#28472, #28485-a-JMK
2019 S.D. 4

                             IN THE SUPREME COURT
                                     OF THE
                            STATE OF SOUTH DAKOTA

                                    ****

CARSFORSALE.COM, INC.,                       Plaintiff and Appellant,

      v.

SOUTH DAKOTA DEPARTMENT
OF REVENUE,                                  Defendant and Appellee.

                                    ****

                  APPEAL FROM THE CIRCUIT COURT OF
                     THE SECOND JUDICIAL CIRCUIT
                  MINNEHAHA COUNTY, SOUTH DAKOTA

                                    ****

                    THE HONORABLE BRADLEY G. ZELL
                               Judge

                                    ****

SHAWN M. NICHOLS of
Cadwell, Sanford, Deibert
   & Garry, LLP                              Attorneys for plaintiff
Sioux Falls, South Dakota                    and appellant.


JOHN T. RICHTER of
South Dakota Department
   of Revenue                                Attorneys for defendant
Pierre, South Dakota                         and appellee.

                                    ****

                                             CONSIDERED ON BRIEFS ON
                                             OCTOBER 1, 2018
                                             OPINION FILED 01/09/19
#28472, #28485

KERN, Justice

[¶1.]        The South Dakota Department of Revenue (Department) issued

Carsforsale.com (Carsforsale) a certificate of assessment for alleged use tax

violations. Carsforsale filed a formal objection to the audit. A hearing was held on

the objection before the hearing examiner, who recommended reversing the

certificate of assessment. The Department, through its Secretary, rejected the

hearing examiner’s proposed decision and reinstated the certificate in its entirety.

Carsforsale appealed to the circuit court, which affirmed the Department’s decision

in part and reversed in part. Carsforsale appeals. We affirm.

                          Facts and Procedural History

[¶2.]        Carsforsale is a web-based business that offers dealers and individuals

an online forum to advertise their vehicle for sale. Carsforsale also provides other

services, “such as a vehicle research database, social media integration, website

hosting, an inventory management tool, lead and data management solutions,

search engine optimization, and custom dealership websites.” Carsforsale charges

$99 per month to car dealers to upload and display their inventory. Dealers create

their own listings and may include a link for shoppers to go directly to the dealer’s

website. At no additional cost, Carsforsale builds websites for dealers who do not

have their own websites. Private sellers may create their own listings for free.

[¶3.]        On April 13, 2015, the Department began an audit of Carsforsale’s

records to determine whether sales and use taxes were properly reported for the

January 2009 through December 2014 reporting periods. The audit determined

that Carsforsale had no sales tax liability. However, the audit revealed suspected


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use tax errors related to transactions in which Carsforsale had not paid use tax on

its purchases of tangible personal property or for services in which sales tax had not

been charged to Carsforsale. The auditor created a list of disputed transactions.

Upon request Carsforsale provided more information, including invoices, to the

auditor, and the auditor adjusted the list of suspected transactions. On September

11, 2015, Carsforsale indicated there was no further documentation to provide and

the audit was finalized. The Department issued a certificate of assessment to

Carsforsale in the amount of $250,479.61. The tax was $187,905.71, interest was

$57,849.50, and the penalty was $4,724.40.

[¶4.]        Carsforsale objected and requested an administrative hearing. The

hearing examiner heard testimony from the owner of Carsforsale and its accountant

regarding its business model and the purpose of the disputed transactions, as well

as testimony from the Department’s auditor. Based upon that testimony, the

hearing examiner proposed that the certificate of assessment be reversed. The

examiner characterized Carsforsale as “an internet advertising agency” and “like a

classified ad section.” The examiner determined that the out-of-state services, such

as “cloud services, anti-virus software, and contract labor,” purchased by

Carsforsale without payment of sales tax were vital services needed to carry out its

advertising business. Therefore, the examiner held that these purchases were

“made by [Carsforsale] for preparing and placing advertising on the internet” and

were “not taxable” under ARSD 64:06:02:03. The examiner deemed exempt

Carsforsale’s purchase of domain names from GoDaddy.com as an advertising




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service provided to its “customers [to] prepare and place the websites on

Carsforsale.com.”

