1 BEFORE THE CALIFORNIA STATE BOARD OF EQUALIZATION 2 450 N STREET 3 SACRAMENTO, CALIFORNIA 4 5 6 7 8 REPORTER'S TRANSCRIPT 9 DECEMBER 14, 2016 10 11 SALES AND USE TAX APPEAL HEARING 12 APPEAL OF 13 TREASURE BAY, INC. 14 NO. 708575 (JH) 15 AGAINST PROPOSED ASSESSMENT OF 16 SALES AND USE TAX 17 18 19 20 21 22 23 24 25 26 27 Reported by: Kathleen Skidgel 28 CSR No. 9039 1 1 P R E S E N T 2 For the Board of Equalization: Fiona Ma, CPA 3 Chairwoman 4 Diane L. Harkey Vice Chair 5 Jerome E. Horton 6 Member 7 Sen. George Runner (Ret.) Member 8 Yvette Stowers 9 Appearing for Betty T. Yee, State Controller 10 (per Government Code Section 7.9) 11 Joann Richmond 12 Chief Board Proceedings 13 Division 14 For Board of Equalization Staff: Jeff Angeja 15 Tax Counsel IV Legal Department 16 17 For the Department: Andrew Kwee Tax Counsel III 18 Legal Department 19 Lawrence Mendel Tax Counsel III 20 Legal Department 21 Dario Romano Business Taxes 22 Administrator III Business Tax and Fee 23 Department 24 For Petitioner: Don Panec Taxpayer 25 John Hayashi 26 Representative 27 ---oOo--- 28 2 1 450 N STREET 2 SACRAMENTO, CALIFORNIA 3 DECEMBER 14, 2016 4 ---oOo--- 5 MS. MA: Okay. Next issue. Ms. Richmond. 6 MS. RICHMOND: So our next item is Item C2, 7 Treasure Bay, Inc. 8 Please come forward. 9 MR. RUNNER: C2. Treasure -- Treasure Bay. 10 Treasure Bay. 11 MS. MA: Okay. Welcome. 12 Mr. Angeja, please introduce the issues to 13 this case. 14 MR. ANGEJA: Good afternoon, Madam Chair 15 and Members. I'm Jeff Angeja on behalf of the 16 Appeals Division. 17 The appeal before you presents one 18 unresolved issue, which is whether adjustments are 19 warranted to the unreported cost of promotional 20 books given to prospective purchasers. 21 MS. MA: Okay. To the petitioner, welcome 22 to the Board of Equalization. You have ten minutes 23 to make your initial presentation and an additional 24 five minutes on rebuttal. Please introduce yourself 25 for the record, and you may begin your presentation. 26 MR. HAYASHI: Thank you very much, Chairman 27 Ma, Board Members. My name is John Hayashi and I'm 28 the taxpayer representative. To my left is Don 3 1 Panec, president and owner of Treasure Bay, Inc. 2 Mr. Panec will actually be making our 3 ten-minute presentation. And I believe each of you 4 should have the PowerPoint presentation to follow 5 along because he will be referencing that during his 6 presentation. 7 MR. RUNNER: No new information in that? 8 That's the -- 9 MR. HAYASHI: Yes. There is information -- 10 there is new, uh, content in that, yes. 11 But not -- not material -- not major. 12 MR. RUNNER: Okay, okay. 13 MR. HAYASHI: Just refinement, other 14 additional information to support our cause. 15 MR. RUNNER: Okay. 16 MR HAYASHI: Noth- -- no major changes in 17 the position. 18 MR. RUNNER: Okay. 19 MR. PANEC: Uh, first I'd like to thank the 20 Board Members for the opportunity to present to you 21 today. 22 I'd like to start with a little background 23 on the company. Treasure Bay's an educational 24 publishing company. It was founded in 1997, based 25 in Novato, California. The company specializes in 26 selling a patented reading methodology, designed to 27 support parent involvement in reading with children 28 who are usually beginning readers or struggling 4 1 readers. And our sales are primarily to schools and 2 school districts throughout the United States. 3 Over the last five years, our annual sales 4 have ranged from 1 million to 1.3 million dollars, 5 and profits have ranged from 23,000 to 55,000. 6 To market this reading methodology, 7 Treasure Bay produces and mails advertising 8 packages, via US postal service, to schools and 9 school districts. Treasure Bay special orders books 10 for its advertising packages independent from the 11 books ordered for retail sale, and books for 12 advertising are not taken from books in inventory. 13 When certain conditions are present, the 14 advertising package con- -- advertising package 15 contents are printed sales messages not subject to 16 sales or use tax in California. 17 In the audit, the BOE did not dispute 18 Treasure Bay's documentation that the contents of 19 the advertising package were printed to the special 20 order of Treasure Bay, delivered by the seller to a 21 mailing house which mail the advertising packages, 22 and received at no cost by the recipients. 23 The contents of the advertising package, 24 there's four contents. One is a catalogue; you have 25 a copy of that. There's also a -- a letter that's 26 inserted into the envelope, along with a book, and 27 you all have a copy of the book as well. And 28 there's also the envelope, which, as you can see, 5 1 also has advertising on it as well. 2 The "We Both Read" book is the only content 3 of the advertising package in dispute for sales or 4 use tax liability. Treasure Bay's "We Both Read" 5 book is inserted in the advertising package as a 6 visual enhancement, advertising Treasure Bay's 7 reading method, and should be exempt as an integral 8 part of the printed sales message. 9 The BOE has allowed non listed printed 10 items to be considered a part of printed sales 11 messages. And it exempts the entire package when 12 the principal purpose of the entire message is 13 advertising or promoting goods or services. 14 The principal purpose, after including the 15 "We Both Read" book in the advertising package, is 16 to advertise and promote the patented reading 17 methodology in the "We Both Read" series. 18 The unique reading method of the "We Both 19 Read" books was granted a US patent. The reading 20 method involves specially written books with 21 changing reading levels which are designed to allow 22 a parent or tutor to take turns reading with a 23 beginning or a struggling reader. 24 This reading methodology is difficult to 25 communicate to educators in a normal advertising 26 catalogue. However, the "We Both Read" book quite 27 effectively displays, communicates, and promotes the 28 reading method and is therefore an integral 6 1 component of the sales message as evidenced by the 2 following: 3 First, we track sales by specially marking 4 our advertising packages. And we've determined that 5 the inclusion of the "We Both Read" book in the 6 advertising package increases the sales response 7 rate by 260 percent versus simply sending them a 8 catalogue. Frankly, the reason that we include the 9 book is because it is effective advertising. 10 We did a survey of our school customers and 11 it confirmed that the included "We Both Read" book 12 effectively communicated and promoted the "We Both 13 Read" series and was a significant factor in their 14 decision to purchase the program. 15 In the exhibits which you've been provided, 16 we've included a packet of sample responses from the 17 schools. But I'd like to read one quote from a 18 school librarian here in Belmont, California. She 19 states: 20 "I'm a librarian at an elementary 21 middle school, serving students with 22 dyslexia and other language-based learning 23 differences. I can state definitively that 24 the sample book included in your 25 introductory mailing was a key factor in 26 our decision to purchase titles from your 27 company. Because I had never seen a book 28 written in the two reading level format 7 1 before, it was extremely helpful to be able 2 to look through the book and show it to the 3 teachers who work with our students." 