Florida Trend | Florida's Business Authority

Is Mastercard avoiding Florida taxes?

Mastercard has more than 1.8 billion credit and debit cards in circulation. One in every two Americans between ages 18 and 64 — more than 100 million people — has one.

Each time a consumer uses one of those cards, the purchase generates a web of secondary transactions in which money is wired from the consumer’s bank to the merchant’s bank — with a variety of fees flowing to Mastercard in the process.

Those fees add up. Processing billions of transactions from a 500,000sq. ft. technology and operations center in a suburb of St. Louis, Mastercard generated nearly $15 billion in revenue last year, up from $12.5 billion in 2017.

The millions of American Mastercard holders include plenty of consumers in Florida who buy goods and services every day from businesses here. But when it comes time to pay its Florida income taxes, Mastercard argues that none of its sales are made in the state.

The claim stems from a gray area in Florida’s tax rules and how Mastercard chooses to answer a deceptively simple question embedded within them: What generates a company’s revenue? In Mastercard’s case, is it when a consumer actually uses the card? Or is it all the data processing and money transfers that follow the purchase?

Mastercard argues that it’s the follow-up activity, which happens predominantly in Missouri, because that interpretation leads to a lower tax bill in Florida.

But state tax auditors say it’s the initial purchase. The amount of money at stake is substantial: The Florida Department of Revenue, which audited Mastercard’s 2009-14 tax returns, says the Purchase, N.Y.-based company owes $24 million in back taxes, interest and penalties. If the auditors prevail, it could cost the company $5 million or more a year in state income taxes going forward.

Tax laws leave “a lot of room for manipulation. And there’s a lot of room for good-faith disputes,” says Michael Mazerov, a senior fellow and state tax expert at the Center on Budget and Policy Priorities, a think tank in Washington, D.C.

Changing economy

Half a century ago, when most states began to tax corporate profits, it was much easier to figure out who sold what to whom — and where. Most companies built and sold physical products, and the businesses that sold services were usually in the same state as their customers.

States developed standards to determine how much of a company’s business activity occurred within its borders — standards that have remained largely in place since. Typically, states assess how much of a company’s property, workforce and sales are located there. In calculating the precise amount of tax, a state might give each of those factors different weights; Florida puts more weight on sales, for example.

But figuring out where a company makes its money has become more challenging over the years, as multistate and multinational companies proliferated and more of their products shifted from tangible goods to services. To determine how much of a business’s service sales should be allocated to Florida, tax authorities here (and in many other states) long ago adopted what’s called the “cost of performance rule.”

Part of the rule examines whether “income-producing activities” are performed in Florida. But the rule also says that if those income-producing activities are performed in more than one state, then the sales should be attributed to the state where the company incurred the largest share of its costs.

The cost of performance rule is an all-or-nothing proposition. If a company incurs the largest share of its costs in Florida, then all of its sales are assigned to Florida for tax purposes. If it earns the largest share in another state, then none of its sales are attributed to Florida.

That’s the basis for Mastercard’s argument that none of its sales happen in Florida.

Mastercard says it gets most of its revenue from “transaction switching” — processing a sale to determine how much of the proceeds goes to the consumer’s bank and how much to the merchant’s bank.

The company acknowledges that it provides “a very small percentage of its services” at a Florida office where it handles calls from Mastercard customers in Latin America. But it says the vast majority of the transaction-switching services happen at its operations center in suburban St. Louis. And since Missouri is where it incurs most of its costs for transaction switching, Mastercard says all of its sales should be attributed to Missouri, according to lawyers for Mastercard in a formal protest submitted to the state.

A spokesperson for Mastercard, Seth Eisen, says, “we believe the statutory language is very clear and that our tax returns were filed consistent with the law. The overwhelming majority of our activities take place outside of Florida and, consistent with the state’s tax laws, where our activities occur should control how our corporate tax liability is computed. We have, and will continue to, work with the state to clarify any differences of interpretation and bring the matter to a close.”

The Florida Department of Revenue thinks Mastercard is distorting the meaning of income-producing activity. “The income-producing activity isn’t processing the transactions,” a department auditor wrote in a letter to Mastercard, “but rather the actual use of the card. The swipe is what generates the income; therefore, it is the income-producing activity.”

