision of electricity to residential and commercial tenants is not a separate and independent transaction. Rather, Mutual contended that payments by the tenants pursuant to their occupancy agreements and leases should be treated as additional rent.

Alternatively, Mutual argued that only payments by commercial tenants should be subject to sales tax. On this point, Mutual reasoned that it and its residential tenants essentially had a cost-sharing arrangement. As such, reimbursements made to Mutual by its residential tenant-shareholders should not constitute sales.

Division of Taxation's Arguments

The Division argued that Mutual's sales of electricity to residential and commercial tenants is not incidental to the rent charge, but is a separate and independent transaction subject to sales tax.

With respect to Mutual's alternative argument, the Division took the position that Mutual, as a corporation, is a distinct entity separate and apart from its shareholders.

DTA's Ruling

The DTA reviewed the electricity clauses contained in the occupancy agreements and the commercial leases and determined that the monthly electricity charges pursuant thereto represent Mutual's economic cost of providing the electrical services rather than an element of rent. Accordingly, the DTA determined that the electricity charges that Mutual imposed on its residential and commercial tenants, based on submetering, are independent sales of electricity subject to sales tax, not incidents of the leases. The DTA noted that Mutual presented no evidence that its commercial tenants were paying New York City's commercial rent and occupancy tax on the amounts they paid for electricity.

The DTA also found Mutual's alternative argument to be without merit. The ALJ ruled that Mutual and its tenant-shareholders are separate entities, and, as such, transactions between them are subject to sales tax.

Consequences

While there are not many cooperatives or condominiums currently generating their own electricity, this decision could still impact other providers of electricity. Landlords currently buying electric service from third-party providers, and then selling that electricity to tenants through a submetering arrangement, should reconsider whether they may be required to collect sales tax if they are not already collecting.

Mutual recently appealed the determination of the administrative law judge by filing an exception to the determination with the State of New York Tax Appeals Tribunal. The Tax Appeals Tribunal is expected to issue its decision within six months.

Carter Ledyard & Milburn LLP uses Client Advisories to inform clients and other interested parties of noteworthy issues, decisions and legislation which may affect them or their businesses. A Client Advisory does not constitute legal advice or an opinion. This document was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. © 2017 Carter Ledyard & Milburn LLP.
© Copyright 2001

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