4 The next page is allowable exceptions. In 5 Regulation 1541.5, items that are not catalogues, 6 letters, circulars, brochures or pamphlets can be 7 deemed printed sales messages when certain 8 situations exist. 9 In Regulation 1541.5(a)(1), it states that 10 the term "printed sales message" includes various 11 other printed matter, including coupon books. It 12 also states that the term does not include various 13 printed matter unless they meet the principal 14 purpose of advertising or promoting goods or 15 services. 16 On the next page, page 8, notably the BOE 17 in Publication 37, uh, states that the definition of 18 "printed sales message" includes -- and here it 19 lists -- has a list of printed items that ends with 20 "coupon books and other such items." 21 Publication 37 also states that the term 22 does not include -- and here it lists various types 23 as printed items, including newspapers or 24 periodicals, calendars and directories that are not 25 included except when they meet the principal purpose 26 of advertising or promoting goods or services. 27 For example, the "We Both Read" books at 28 issue could meet an exception if they're akin to 8 1 newspapers and periodicals as suggested by the BOE 2 on page 3, footnote 3, in the Appeals Division Board 3 Hearing Summary, and they meet the principal purpose 4 of advertising or promoting goods and services. 5 And on page 9 is why "We Both Read" is a 6 printed sales method exception. 7 The "We Both Read" books become a part of 8 the exempt printed sales message when they're 9 inserted in Treasure Bay's advertising package. 10 Under Regulation 1541.5(b)(8), it states that "Other 11 printed matter" -- and please note, uh, that the, 12 uh, type of printed matter here is not specified. 13 It says, "will be considered a part of the printed 14 sales message when such property is inserted in, 15 stapled, glued, or otherwise affixed to the printed 16 sales message in such a manner there becomes a 17 component or integral part of the printed sales 18 message." 19 And, if needed, we can provide examples of 20 other printed matter that by itself was not exempt, 21 but when inserted in an advertising package was 22 exempted by the BOE. 23 With the "We Both Read" book Treasure Bay's 24 advertising package for the "We Both Read" series 25 meets the principal purpose of advertising or 26 promoting the goods or services requirement because 27 more than 54 percent of the advertising package is 28 clear promotional content as computed in the 9 1 following slide. Thus, Treasure Bay's entire 2 advertising package is an exempt printed sales 3 message. 4 There's a chart on the following page, but 5 we'll skip ahead to the compliance with the 6 legislative history. 7 Including the "We Both Read" books as part 8 of an exempt printed sales message meets the 9 rationale of the Printed Advertising Materials 10 Program of Section 6379.5 and Regulation 1541.5 as 11 summarized by the Legislative Analyst's Office 12 because it does provide tax equity for California 13 printers. 14 A contract for California's advertising 15 package with an out-of-state printer would not 16 subject -- would not be subject to sales or use tax, 17 whereas the BOE's current assessment is subjecting 18 Treasure Bay's advertising package to tax. 19 And in summary, the determinative issue is 20 whether Treasure Bay's promotional books are exempt 21 as a printed sales message. The "We Both Read" 22 books, we admit, on their own are not printed sales 23 messages. However, Revenue and Tax Code Section 24 6379.5 and Regulation 1541.5, printed sales messages 25 do allow for items that are not catalogues, letters, 26 circulars or brochures or pamphlets to be exempt 27 printed sales messages if certain conditions exist. 28 Regulation 1541.5(a)(1) states that the 10 1 term "printed sales messages" includes many 2 different printed items, including coupon books. 3 The same regulation also states that the 4 term does not include other types of printed matter 5 unless they meet the principal purpose of 6 advertising or promoting goods or services. Thus, 7 when the items listed do advertise or promote goods, 8 they too can qualify as printed sales messages. 9 BOE Publication 37 makes it more clear with 10 additional language that other items can be a 11 printed sales message when it defines printed sales 12 message as a term that includes a list of other 13 printed items that ends with "coupon books and other 14 such items." 15 And on the last page, Publication 37 also 16 states that the printed sales message term does not 17 include -- and here it lists various types of 18 printed items, including newspapers or periodicals, 19 calendars and directories that are not included 20 except when they meet the principal purpose of 21 advertising or promoting goods or services. 22 And again, exceptions are definitively 23 recognized by the BOE. 24 The "We Both Read" books become a printed 25 sales message when they are inserted in Treasure 26 Bay's advertising package because Regulation 27 1541.5(b)(8) states that, "Other printed matter will 28 be considered part of the printed sales message when 11 1 such property is inserted in the printed sales 2 message in such a manner that it becomes a component 3 or integral part of the printed sales message." 4 The principal purpose of Treasure Bay's 5 advertising package with a "We Both Read" book is to 6 advertise or promote our goods or services as 7 defined because more than 54 percent of the total 8 advertising package is clear promotional content. 9 Therefore, Treasure Bay's entire advertising package 10 is an exempt printed sales message, including the 11 "We Both Read" book. 12 Exempting the "We Both Read" books also 13 meets the rationale of the Printed Advertising 14 Materials Program as articulated by the Legislative 15 Analyst's Office, which is to provide equity for 16 California printers by not subjecting the California 17 print job tax. 18 And I'm sorry if I rushed through that a 19 little bit. 20 MS. MA: Nope. That was good. 21 All right. To the Department, please 22 introduce yourself for the record. You'll have ten 23 minutes. 24 MR. KWEE: Good evening, Chairwoman Ma and 25 Members of the Board. I am Andrew Kwee with the 26 Board's Legal Department; and with me today is Larry 27 Mendel, also with Legal, and Dario Romano with the 28 Business Taxes and Fees Department. 12 1 The children's books the petitioner gave 2 away are sample merchandise and, as such, they do 3 not qualify as printed sales messages printed to the 4 special order of the customer. 5 Section 6378.5 provides an exemption for 6 the sale and the purchase of printed sales messages 7 when certain requirements are met. Among those 8 requirements, the exemption is limited to certain 9 printed sales messages for goods and services which 10 are printed to the special order of the purchaser. 11 Specifically, Regulation 1541.5 subdivision 12 (a)(1) restates the statute and provides the term 13 "printed sales message" means and is limited to 14 catalogues, letters, circulars, brochures and 15 pamphlets printed for the principal purpose of 16 advertising or promoting goods or services. 