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NYC Tax Appeals Tribunal addresses receipts factor calculation of consulting services provider

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The New York City (NYC) Tax Appeals Tribunal has determined that, for purposes of determining the receipts factor of an investment research consulting company’s general corporation tax (GCT) business allocation percentage, a wide range of the company’s costs should be included in the receipts factor sourcing calculation. Specifically, the company was required to consider both internal employee and independent contractor consultant costs that resulted in the company earning its receipts. In its decision, the Tribunal rejected the administrative law judge (ALJ) allocation methodology adopted in its determination which found that the taxpayer’s receipts were not the result of services provided by its internal salespeople.1

BackgroundGerson Lehrman Group, Inc. (GLG), a Delaware corporation with its headquarters and major sales office in New York City doing business throughout the United States, is a subscription business that provides a “platform for independent, primary research to leading investment managers.” GLG enters into subscription agreements with its clients to provide research products and services. The research services are offered through council members who are experts in various fields. Council members are not employees of GLG but instead are non-agent independent contractors. The council members are compensated by GLG, but GLG does not oversee the projects that council members perform for GLG’s clients. GLG also employs consulting managers, research managers and salespeople. Consulting managers are employed by GLG and tasked with locating industry experts for client projects and recruiting them as council members. Research managers are employed by GLG to assist in matching clients to council members and to also assist clients to develop the appropriate questions to ask council members in order for clients to receive their desired information needs. Clients interact with council members by telephone, survey, or small group seminars and roundtable discussions.

     Allocation Methodology

On its original 2003 and 2004 NYC GCT returns, GLG allocated its business receipts on the basis of compensation paid to its salespersons located in NYC, in comparison to all locations. GLG subsequently amended its 2003 and 2004 returns to revise its allocation methodology to exclude compensation to salespersons, and instead included amounts paid to council members, research managers, consulting managers and IT staff located in NYC, in comparison to all locations. In computing the receipts factor for its amended 2003 and 2004 returns, GLG utilized 50 percent of the salary paid to the IT staff and 100 percent of the compensation paid to its council members and 100 percent of the salaries paid to the research managers and consulting managers. The revised allocation methodology used on the amended returns substantially reduced GLG’s receipts factor and led to the company submitting refund requests. The same allocation methodology was employed by GLG on its returns for its 2005-2010 tax years.

Rejecting the GLG’s “cost of performance hybrid method” of allocating receipts, the New York City Department of Finance issued Notice of Determinations for GLG’s 2004-2010 tax years, in which the Department allocated GLG’s receipts to NYC based solely on the location of its salespeople. Notably, this was the same allocation methodology employed by GLG on its original returns for 2003 and 2004.

During the audit process with the Department, GLG also advanced two alternate methodologies for allocating receipts, the first of which considered only the compensation paid to the council members and the second of which considered only the compensation of the council members and the research managers.

The Department denied GLG’s various refund requests. The ALJ rejected the allocation methodologies advanced by both the Department and GLG and adopted an allocation methodology which reflected that GLG’s receipts were the result of services provided by the consultants and research managers, but not its salespeople.2

Characterization of service being providedOn appeal, the New York City Tax Appeals Tribunal rejected the allocation methodologies proposed by the Department and GLG, as well as the methodology adopted by the ALJ, and concluded that GLG’s receipts were generated by the efforts of its council members, consulting managers, research managers, IT staff and salespeople.

The Tribunal explained that the threshold question underlying the allocation calculation is the characterization of the service that was being provided by GLG. In setting the stage to answer that question, the Tribunal cited the historic statute and regulation governing receipts factor sourcing of services. Specifically, the guidance provides that receipts from “services performed within New York City” are sourced to NYC, with consideration of both direct and indirect costs of performance.3 In the case where amounts are received both within and outside NYC, a “time spent” analysis is required, or in the alternative another reasonable method by which the cost of the services performed can be determined.4

While both GLG and the Department agreed that a service was being provided, the Department viewed the service being provided as the finding, engaging and managing of council members by GLG’s employees. The Department argued that this service did not include the provision of information by the council member to GLG’s clients. The basis for the Department’s argument to disregard the services of the council members rested on findings that GLG was not responsible for the information provided by the council members and could not act on their behalf, and thus did not fall within the scope of N.Y.C. Rule Sec. 11-65(b)(1). Specifically, the Department argued that the council members did not act as “agents or subcontractors or any similar persons” as required under N.Y.C. Rule Sec. 11-65(b)(1). As a result, the Department argued that the allocation methodology should be based on the activities of GLG’s employees, including its salespeople, and these activities were primarily performed in GLG’s NYC office during the tax years at issue.