Mastercard has protested the decision and threatened a lawsuit, though it has yet to file one. The company’s lawyers say Mastercard’s business will be “substantially affected” if Florida compels it to pay higher taxes. Paying $5 million or more each year would amount to a nearly 10% increase in the $65 million Mastercard paid last year in state and local income taxes last year, according to regulatory filings.

Different standards

As the fight between the state and Mastercard plays out, there are signs that Florida tax authorities are subtly trying to change the standards to leave less gray area in the state’s tax rules.

Companies realized decades ago they could take advantage of the cost of performance rule by claiming that they incur most of their costs at their headquarters — and that none of their sales should be attributed to any other state where they do business.

Beginning in the 1990s and continuing into the 2000s, many multistate companies began recomputing their tax returns and filing for giant refunds using cost of performance arguments. Among the companies that took states to court in cost of performance fights were Comcast, Vodafone, DirectTV, Dish, AT&T, the University of Phoenix, Equifax and Ameritech. “These were the biggest companies in the United States, and they were all playing games with the factors,” says an attorney from a state revenue department outside of Florida. Many cases made it to verdicts — companies won some, states won others.

As companies began more aggressively interpreting cost of performance rules, many states responded by adopting a different standard known as “market sourcing.” In market sourcing, a company’s sales are attributed to whatever state its customers are in. More than half of the nation’s 50 states now use market sourcing rather than cost of performance, a figure that has more than doubled in just the past decade.

Advocates of market sourcing say it makes it easier and fairer to account for sales across state lines. It also eliminates some of the ambiguity that both companies and state revenue agents attempt to exploit when it comes to defining the income-producing activity.

Florida tax law, though, is in something of a no-man’s land. The state’s tax laws and the Department of Revenue generally describe Florida as a “market state” with a corporate tax structure built around the idea that there are more companies selling into Florida than manufacturing here.

But the cost of performance rule remains in place. The discrepancy has led to a potpourri of tax approaches from companies, depending on where they are based, according to a former attorney for the Florida Department of Revenue.

The Florida Legislature hasn’t bothered to clarify the issue — and it almost certainly won’t because a change would mean increasing taxes on some companies, even while simultaneously lowering taxes for others. The Department of Revenue hasn’t attempted to formally withdraw or rewrite the rule, a process that would almost certainly draw opposition from large, out-of-state companies.

But tax attorneys who practice in Florida say the department appears to be attempting to subtly shift to market sourcing. In recent years, the department has issued a series of legal opinions to companies essentially advising the companies to use the market-sourcing standard rather than cost of performance.

The companies that have sought the guidance include an online university, television production studios, a company operating call centers and a cable provider.

More evidence of a subtle shift: Audits, like the one the department conducted of Mastercard. By arguing that the income-producing activity for Mastercard is the consumer’s actual purchase — and that any purchase made in Florida is a Florida sale — the department essentially adopts a market sourcing standard.


In recent years, both Kansas Citybased Cerner, a health care information-technology provider, and Comdata, a payments technology company for the trucking industry based in Brentwood, Tenn., have sued the department, accusing it of attempting to impose a “nonrule, market-based sourcing policy.” Mastercard’s larger credit-card rival, Visa, also took the state to court in another cost of performance dispute involving Visa’s international subsidiary. All three cases — each of which involved hundreds of thousands of dollars a year in Florida income taxes — were settled, the terms confidential.

“It does seem they are more consistently moving away from cost of performance and trying to move toward market-based sourcing,” says Jim Ervin, a partner specializing in taxes at Holland & Knight.

The Department of Revenue, for its part, is circumspect. “Department audit determinations are based on a specific set of facts and circumstances, as each case is unique,” says a spokesperson for the agency.

Amid the patchwork of differing state standards, companies unsurprisingly seem inclined to take advantage of whichever standard prevails in a given state.

Consider Mastercard. In a state like Florida, where it has a relatively small physical presence but where lots of consumers use Mastercards, the company benefits by using a cost of performance approach to source its sales.

But in a state like Missouri — where it has a big physical presence and thus incurs many of its costs — the company can benefit from using market sourcing and attributing its sales to the states where its customers are. And it just so happens that the Missouri Legislature switched from cost of performance to market sourcing a few years ago.

One of the organizations that lobbied for the change was the business group Associated Industries of Missouri. Mastercard is one of the group’s biggest financial supporters.

Read more in our February issue.

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