17 Thus, the issue in this appeal is whether 18 the mass market paperback children's reading books 19 constitute items such as special order catalogues, 20 letters, circulars, brochures and pamphlets printed 21 for the principal purpose of advertising goods and 22 services. 23 Now, petitioner purchases all of the books 24 that it sells from Singapore. The petitioner 25 occasionally gives away some of the children's 26 reading books to potential customers free of charge 27 as sample merchandise. These books are ordered and 28 shipped at the same time as the resale inventory. 13 1 The only difference is that the books that 2 petitioner -- the only difference is that petitioner 3 instructs the seller that a certain amount of the 4 entire order -- for example, 40,000 books in the 5 spring 2010 order -- are to be packed on a separate 6 pallet and labeled as "promo." 7 So with the books, the resale inventory and 8 the promo books are exactly the same book. Now this 9 book is sold on Amazon.com, shipped from and sold by 10 Amazon and other retailers such as Barnes and Noble 11 and other major retailers. The book that you would 12 buy there on Amazon or Barnes and Noble is this 13 exact book. This book comes with the price tag, the 14 ISBN number, and it's a copyrighted book. 15 So with regard to the advertising packet, 16 the advertising or the mailing packet consists of 17 four items. One, it has a catalogue, listing items 18 for sale. And the catalogue lists the various books 19 that petitioner sells, including the "We Both Read" 20 book. And this was allowed in the audit as a 21 printed sales message. 22 Next, we have the children's reading book. 23 And this -- this is sample merchandise. So on one 24 hand you have an advertisement for sample 25 merchandise -- an advertisement for books, selling 26 books, selling goods and services, and on the other 27 hand you have the good being advertised for sale for 28 4.99. 14 1 The next is the envelope. The envelope was 2 allowed as a container for a printed sales message 3 which is specifically allowed under the regulation, 4 under Subdivision (b)(7). 5 And the fourth item is a letter advertising 6 the book for sale. The letter was actually 7 purchased -- printed and purchased from a vendor in 8 California, so this was separate from these other 9 three items. And the letter -- in the letter the 10 petitioner basically guarantees, quote, "The books 11 will dramatically increase your student's fluency 12 scores," end quote. The letter also states, quote, 13 "When compared to other books for at-home reading, 14 the use of the 'We Both Read' series resulted in 15 significantly greater improvements in fluency." 16 So based on petitioner's own description of 17 his book, these books do not constitute printed 18 sales messages advertising goods or service. 19 Instead, this book and the others in the series, 20 these are the goods and services being advertised. 21 So basically you have to draw a distinction between 22 the advertisement and the product being sold. 23 So in the, um -- if you open up the 24 catalogue, this catalogue has the same book. It 25 lists it for sale. The price is 29.99 for the big 26 book edition; 9.95 for hard cover edition; or the 27 4.99 for paperback edition, which is this book right 28 here. 15 1 Under -- under the statute, the advertising 2 letter and the catalogue are each listed items under 3 the statute and the regulation and included in the 4 definition of a printed sales message. And as such, 5 both -- both items were allowed in the audit. 6 The envelope -- the envelope is a container 7 for a printed sales message and was allowed as a 8 container. And, um, as petitioner's own letter 9 explains however, these books are designed to teach 10 children to read. These books are the sample -- 11 these books are the merchandise being advertised for 12 sale. They're not advertisement for goods and 13 services. These are the goods. 14 So these are not special order 15 advertisements printed -- and designed and printed 16 for the purpose of advertising. These are 17 merchandise designed to teach children to read. 18 So under Regulation 1541.5, sample 19 merchandise and, quote, "containers for sample 20 merchandise," end quote, are excluded from the 21 exemption. This is clearly sample merchandise. 22 And to briefly address two of the 23 contentions that the petitioner raised in the 24 opening. Petitioner basically, I think, was arguing 25 that any item can qualify as a printed sales message 26 if it meets the principal purpose of advertising or 27 promoting goods and services. And that is simply 28 not the case. The petitioner is quoting from 16 1 subdivision (a)(1) of Regulation 1541.5 and that 2 "unless" is referring only to directories. 3 Now, this regulation, "directories" were 4 added solely for the purpose of allowing yellow 5 books to qualify if more than half of the yellow 6 book was basically advertisements, and that is 7 stated clearly in the rulemaking history. 8 I have a copy of the rulemaking history, 9 and I can provide a copy of the rulemaking history 10 which states that the "unless" provision refers only 11 to directories, if that's something the Board 12 Members would like to see. 13 The second issue that the petitioner had 14 raised was that this allowing the exemption would be 15 consistent with the legislative history, and that's 16 simply not the case. The legislative history makes 17 it clear that the policy in this exemption was to 18 protect in-state retailers from a scenario where a 19 purchaser purchases something in California and it's 20 taxable, but they purchase it from an out-of-state 21 printer, and that's not -- and that would be 22 nontaxable. 23 Now, petitioner purchased these books from 24 an out-of-state printer and we're saying that's 25 taxable. But he's trying to make this basically a 26 nontaxable scenario. That's not what was intended 27 to be covered by the statute. 28 Thank you. 17 1 MS. MA: Okay. Thank you very much. 2 Okay. To the petitioner, you have five 3 minutes on rebuttal. 4 MR. HAYASHI: Okay. Thank you very much. 5 To reiterate our position, um, we 6 recognize -- 7 (Microphone feedback.) 8 MR. HAYASHI: That's okay. 9 We recognize that the printed sales message 10 law and regulation. 11 (Microphone feedback.) 12 MR. HAYASHI: Am I saying something wrong? 13 MR. RUNNER: I'm trying to get power here. 14 (Microphone feedback.) 15 MS. MA: Hold on a minute. 16 MR. HAYASHI: Sure. 17 MR. RUNNER: Go for it. Go ahead. 18 MR. HAYASHI: Okay. 19 We recognize that the printed sales message 20 law and regulation just are not clear. That we 21 still believe our position that we have an 22 interpretation of law that is correct and that -- 23 (Microphone feedback.) 24 MR. HAYASHI: -- there are exceptions to 25 the printed sales message other than the items 26 listed as letters, catalogues, etcetera, etcetera. 27 And that we believe that our book is part of an 28 exempt printed sales message. 18 1 But in lieu of that, based on the Board of 2 Equalization -- 3 (Microphone feedback.) 4 (A discussion between staff was held off 5 the record.) 6 MS. MA: Start all over. Please. 7 MR. HAYASHI: My name is -- 8 No, I'm just kidding. 