Revenue Cabinet v. Lazarus, Inc.

• Decision Date: 24 May 2001
• Docket Number: No. 1999-SC-1070-DG.,1999-SC-1070-DG.
• Citation: 49 S.W.3d 172
• Parties: REVENUE CABINET, Commonwealth of Kentucky, Appellants, v. LAZARUS, INC., et al., Appellees.
• Court: United States State Supreme Court — District of Kentucky

Page 172

49 S.W.3d 172

REVENUE CABINET, Commonwealth of Kentucky, Appellants, v. LAZARUS, INC., et al., Appellees.

No. 1999-SC-1070-DG.

Supreme Court of Kentucky.

May 24, 2001.

Debra Hays Eucker, Michael D. Kalinyak, Frankfort, for Appellant.

Thomas A. Brown, Mark F. Sommer, Bradley D. Hamblin, Greenbaum, Doll & McDonald, Louisville, Frank G. Julian, Cincinnati, OH, Robert G. Layton, Kentucky Board of Tax Appeals, Frankfort, Kimberly K. Greene, Dinsmore & Shohl, LLP, Louisville, for Appellees.

GRAVES, Justice.

This appeal presents two questions concerning Kentucky use tax liability. When material is created, designed and printed outside of Kentucky, is a Kentucky retailer liable for state use tax on: (1) pre-printed newspaper supplements shipped directly from the out-of-state printer to Kentucky, and (2) catalogs mailed directly from the out-of-state printer to potential customers in Kentucky? We hold that both the newspaper inserts and the catalogs are subject to the use tax imposed by KRS 139.310, because they are tangible property stored, used, and consumed in Kentucky in the process of advertising goods.

In May 1994, the Kentucky Revenue Cabinet (the "Cabinet") began an audit of the Kentucky operations of Lazarus, Inc. ("Lazarus"), a company which owns and operates retail stores selling general consumer merchandise at various locations in Kentucky, from July 1, 1990, to May 31, 1994. The audit resulted in use tax assessments on Lazarus' distribution of pre-printed newspaper advertising inserts and direct mail advertising catalogs. Out-of-state printers produced the inserts and catalogs per Lazarus' instructions.

During the years of the audit, Lazarus undisputedly distributed the pre-printed advertising inserts through several newspapers in Kentucky, and distributed the catalogs through the U.S. mail on a weekly basis. Lazarus designs or directs the design of the newspaper advertising inserts and then sends proofs to a printer outside Kentucky for production. The printer produces the inserts on paper Lazarus supplies and then ships them to Kentucky newspapers in accordance with Lazarus' instructions. The newspapers generally receive the inserts ten to fourteen days before their distribution date. Lazarus dictates the date and number of inserts that each newspaper will distribute. Lazarus also designs the catalogs, which are printed out of state as well. Lazarus then has the printer either directly mail the catalogs to the Kentucky households on Lazarus' proprietary customer list, using address labels it supplies, or package the catalogs with material supplied by other advertisers and mail the packages into markets Lazarus chooses.

The courts below relied on the doctrine of contemporaneous construction to prohibit the Cabinet from taxing the newspaper inserts. In GTE v. Revenue Cabinet, Ky., 889 S.W.2d 788, 792 (1994), this Court explained the doctrine of contemporaneous construction as follows:

This Court has held that interpretation of a statute made by an administrative agency, once made and applied over a long period of time, cannot be unilaterally revoked by the agency. See Hagan v. Farris, Ky., 807 S.W.2d 488 (1991); Grantz v. Grauman, Ky., 302 S.W.2d 364 (1957); Paducah Marine Ways v. Revenue Cabinet, Ky.App., 730 S.W.2d 956 (1987).

