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AOL Recoups $4.5M Sales Tax on “MMS” Dial-Up Internet

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The Thurston County [Washington] Superior Court has published a Letter Ruling memorializing the result of a hearing where the State revenue authority (the “Department”) moved to reverse the Board of Tax Appeals (the “Board”) in a proceeding against Internet service provider AOL, Inc. (“AOL”), after the Board overturned the Department’s Appeals Division, which, on review, had sustained the levy of sales tax (Department of Revenue v. AOL, Thurston County Superior Court, Case No. 12-2-01200-5, Chris Wickham, Superior Court Judge, Letter Ruling affirming, AOL v. WASHINGTON DEPARTMENT OF REVENUE, Docket No. 11-076, WASHINGTON BOARD OF TAX APPEALS, 2012 Wash. Tax LEXIS 166).  Got all that? (tax law can be so labyrinthine!)

The Ruling resolves a matter-of-fact inquiry:  Is the managed modem service (“MMS”) utilized by AOL a taxable “network telephone service” or, instead, an exempt Internet service per then-applicable definitions (the service types being mutually exclusive)?  The Ruling notes that this determination is separate from any question of whether tax applies upon AOL’s purchase or sale, which Judge Wickham observed, “does not change the result.”  The claimed deficiency was a hefty $4,421,369, plus penalties and interest, for audited years January 2002 to March 2006.

The case requires some familiarity with how MMS, a “facilitating component” of AOL’s widely-used Internet access service, operates.  MMS is sold by a few providers, including Level 3 (who patented it in 2002) and Pac-West, which advertises that MMS “enables you to provide a fully managed dial-up Internet solution to your end-user.”  Reuter’s, profiling Level 3, added, “MMS is an outsourced turn-key infrastructure solution used by ISPs for the management of dial-up access to the public Internet.”

Expert-witness testimony taken in AOL explained that MMS “translated the analog signal of the member’s telephone call into a digital signal and converted the data into TCP/IP . . . the ‘language’ of the Internet,” and “assigned the appropriate address information” so that “the member’s communication could flow directly to AOL’s data centers and other sites on the Internet, after initial authentication.”  In other words, MMS converts signals from analog to digital, reads and confirms user bona fides, and “code-tags” messages to permit (and hasten) transmission.

Invoking a 2008 Washington Supreme Court decision concerning nearly identical questions (Community Telecable of Seattle v. Seattle Department of Executive Administration, CASE NO. 79702-1, SUPREME COURT OF WASHINGTON, 186 P.3d 1032), Judge Wickham cited its holding:  the tax law at issue “plainly expresses the legislature’s intent to prohibit the taxation of Internet service providers as network telephone providers.”  There, the ISP “could not be taxed a telephone utility tax as a telephone business when it was providing Internet service.”

Working the syllogism, Judge Wickham reasoned that, “if AOL meets any one of the three requirements set out in [Washington statute] RCW 82.04.297(3), it qualifies as ‘internet service’ and is excluded from taxation as a ‘network telephone service’” – that is, tax is not applicable if, when AOL offers its MMS-containing service to customers:

“1.  It ‘permits the user to interact with stored information through the internet or a proprietary subscriber network’ [or]

“2.  It ‘includes computer processing applications’ [or]

“3.  It ‘provides the user with additional or restructured information.’”

With a resounding TA-DA!, Judge Wickham concluded that “AOL meets all three” conditions.  Accordingly, “the Board is affirmed,” the Department’s effort to declare MMS taxable “is denied” – and AOL goes home with a 4½-million-dollar sales tax refund (a worthwhile day at the office, eh?).

About the Author: Marc Palmer Kram is a Senior Tax Analyst at Wolters Kluwer Tax & Accounting US, where he performs quality control and troubleshooting on the vast taxability database supporting its best-in-class CCH tax-compliance software, and then sometimes writes about what he finds. Learn more about him by visiting his author bio page. Learn more about Wolters Kluwer at and

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