9 MR. RUNNER: No, not that -- not that 10 part. 11 MR. HAYASHI: Okay. No, we do state that 12 the printed sales message regulations and law is 13 just not clear. But we still believe that our 14 interpretation of law is correct. But we also 15 realize that even if the Board's position prevails, 16 that our interpretation and application of the law 17 is still a reasonable interpretation of what is out 18 there currently. 19 Like I say, we believe that there are 20 exemptions based on mainly the interaction between 21 1541.5 Regulation and also Publication 37. We've 22 looked at those side by side and a couple of points 23 that we wanted to make is in just what our position 24 is. 25 In 1541.5(b)(8) we wanted to emphasize 26 this, that it does say that their printed matter 27 would be considered part of the printed sales 28 message when such property is inserted in, in any 19 1 manner that it becomes a component or integral part 2 of the printed sales message. 3 So we believe that we have other printed 4 matter. It's considered part of the printed sales 5 message when it's inserted into the envelope. 6 So that's the main reason why we believe 7 that it is a printed sales message. 8 Now, to address those -- some of the items 9 in -- in Mr. Kwee's presentation, I guess we were 10 thinking that, why can't the book be advertising and 11 goods? That clearly we have a printed -- a patented 12 method of reading that is clearly better understood 13 when you see the actual book and the reading. 14 And because of the research that they have 15 done where they've identified their catalogues and 16 it comes back with an order, with a book, and they 17 said 260 percent increase in sales. So that's why 18 we -- that Mr. Panec continues to pay the expense to 19 send out the actual books. 20 Okay. And the other main point is that we 21 just believe that the regulation and Publication 37 22 are not consistent in clearly identifying that only 23 those items listed in the regulation and legislation 24 "catalogues, letters, circulars, brochures and 25 pamphlets" are exempt. 26 For example, as we mentioned, in 27 Publication 37 it does say the items. But then it 28 also adds the words at the end "and other such 20 1 items." So you don't see that in the legislation 2 you don't see that in the beginning of -- in the 3 regulation at all. But then in the Publication 37 4 it adds the words "and other such items." 5 Also, when we were comparing the two, in 6 the regulation it uses the words that "these items 7 are not included unless they meet the principal 8 purpose of advertising," but then in the Publication 9 37 it changes that word to "except" when they meet 10 the principal purpose of advertising or promoting 11 goods or service. 12 So you ask why there was a change in the 13 words, and it seems to make the newspapers, 14 periodicals, calendars, note pads, when they meet 15 the principal purpose of advertising or promoting 16 goods or services qualify when they do meet that 17 principal purpose of advertising or promoting goods. 18 So those were the two main things. They 19 made some changes in the law, but they didn't -- why 20 did they make those? And that's where they're not 21 clear and we went back to 15 -- I mean, sorry, 14 -- 22 the regulation, 1541.5(b)(8). Again, other printed 23 matter, part of the printed sales message -- it's 24 part of the printed sales message when inserted into 25 the message. 26 We wish there was more clarification and 27 more consistency in the position the Board has 28 stated that it should only be circulars, brochures, 21 1 letters, catalogues and pamphlets, but we didn't see 2 that. 3 MS. MA: Ms. Harkey? Not ready? 4 MS. HARKEY: I'll go. I -- I -- I may come 5 back though because I've -- I've been looking at 6 this and I've been really -- we've actually paid 7 quite a bit of attention to this. 8 Um, okay. The Department, you stated that, 9 um -- and I need some clarification on this 10 because -- okay. It's the part where -- to deal 11 with the -- oh, okay. Okay. 12 "Including the 'We Both Read' books as 13 part of exempt printed sales message meets 14 the rationale of Printed Advertising 15 Materials Program of section 6379.5 and 16 Regulation 1541.5 as summarized by the 17 Legislative Analyst's Office because it 18 does provide tax equity for California 19 printers." 20 Now you challenged that statement. Would 21 you go through that again with me. 22 MR. KWEE: Uh, yes. Certainly. 23 So the purpose of enacting Revenue and 24 Taxation Code section 6379.5 was to protect the 25 California printing industry. So the problem before 26 this happened was, um, there was issues where if a 27 person purchased advertisements from a California 28 printer then they would be charged tax, they'd have 22 1 to have pay the tax. 2 But if they went instead and purchased it 3 from the out-of-state printer, then that would be a 4 nontaxable or exempt transaction. So the California 5 printers were at a disadvantage economically because 6 the incentive would simply be to go out of state and 7 not have to pay tax. 8 Now, in this scenario, with this -- with 9 this issue, what is happening is we have a scenario 10 where the petitioner is purchasing something from 11 out of state and this is something that we believe 12 is purchased for use in California subject to -- to 13 tax. But the petitioner actually is trying to make 14 the opposite and turn this into a nontaxable 15 transaction. 16 So we don't see that this is something that 17 is what the statute was designed to remedy. 18 MS. HARKEY: Okay. So the statute was 19 designed to remedy, to protect California 20 printers. 21 MR. KWEE: That's correct. 22 MS. HARKEY: Right. Now in this case, this 23 book is printed out of state? 24 MR. KWEE: This book is purchased and 25 printed in Singapore and brought into California. 26 And it's shipped from California to the, um, persons 27 who will receive it free of charge. And therefore, 28 it's purchased for use in California because at the 23 1 time that it's dropped into the mail, that is 2 considered the taxable use. And we're saying that 3 the petitioner owes use tax based on the purchases 4 of the books, on their purchase price. 5 MS. HARKEY: Okay. So for the taxpayer, 6 how do you find that, uh, the summary by the 7 Legislative Analyst's Office supports your case? 8 MR. HAYASHI: Because the mailing house in 9 California is part of the printing process, would be 10 our position, that the alternative for our taxpayer 11 would then to be to move that portion of the 12 business out of state also. 13 MS. HARKEY: Move the mailing house out. 14 MR. HAYASHI: Yes. 15 MS. HARKEY: Okay. 16 MR. HAYASHI: We -- we acknowledge that the 17 printing is actually done out of -- out of 18 California. But if part of the -- the printing 19 process, the purchase that Mr. Panec's company made, 20 and therefore -- 21 MS. HARKEY: Okay. The alleged -- the 22 staff is saying that this is to protect the 23 printers. You're saying, in essence, it's to 24 protect the mail house? 25 MR. HAYASHI: Uh, the printing industry, 26 the printing process. We would include the mailing 27 house in that process. 28 MR. PANEC: And we do also print the 24 1 envelope and the letter here in California as 2 well. 3 MS. HARKEY: Okay. 4 Um, can you go over the 54 percent, explain 5 that, greater than 50 percent advertising content? 