Under the doctrine of contemporaneous construction, the use of a combined reporting method by an unitary business is provided for in KRS 141.120. The doctrine of contemporaneous construction means that where an administrative agency has the responsibility of interpreting a statute that is in some manner ambiguous, the agency is restricted to any long-standing construction of the provisions of the statute it has made previously. "Practical construction of an ambiguous law by administrative officers continued without interruption for a very long period is entitled to controlling weight." Grantz, supra.

The doctrine of contemporaneous construction precludes the use of internal policy changes by administrators to reverse and overturn long-standing interpretations that have, over time, become part and parcel of the fabric of the law being administered.

The lower courts ruled that because the Cabinet's auditors failed to assess use tax on newspaper inserts in a total of 18 audits against six retailers over a 30-year period, the Cabinet had effectively established a 30-year audit policy against taxing inserts. Therefore, based on the doctrine of contemporaneous construction, the Cabinet could not now tax the inserts. On appeal, the Cabinet asserts that the evidence does not support this conclusion, and that Lazarus used tangible personal property that subjected it to taxation under KRS 139.310.

With regard to the direct mail catalog assessments, the courts below relied upon two earlier Kentucky Board of Tax Appeals cases that held that catalogs mailed by the out-of-state taxpayers to recipients in Kentucky did not trigger the KRS 139.310 use tax provisions. See Montgomery Ward & Co. v. Department of Revenue, KBTA File No. K67-R-9 and J.C. Penny Co. v. Department of Revenue, KBTA File No. K67-R-34. The Cabinet appeals the ruling on the catalog assessments, arguing that the United States Supreme Court's decision in D.H. Holmes Company, Ltd. v. McNamara, 486 U.S. 24, 108 S.Ct. 1619, 100 L.Ed.2d 21 (1988), superseded the KBTA cases. Further, the Cabinet argues that the use tax statute necessarily reaches the distribution of tangible personal property such as these catalogs.

I. NEWSPAPER INSERTS

KRS 139.190 imposes a use tax "on the storage, use, or other consumption in this state of tangible personal property purchased on and after July 1, 1990, for storage, use, or other consumption in this state at the rate of six percent (6%) of the sales price of the property." "Use", as defined in KRS 139.190, includes "the exercise of any right or power over tangible personal property incident to the ownership of that property, or by any transaction in which possession is given, except that it does not include the sale of that property in the regular course of business." The sales and use tax laws are integrated elements of a taxing program that is designed to reach all transactions in which tangible property is sold inside or outside of Kentucky for storage, use, or consumption within Kentucky. Genex/ London v. Kentucky Bd. of Tax Appeals, Ky., 622 S.W.2d 499, 506 (1981). The use tax is frequently called a backstop to the sales tax because it ensures that transactions in other states are treated just as if they had taken place in this state and been subjected to the sales tax. Commonwealth v. Lee's Ford Dock, Inc., Ky., 551 S.W.2d 236 (1977).

The record establishes that while Lazarus did not have actual possession of the newspaper advertising inserts, it maintained the right of complete control over the handling and distribution of the inserts after their delivery to Kentucky newspapers for distribution. In fact, Lazarus stipulated that it stores the newspaper inserts in Kentucky. The inserts belong to Lazarus up until the time they are distributed to newspaper subscribers free of charge. Once the newspaper subscriber, a potential customer, has possession, Lazarus has made a taxable use of the insert. Pursuant to the plain and unambiguous language of KRS 139.310 and KRS 139.190, the use tax applies to "the exercise of any right or power incident to the ownership of property or any transaction in which possession is given ...." Because Lazarus paid no sales tax to the state where the newspaper inserts were created and manufactured, Lazarus is required to pay Kentucky's use tax because the inserts were stored, used and consumed in Kentucky. The General Assembly employed broad language so that the use tax would reach all forms of tangible property used in the state. Kentucky's use tax is clear and unambiguous.

The Cabinet's contemporaneous construction of KRS 139.310 was inferred through its failure to make use tax adjustments against six retailers over a 30-year period. However, contemporaneous construction cannot be founded upon an administrative agency's failure...