In contrast, GLG argued that only the compensation of the council members and research managers should be taken into account for purposes of the receipts factor calculation because only these two groups provide services to the client. GLG argued that, while the salespeople perform marketing and solicitation activities, they do not “perform or contribute to the performance of services for which GLG is compensated” and, as a result, should not be taken into account.

Rejecting both these characterizations, the Tribunal explained that GLG’s business, viewed as a whole, offers clients subscriptions to its services that are uniquely tailored to each client’s needs. Through these subscriptions, clients get access to a wide-ranging, integrated network in which the consulting managers, research managers, salespeople, IT and other staff all participate to some extent. Research managers match council members with clients and help facilitate the discussions that will occur between clients and council members. IT maintains the database necessary to make these matches. Clients’ fees cover all of these costs. Furthermore, the Tribunal noted that GLG’s salespeople also play an “integral” role in generating service receipts by managing the overall relationship with GLG clients. As a result, the services performed by the salespeople are also required to be included in the calculation of GLG’s receipts factor. Based on this analysis, the Tribunal concluded that GLG’s receipts were a flat payment for a subscription service that was the “product of the efforts of [GLG’s] employees as well as its Council Members performed…[both within and outside] the City.”

Given that the methodologies put forth by the Department, GLG and the ALJ were all incorrect, the Tribunal explained that it had the authority, under N.Y.C. Rule Sec. 11-65(b)(3), to fashion an allocation method based on time spent or another reasonable method. Based on the methodology identified in its decision, the Tribunal calculated a receipts factor for each of the tax years based on information contained in the record and remanded the case to the ALJ Division to recalculate GLG’s GCT liability using the recalculated receipts factors to determine any deficiencies or overpayments, along with interest.

CommentaryThe decision by the Tribunal provides an interesting glimpse into NYC’s historic sourcing of services rule. The case highlights the complexities inherent in identifying the correct composition of the receipts factor as evidenced by the myriad of methodologies proposed in the decision by the parties involved. Initially, the NYC Tax Appeals Tribunal, ALJ Division, held that the receipts should be sourced to the performance of consultants performing the work and not the salespeople selling the work. The Department, meanwhile, advanced a methodology that sourced solely on the salespeople selling the work. The Tribunal’s decision on appeal, however, takes a more measured approach that looks at the totality of the components underlying the creation of the service being provided by GLG.

While the decision is valuable in the insights that it provides, ultimately its value may be limited by two factors. First, the consulting service that was being provided here is a relatively unique service that does not necessarily follow the traditional business model often used by professional service firms and the like (under which partners and employees typically bring in clients and directly provide the services, with minimal independent contractor costs). Instead, GLG utilized both employees and independent contractors in its business. The council members were independent contractors whose work product was intertwined with and dependent upon the integrated efforts of GLG’s research managers, consulting managers, salespeople and IT staff. It should be noted, however, that in some consulting businesses, the use of independent contractors has expanded somewhat in the last few years, so that the specific fact pattern outlined in this matter may occur more frequently now than in the past.

The second limiting factor results from a recent law change in receipts factor sourcing of services, in which NYC has moved to the use of market-based sourcing rules from pro-rata cost of performance, effective for tax years beginning on or after January 1, 2015. To the extent that similarly situated businesses with significant presence in NYC do have open tax years prior to this date, a reevaluation of the receipts factor calculation may be appropriate.



1 In re Gerson Lehrman Group, Inc., New York City Tax Appeals Tribunal, Nos. TAT (E) 08-79 (GC), TAT (E) 12-38 (GC) and TAT (E) 12-39 (GC), December 28, 2017.
2 In re Gerson Lehrman Group, Inc., New York City Tax Appeals Tribunal, Administrative Law Judge Division, Nos. TAT (H) 08-79 (GC), TAT (H) 12-38 (GC) and TAT (H) 12-39 (GC), October 4, 2016.
3 N.Y.C. ADMIN. CODE § 11-604.3(a)(2)(B); N.Y.C. Rule Sec. 11-65(b)(1).
4 N.Y.C. RULE § 11-65(b)(3)(i).



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