6 MR. HAYASHI: Sure. 7 MS. HARKEY: Because that's one of your 8 points and that's -- you are saying that it 9 qualifies for being nontaxable because it's over the 10 50 percent. How does that work? 11 MR. HAYASHI: In Publication 37 it defines 12 the principal purpose of advertising, promoting 13 goods or services, as when it is over 50 percent of 14 the printed material, it then meets that 15 qualification of having the principal purpose of 16 advertising of promoting goods or services. 17 So when we say under 1541 -- I'm sorry, 18 1541.5(b)(8) that it's included as part of that 19 printed sales message, then we have to meet that 20 definition. 21 So we went through and we did the breakdown 22 between the informational content and the 23 promotional content and did the measurements by 24 square inches, came up with a computation that 54.32 25 percent of the promotional content versus 45.68 of 26 the informational content meets the definition of 27 principal purpose of advertising or promoting goods 28 or services. 25 1 MS. HARKEY: Okay. So what you're saying 2 then, in essence, this being part of your promotion, 3 that this is in fact only 44 pages or 45.68 percent. 4 And the rest of this package that is mailed out is 5 actually 54 percent. 6 MR. HAYASHI: Yes. 7 MS. HARKEY: So therefore you can include 8 it. 9 MR. HAYASHI: Yes. 10 MS. HARKEY: How do you -- how do you 11 respond to that? 12 MR. KWEE: Yes. And that's simply not the 13 way we do it. I mean, they're turning this into 14 basically a calculus equation. This is very simple. 15 You have the container for the printed sales 16 message; that's one item. We look at that single 17 item and it's exempt under the specific provision of 18 the regulation as a container. 19 Next, you have the letter that's a listed 20 item. It's a printed sales message. The letter is 21 exempt because both pages are advertising. 22 Um, and then you get to the book. The book 23 is, um -- it's reading material. So it's -- it's 24 not a -- it's not a printed sales message. 25 I mean, and we just don't do the, uh -- I 26 mean like, he's basically -- I guess the 27 petitioner's argument is that you add up the square 28 inches of advertising space in the entire package 26 1 and then you -- per page, and then you divide that 2 by the total volume of advertising per page to get a 3 percentage. And I mean that's just, uh, too 4 complicated. 5 We don't -- this doesn't involve a 6 calculator. It's very simple. You just add up the 7 number of pages, is more or less than half the pages 8 for advertising. If it's less than half, it's -- 9 it's not a printed sales message. If it's not a 10 listed item, it's not a printed sale message. 11 That's just the way that we do this. 12 This is clear in our annotations, too. I 13 could cite some annotations where it basically just 14 says, you know, you have the -- you go item by item 15 and you look at the page numbers. Is it more or 16 less than half advertising, and is it a listed item? 17 That's -- I mean I think it's just that simple. 18 MS. HARKEY: Okay. So you're looking item 19 by item, is it more than half the pages. So if this 20 had advertising in more than half the pages, then 21 you would consider it -- 22 MR. KWEE: If this was -- 23 MS. HARKEY: -- a printed sales message. 24 MR. KWEE: Right. 25 MS. HARKEY: And but not as the -- you're 26 not looking at as the entire package. 27 MR. KWEE: That's correct. 28 And I'd also point out that this is the 27 1 good for sale. This is sample merchandise. It's 2 not an advertisement. I mean it's something that 3 the petitioner's selling for 4.99. I'd like to draw 4 that distinction also between an advertisement for a 5 good and service and the actual good. 6 MR. HAYASHI: Is it appropriate to respond 7 or -- 8 MS. HARKEY: Yes. 9 MR. HAYASHI: Okay. 10 MS. HARKEY: Certainly. Thank you. 11 MR. HAYASHI: The use of the pages would be 12 rational or reasonable if all the pages were the 13 same size. 14 As you'll see in our package, advertising 15 package, they aren't all the same size. So to use a 16 pages computation did not make sense. It made more 17 sense to do the actual square inches so that you've 18 got a base of what is being communicated. Is it 19 advertising or is it non advertising? Okay. 20 And there again, if the Board's position 21 was such, then it -- we feel it should have been 22 clearer or more better articulated in the 23 regulations, statute, publication. 24 Yes, there might be some annotation, but, 25 you know, we also found annotations that were 26 positions contrary to that. So it was clear to us 27 through these inconsistent annotations that we found 28 that it isn't as simple as if you're a letter, 28 1 circular, brochure, pamphlet or printed for 2 principal purpose, if you're not one of those, 3 catalogues, letters, circulars, brochures or 4 pamphlets, that you are not a printed sales message. 5 That just didn't come through when we look at the 6 printed sales message in the Publication 37 and in 7 some of the annotations. 8 MS. HARKEY: I -- I agree. I think there's 9 a lot going on here. It is very confusing, but I'll 10 let somebody else take -- there's just -- there's a 11 little conflict. 12 MS. MA: Well, it seems like everyone's 13 talking by advertising. So what is the definition 14 of advertising? 15 MR. KWEE: That's basically a message to 16 promote the sale of goods or services. So we have 17 the definition of a printed sales message in 1541.5 18 and it says it's -- "A printed sales message means 19 and is limited to catalogues, letters, circulars, 20 brochures, pamphlets printed for the principal 21 purpose of advertising or promoting goods or 22 services. 23 Then the next sentence goes on to make 24 some, um -- it says the term includes such items as 25 department store catalogues, brochures, advertising 26 automobiles, vacation circulars, advertising 27 professional services and coupon books. And then it 28 lists what the term does not include. 29 1 MS. MA: But it says "and other such 2 items." 3 MR. KWEE: But, um, it says -- 4 MS. MA: What does that mean, "other such 5 items"? 6 MR. KWEE: It says directories, unless they 7 meet the principal purpose of advertising or 8 promoting goods and services. And that "unless" is 9 referring only to the directories. And that's clear 10 in the, uh, rulemaking history that we specifically 11 added that phrase -- "directories unless they meet 12 the principle purpose of advertising or promoting 13 goods and services" -- because we were responding to 14 concerns that yellow -- the Yellow Pages would not 15 qualify. So this was added for telephone 16 directories. That "unless" does not refer to any of 17 the other items listed in the subdivision. 18 MS. MA: Okay. So that "other such items" 19 term only applies to directories. 