Frozen lasagna dispute settles California sales tax

from Dan WaltersCalMatters

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The California Department of Tax Administration and Fees oversees the collection of sales taxes from more than half a million retailers, ranging from giants like Amazon and Walmart to one-person Internet sellers.

The agency audits retailers’ sales tax returns to ensure that state and local governments are receiving roughly $50 billion more than the tax – 10% or more in many communities — generates every year.

One point of potential friction is whether the items being sold are subject to taxation, which is not as straightforward as one might expect. While we can generally assume that food and prescription drugs are exempt from the taxes that apply to everything else, there are actually dozens of other exceptions, and figuring them out can be quite tedious. A recent case before the Office of Tax Appeals illustrates this fact.

A one-woman home-based business in Fontana that operates under several names, including Henry’s Catering, makes lasagna and other foods that are frozen and sold primarily to pharmaceutical vendors who serve reheated meals to doctors and other hospital staff during product launches.

The short version of the complex and lengthy dispute is that Henry’s Catering treats frozen products as tax-exempt because cold food is generally exempt while hot food is generally taxable.

The Department of Tax Administration and Fee Administration audited Henry’s Catering and concluded that the frozen food it sells should be taxed as hot food because it needs to be reheated before it can be eaten.

After negotiations, the agency finally ruled that the owner owed the state an additional $44,949 plus interest, which she appealed to the Office of Tax Appeals. After a hearing, a panel of three adm ruled against Henry’s.

The panel acknowledged that the business owner was eligible because “grocers and other food retailers routinely sell frozen meat lasagna” that is not subject to tax. However, she failed to present evidence to prove it, the board concluded, saying that “overcoming the presumption of taxability requires the applicant to produce evidence which, based on all the facts and circumstances, shows that it is more likely than not that the applicant’s food products were not sold as hot prepared food. The record is short on such details.”

The case of the frozen lasagna is interesting in its own right, but it also illustrates a rarely mentioned fact about not just sales taxes but all forms of taxation—what is taxed and how much is taxed are purely arbitrary decisions by legislators and bureaucrats, driven more by revenue outcomes than by logic or consistency.

The hot vs. cold food provisions in state law demonstrate the arbitrary nature of taxation, as did another controversy a few years ago when the State Board of Equalization, formerly a tax dispute venue, dealt with popcorn.

Theater chain in the San Francisco Bay Area objected to the collection of a tax on popcorn was sold to movie patrons with the argument that the popcorn may have been hot when it was sold but was cold when the customer returned to their seat. The board arbitrarily decided that popcorn was a cold food and therefore not taxable.

The the state issues a brochure which describes dozens of sales transactions that are exempt, including “sales of hot prepared food products to airlines and sales to passengers by such airlines engaged in interstate or foreign commerce,” and lists the monetary value of each.

For example, while consumers must pay taxes on purchases of computer software, custom software that can cost many thousands of dollars is released.

why In 1982, a legislator representing Silicon Valley bill for software developers to make this distinction. The loophole reduces state revenue by $52.3 million annually.

This is arbitrary tax policy in a nutshell.

This article was originally published on CalMatters and is republished under Creative Commons Attribution-NonCommercial-No Derivatives license.