20 MR. KWEE: The -- yes. The "unless they 21 meet the principal purpose," that only refers to the 22 directories. And I could -- if you, if you like, I 23 printed out six copies of the rulemaking history. I 24 can pass that out. 25 MS. MA: Sure. Okay. 26 MR. MENDEL: I -- I think the key 27 disagreement here is whether the analysis is done 28 item by item or not. And the Board has always 30 1 applied this item by item. And a fair reading of 2 the statute, the regulation, and the publication is 3 that each item must meet the principal purpose 4 test. 5 MS. MA: So, um, Mr. Kwee's argument was 6 because the book is the same as the book that is 7 sold, like had it said "sample" on it, you know, no 8 SKU, the price was free or something -- if the book 9 that was in that packet was different than the book 10 that sold on Amazon, for example, then would that 11 have been considered like a sample? 12 MR. KWEE: I think the concern is that it's 13 not -- it's still not 50 percent advertising. 14 This is a children's reading book. It's 15 discussing, you know, animals. You would have to 16 have -- it would have to be printed for the 17 principal purpose of advertising a good and service. 18 And I mean like, I think the fundamental 19 block that we have is that this is the good. It's 20 not advertising anything. It's teaching children 21 how to read. And it's not 50 percent printed -- 22 designed and printed, you know, specifically for 23 advertising of a good or service. 24 MS. MA: Okay. 25 MS. STOWERS: I have a question. 26 MS. MA: Ms. Stowers. 27 MS. STOWERS: So kind of following up on 28 what Ms. Ma just said. So if the book only had 31 1 three pages of the sample reading topic, would that 2 be advertisement? 3 MR. KWEE: Um -- oh -- 4 MS. STOWERS: If they -- if they -- if they 5 printed a special book, but they only gave three 6 pages of what the book would actually entail. 7 MR. KWEE: Right. And if the remaining 8 pages were advertisements like listing other, um, 9 books that they sell, then that would be something 10 that we would consider like a catalogue, you know, 11 like listing items for sale. But then this is not a 12 catalogue. This is -- this a reading book. 13 MS. STOWERS: So just not a sample of the 14 book. It has to be -- 15 MR. KWEE: Principally -- 16 MS. STOWERS: -- a brochure -- a brochure 17 saying, "Here's some of the books that we sell and 18 this is some of the contents that the books would 19 have." 20 MR. KWEE: Right. 21 MS. MA: But what if the book only had 22 three pages? 23 MR. KWEE: If it only had three pages of 24 reading materials? 25 MS. MA: Yeah. 26 MR. KWEE: Right. And then I don't think 27 we would consider that a reading book. I think that 28 would probably, you know, be something like a 32 1 catalogue or it'd be something that we would 2 consider as primarily for advertising. 3 MR. MENDEL: If it had three pages. 4 MR. KWEE: Right. 5 MR. MENDEL: If it had three pages of 6 reading and four pages of advertising, then it could 7 quite possibly be a printed sales message. 8 MS. MA: Okay. 9 MR. MENDEL: Part of the problem is that 10 the regulation and statute require that the printed 11 sales message be printed to special order. And 12 these are not printed to special order. These are 13 the same books that they sell everywhere else. 14 They're just shipped on a separate pallet. 15 That's another one of the problems with 16 meeting the statute and regulations. It's the book. 17 It's a sample item. It's not a printed sales 18 message. It's not printed to special order, and 19 it's not one of the items listed in either the 20 statute or reg. that could qualify. 21 MS. MA: Okay. Mr. Runner. 22 MR. RUNNER: Um, let me start from the 23 beginning. Why is this included in the packet? 24 MR. PANEC: The reason it's included in the 25 packet is because it's fantastic advertising for us. 26 MR. RUNNER: Okay. 27 MR. PANEC: It's obviously very expensive 28 for us to send that -- 33 1 MR. RUNNER: Okay. 2 MR. PANEC: -- to the -- 3 MR. RUNNER: So it's included because it 4 helps make the sale. 5 MR. PANEC: Yes. 6 MR. RUNNER: Okay. 7 MR. HAYASHI: It's because it's that 8 patented reading method -- it was just a book. 9 MR. RUNNER: Okay. It helps make the sale, 10 right? 11 MR. HAYASHI: Yes. 12 MR. RUNNER: Okay. 13 MR. HAYASHI: Because of the patent. 14 MR. RUNNER: Is it necessary to make the 15 sale? 16 MR. PANEC: Yes. 17 MR. RUNNER: Is that right? 18 MR. PANEC: Yes, that is right. Because we 19 have, uh, time and time again we have tested simply 20 sending a catalogue. And we don't get enough return 21 on our investment when we simply send a catalogue 22 for it to be cost effective. 23 MR. RUNNER: Okay. That wasn't my 24 question. 25 MR. PANEC: Oh, I'm sorry. You go ahead. 26 MR. RUNNER: So you can still sell, you 27 just don't sell as many of them. 28 MR. PANEC: It wouldn't -- since it's not 34 1 cost effective, we wouldn't have necessarily a 2 viable business if we couldn't include that as part 3 of our advertising. 4 MR. RUNNER: Okay. 5 MR. PANEC: So -- so -- 6 MR. RUNNER: Okay. Okay. I hear you. 7 MR. PANEC: Okay. 8 MR. RUNNER: But -- but, again, I would -- 9 I would submit that you could probably do that 10 without sending the whole book. You would go ahead 11 and send the examples of the pages. And then you 12 would send other advertising on the rest of the 13 pages and that becomes then a part of the 14 advertising. 15 The reason I go down that path is we had 16 quite a discussion in our office about how to -- you 17 know, dealing with this, too. And that is we, in 18 part of our discussion, said, well, you know if you 19 were selling socks and you were describing socks and 20 you had a brochure about socks, the fact is you 21 might be able to sell more socks if you actually 22 sent a pair of socks to somebody in your 23 advertising. Um, because, you know, people would 24 actually see it, they'd feel it, they'd say, "Ooh, 25 this is really good," because I'm not having to 26 imagine what it -- what it looks like. 27 Um, so that's the struggle that I'm dealing 28 with, because under the law those socks would be 35 1 taxable. Um, so the exception that we're trying to 2 find here isn't the fact that it's a sample -- or 3 that it's a -- that it's a, I guess, a sample. I 4 guess what we're trying to deal with here is that 5 it's the printed material that -- that we find it 6 unique, correct? 7 MR. KWEE: Yes. And to add to that, we 8 actually do have an annotation which addresses that. 9 It's the fabric -- 10 MR. RUNNER: Socks? 11 MR. KWEE: -- sample books. Oh, actually 12 fabric samples. 13 MR. RUNNER: Oh, okay. Fabric samples. 14 MR. KWEE: Right. And -- and we say that, 15 you know, that that's not something that qualifies 16 as a printed sales message. 17 MR. RUNNER: Okay. Okay. 18 Um, so I mean -- so I think that's kind of 19 where my -- my struggle is in this issue. And that 20 is, I think I can see how it enhance sales. I can 21 see how -- how having something that looks and, you 22 know, that you can hold and see how it works. Um, 23 but I can't get -- I just can't get out of the way 24 that it seems -- it seems like a sample to me. 25 And -- and as a result of that then, it becomes 26 taxable. 27 Now I think it could be -- I think it could 28 be constructed in such a way that you could still 36 1 get the message across and still then have the 2 information in there about how to buy it, how to 3 sell it, testimonials by people who use it, all 4 those kinds of things. And then it would still be 5 able to then see a part of the sales package. 6 So that's what I'm struggling with. So 7 tell me why I'm wrong. 8 MR. PANEC: Well, wouldn't this be 9 considered "other printed matter"? 10 MR. RUNNER: Well, I think again that's -- 11 only -- the thing that gets us here is the only 12 thing that gets us to that point is that you're 13 dealing with books. Again, if you were dealing with 14 socks we wouldn't be dealing with this because socks 15 aren't a printed matter. Um, so I don't know if the 16 intent of the law is to allow for all printed 17 material to have the exemption just simply because 18 it's printed material. 19 MR. PANEC: I understand that, but we do 20 have examples of other things that have been 21 inserted in packages, advertising packages, which by 22 themselves were not exempt; but when included in an 23 advertising package, were exempt. Data books, 24 directories, etcetera. So -- so -- 25 MR. RUNNER: Hold on, go back. Let's go 26 back to directories. Directories are specific to, 27 my understanding in terms of the legislative 28 history, Yellow Book, the Yellow Pages. 37 1 MR. KWEE: Right. 2 MR. RUNNER: Yellow Pages are full of 3 advertising. 4 MR. PANEC: Okay. 5 MR. RUNNER: So -- right? If that's what 6 you're thinking as an example, this is not Yellow 7 Pages. 8 MR. PANEC: Okay. But it is "other printed 9 matter," and it is inserted, uh, in such a manner 10 that becomes an integral and component part of the 11 sales message. 12 MR. RUNNER: Because it increases sales. 13 MR. PANEC: Well, no. It's simply the fact 14 that -- well, yes, it does increase the sales. But 15 it's printed matter, it's inserted in the envelope 16 which is, you know, certainly a printed sales 17 message in and of itself. 18 MR. RUNNER: Right. 19 MR. PANEC: And it's inserted in this. And 20 I would maintain that when it's inserted in this, it 21 becomes part of our overall advertising package. 22 MR. RUNNER: But the socks wouldn't simply 23 because it's not printed material. 24 MR. PANEC: Right. The socks are not 25 included. And it doesn't say -- I mean it says -- 26 MR. RUNNER: Right. 27 MR. PANEC: -- "other printed matter." 28 MR. RUNNER: Right. 38 1 MR. HAYASHI: I think that's the -- that's 2 the part of the crux or problem is that the taxpayer 3 reads what's in the regulation but doesn't have the 4 experience with the legislative history. 5 Yes, maybe it says in the legislative 6 history that directory's a part of it. But if you 7 look at the -- if you look at the regulation -- 8 MR. RUNNER: Uh-huh. 9 MR. HAYASHI: -- it doesn't say "or 10 directories unless the directories meet the 11 principal purpose of advertising or promoting" -- 12 MR. RUNNER: Okay. 13 MR. HAYASHI: -- "goods or services." 14 MR. RUNNER: When we met you had told me 15 that the ones that were -- that were sent out did 16 not include the SKU or the price. 17 MR. HAYASHI: There was very minor 18 differences in some of those, yes. But not -- we 19 decided that it wasn't material enough to hang our 20 hat on that. We no longer -- 21 MR. RUNNER: So -- so you no longer would 22 say -- 23 MR. PANEC: We no longer print the price -- 24 MR. RUNNER: Because you -- because at one 25 point I think you said that these were done by a 26 separate printer, you told me. 27 MR. HAYASHI: Well they're done -- they're 28 done separately for the specific purpose of the 39 1 advertising package. 2 MR. RUNNER: Right. But, again, I think 3 what I had -- at least what I think in our 4 conversation before it was they were done separately 5 by a separate printer and they did not have the 6 price and SKU on 'em. 7 MR. PANEC: We no longer print the price to 8 the back of our books. 9 MR. RUNNER: All books. 10 MR. PANEC: At the -- all books. 11 MR. RUNNER: Okay. 12 MR. PANEC: We have stopped printing the 13 price -- all books, we stopped printing the price on 14 the back of our books. 15 At the time of this, however, the price was 16 printed on the back of the books. 17 MR. RUNNER: Okay. 18 MR. PANEC: Which is why you have an 19 example of a book from the audit period -- 20 MR. RUNNER: Okay. 21 MR. PANEC: -- when the price was still 22 printed on the books. 23 MR. RUNNER: Okay. Okay, thank you. 24 MR. HAYASHI: But, you know, and the other 25 points that -- 26 MR. RUNNER: Go ahead. 27 MR. HAYASHI: -- have been brought up -- 28 um, I'm sorry I forgot the gentleman's name -- says 40 1 that they've always done an item by item. And we do 2 know that there are some annotations out there where 3 they've combined the newsletter and an insert and 4 did the 50 percent computation there. 5 MR. RUNNER: Do you have an example of that 6 that we can help find -- 7 MR. HAYASHI: Yes. 8 MR. RUNNER: -- direct the staff to? 9 MR. HAYASHI: It's, uh, Annotation 10 385.1788. That's the example of the, uh, insert and 11 the newsletter. 12 MR. RUNNER: You guys have a comment on 13 that? 14 MR. KWEE: Uh, yes. And there's actually a 15 provision in subdivision (b)(8) of Regulation 16 1541.5, and I believe that is what he's referring 17 to. And that one says, uh, generally tax applies to 18 sales of reply envelopes and order forms. However, 19 reply envelopes, order forms and other printed 20 matter will be considered part of the printed sales 21 message when such property is inserted in, stapled, 22 glued or otherwise affixed to the printed sales 23 message in such a way that it becomes a component 24 part, um, and the other requirements are met. 25 And that's referring to items like order 26 forms and, um, reply envelopes which are basically 27 inserted into the -- inserted basically into the 28 binding or stapled in and, um, are -- you know, 41 1 like, they go hand-in-hand with the catalogues. 2 It's not referring to entirely separate item. 3 And, um, I also note that the book isn't 4 inserted into a printed sales message. It's, um -- 5 it's inserted into the envelope which is the 6 container for a printed sales message. 7 MR. RUNNER: Okay, thank you. 8 I'm done. 9 MS. MA: Okay. Ms. Harkey. 10 MS. HARKEY: Quickly. Okay. I'm looking 11 through this and I'm looking through this it in 12 detail. And these two pages on the back -- and I 13 know this may or may not make a case. But it says, 14 you know, if you liked this book, then you can order 15 this. If you want this book, then you could order 16 this. It kind of does advertise for other books. 17 Um, the parent's introduction, uh, 18 indicates that this is -- you know, invites you to 19 share the reading story, and it's kind of a sales 20 pitch as to why you'd want to do this. 21 So I think there is some sales material in 22 this book. I'm just questioning the volume 23 versus -- being a sales message or a being a sample 24 is the thing. 25 Thank you. 26 MR. HAYASHI: And in that case, like I 27 said, if the regulations and the publication and 28 maybe the annotations were more clear, then it would 42 1 give Mr. Panec the idea -- but to expect him to say, 2 "Oh, I can put three pages in, but I can't put my 3 whole book" -- 4 MS. HARKEY: I'm not really even 5 understanding that you can put three pages in under 6 all this conversation. It seems like that might 7 even be questionable. 8 What I think, uh -- what I think is being 9 said, that it has to be used to advertise, part of 10 the advertisement. And then I see that there are at 11 least a couple pages that are part of the 12 advertisement. And the introduction, although you 13 send this to schools, parent's introduction, you 14 said teacher's introduction. I'm not so sure it's 15 not a part of an advertising, but -- 16 MR. HAYASHI: Yeah, and our computation was 17 conservative saying that the book, because it's not 18 printed sales message, should not be considered 19 advertising materials. 20 But, as you've indicated there could be a 21 position that the book is advertising material. And 22 as Board Chairwoman Ma says, there isn't a 23 definition in the statute, the regulation or the 24 annotations that says "advertising is . . ." 25 So there again -- 26 MS. HARKEY: Yeah. 27 MR. HAYASHI: -- granted there may be some 28 very valid interpretations of law. But to expect 43 1 the taxpayer to understand those nuances would 2 require a lot more effort and probably cost to hire 3 tax consultants to interpret that law correctly. 4 Mr. Panec did segregate his advertising 5 process from his books in inventory process. He 6 didn't go into his inventory for resale and -- for 7 sale, I'm sorry, and pick books out to put in his 8 advertising. He specifically orders these books. 9 Granted they are not different, but they 10 are separately part of an advertising process. He 11 books them in his general ledger as promotional 12 books within his marketing. It's not in cost of 13 good sold. So at least he is making the attempt to 14 segregate the two and treat it that way. And he 15 fails to understand some of the more nuances that go 16 on here. Mr. Runner's sock example -- 17 MR. RUNNER: Mm-hmm. 18 MR. HAYASHI: To Mr. Panec, it's printed 19 matter. It's part -- it's inserted into my printed 20 sales message. It should be considered part of it. 21 Should he have realized, well, a sock is 22 not -- if it's put in there, it's just because it's 23 printed? Maybe. But, uh, that's, you know, 24 sympathy that we have. 25 MR. RUNNER: Mm-hmm. 26 MR. HAYASHI: One other point I wanted to 27 make on the position that it was item by item. 28 Under that print sales message in Publication 37, it 44 1 does say that the principal purpose of advertising 2 means that the advertising in the printed sales 3 message is over 50 percent of the printed material. 4 It doesn't go item by item. It says 5 "printed material." So, as I said, maybe that's the 6 right interpretation. But, for a taxpayer who's not 7 as knowledgeable or have resources to go look at 8 legislative history, they would do the best they can 9 and read the law and the regulations and try to 10 apply it, which is what we believe Mr. Panec did in 11 this situation. 12 MS. MA: Can I ask a question of the BOE? 13 You know like if you're trying to sell a new perfume 14 and they're giving you this, like, one little tube 15 or, you know, dab for you to try on. And -- and 16 it's inserted in a mailer. Right? 17 That -- that would be considered a sample, 18 right, because it's not sold at fair market value in 19 a container that has a price on it that can be 20 defined as a good or a tangible product. 21 MR. KWEE: Right. And that would be 22 treated in the same manner as this. The person 23 purchasing the, um, sample would owe use tax and -- 24 on the purchase of the item. Same as with the 25 purchase of the book. 26 MS. MA: Oh, it would? 27 MR. KWEE: Yes. 28 MS. MA: Okay. So nothing -- no product 45 1 that's ever inserted into anything is exempt? 2 MR. KWEE: Um, I mean there might be some 3 products which are -- but as a general matter, um, 4 if you purchase an item and you give it away at no 5 cost, um, then you're a consumer of that item. You 6 don't owe sales tax on the transfer of the item. 7 You owe sales tax at the time you purchase it or use 8 tax based on the purchase price if you purchased it 9 from an out-of-state seller. 10 MS. HARKEY: That's brutal, isn't it? 11 MS. MA: Yeah. Okay. 12 Mr. Horton? 13 MR. HORTON: Yeah. I mean historically it 14 sort of works both ways. The intent is that if you 15 were just sending the book out and inside the book, 16 inside the package you put nominal printed sales 17 messages, even though the collective, um -- the 18 aggregate of all of those were predominantly this 19 book and therefore you would be the consumer, the 20 printed sales messages would still be exempt because 21 the intent was somewhat of a carve-out for the 22 industry at a time that we thought it was extremely 23 competitive. 24 And so oftentimes it helps to understand 25 the law when you look at it as a double-edged sword. 26 What if it went the other way? Am I still exempt? 27 And you would be. 28 Even though newspapers are -- have their 46 1 own area of the law, but oftentimes we receive 2 newspapers and inside those newspapers are stacks of 3 printed sales messages. And so the newspaper is not 4 treated as a printed sales message, but all that 5 stuff inside, in the newspaper, clearly is probably 6 80 percent of that combined package. 7 But the intent of the carve-out is to give 8 that benefit to the industry. And even in that case 9 not to weigh 'em collectively. So in that case 10 they're treated individually and those printed sales 11 messages would fall under this particular aspect of 12 the law and therefore be exempt. 13 So you end up paying no tax on it as a kind 14 of a carve-out for the industry. 15 MR. PANEC: So even though we're over 54 16 percent of the entire advertising package? 17 MR. HORTON: If it went the other way 18 around, you would still be entitled to deduct those 19 individual items that are not part of that printing 20 of that item. In this case a book, you know, it 21 is -- then you would still be entitled to that 22 exemption. The book, almost 90 percent of what's 23 inside the envelope. But you also include orders, 24 sales messages and so forth and so on, separate from 25 this, not attached, not affixed in any other way. 26 The intent is to give you that break as well, on 27 those items. 28 Move to adopt staff recommendation and deny 47 1 claim for refund. 2 MS. STOWERS: Second. 3 MS. MA: Okay. Mr. Horton moves, seconded 4 by Ms. Stowers to, um -- to -- 5 MR. HORTON: Adopt staff recommendation. 6 MS. MA: -- adopt staff recommendation. 7 MS. HARKEY: I'm having a real hard time 8 with this, but -- 9 MS. MA: Okay. Do you want to take a roll, 10 roll call? 11 MS. HARKEY: I'll be -- yeah, may as 12 well. 13 MS. MA: Okay. Roll call, Ms. Richmond. 14 MS. RICHMOND: Chairwoman Ma. 15 MS. MA: Aye. 16 MS. RICHMOND: Ms. Harkey. 17 MS. HARKEY: Aye. 18 MS. RICHMOND: Mr. Runner. 19 MR. RUNNER: Aye. 20 MS. RICHMOND: Mr. Horton. 21 MR. HORTON: Aye. 22 MS. RICHMOND: Ms. Stowers. 23 MS. STOWERS: Aye. 24 MS. RICHMOND: Motion carries. 25 MS. MA: Okay. Thank you all. 26 MR. HAYASHI: Thank you. 27 MR. PANEC: Thank you. 28 ---oOo--- 48 1 REPORTER'S CERTIFICATE 2 3 State of California ) 4 ) ss 5 County of Sacramento ) 6 7 I, Kathleen Skidgel, Hearing Reporter for 8 the California State Board of Equalization certify 9 that on December 14, 2016 I recorded verbatim, in 10 shorthand, to the best of my ability, the 11 proceedings in the above-entitled hearing; that I 12 transcribed the shorthand writing into typewriting; 13 and that the preceding pages 1 through 48 constitute 14 a complete and accurate transcription of the 15 shorthand writing. 16 17 Dated: February 1, 2017 18 19 20 ____________________________ 21 KATHLEEN SKIDGEL, CSR #9039 22 Hearing Reporter 23 24 25 26 27 28 49