[¶5.]        The Department, through its Secretary, rejected the examiner’s

proposed decision as “incomplete” and issued its final decision reinstating the

certificate of assessment. It found that Carsforsale was not entitled to the

advertising exemption on the disputed services because “[t]here [was] nothing in

the record that evidences that Carsforsale used any of the above tangible personal

property or services it purchased to assist it in completing . . . the listings on its

website.” Further, the Department found that “Carsforsale has produced no

evidence to show that the tangible personal property or services Carsforsale

purchased were used to prepare an advertisement and place it in the media.” It

also determined that Carsforsale failed to prove that it was entitled to the

advertising exemption because it did not furnish service providers with exemption

certificates as required by ARSD 64:06:02:03.

[¶6.]        The Department dismissed Carsforsale’s argument that the purchases

of domain names from GoDaddy.com were exempt under the sale-for-resale

exemption of ARSD 64:06:01:08.03 because it found “Carsforsale does not resell any

of the services in this matter.” Additionally, it noted that “the services are not

purchased on behalf of a current customer, are used by Carsforsale, and the services

are not delivered or resold to the customer without any alteration or change.”




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[¶7.]          Carsforsale appealed to the circuit court, which affirmed the

Department in part and reversed in part.1 Carsforsale appeals, raising the

following issues for our consideration:

               1.    Whether Carsforsale is entitled to the advertising tax
                     exemption.

               2.    Whether Carsforsale is entitled to the sale-for-resale tax
                     exemption.

               3.    Whether Carsforsale was required to present an
                     exemption certificate to out-of-state vendors to exercise
                     exemptions from use tax.

                                 Standard of Review

[¶8.]          We review administrative appeals pursuant to SDCL 1-26-37. Valley

Power Sys. v. S.D. Dep’t of Rev., 2017 S.D. 84, ¶ 9, 905 N.W.2d 328, 330. “Whether

a statute imposes a tax under a given factual situation is a question of law and thus

no deference is given to any conclusion reached by the Department of Revenue or

the circuit court.” Dep’t of Revenue v. Sanborn Tel. Coop., 455 N.W.2d 223, 225

(S.D. 1990).

                                Analysis and Decision

               1.    Whether Carsforsale was entitled to the advertising tax
                     exemption.




1.      The circuit court affirmed the Department’s imposition of use tax on all the
        contested transactions, except for physical storage in Minnesota provided by
        Visi. The court determined that because these services were provided outside
        of South Dakota, they were exempt from use tax. The Department does not
        appeal this determination. There are also several use tax assessments on
        purchases of certain tangible goods by Carsforsale that Carsforsale no longer
        contests on appeal. We do not address any of these transactions in this
        decision.
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[¶9.]          SDCL 10-45-4 imposes a tax “upon the gross receipts of any person

from the engaging or continuing in the practice of any business in which a service is

rendered . . . unless the service is specifically exempt . . . .” A “service” is defined in

part as “all activities engaged in for other persons for a fee, retainer, commission, or

other monetary charge, which activities involve predominantly the performance of a

service as distinguished from selling property.” SDCL 10-45-4.1. To determine

what constitutes “a service, the intended use, principle objective or ultimate

objective of the contracting parties shall not be controlling.” Id. For those services

and tangible personal property purchased by a taxpayer on which no sales tax was

paid, use tax is owed. SDCL 10-46-2; SDCL 10-46-2.1.

[¶10.]         However, certain services, including “advertising services,” are

specifically exempt from taxation.2 SDCL 10-45-12.1. An advertising service is

defined by ARSD 64:06:02:03,3 which provides:

               Advertising services are the business of preparing
               advertisements for publication in newspapers, magazines,
               placemats, billboards, or handbills or for broadcast and
               welcoming services which contact new residents and others to

2.       The Department acknowledged during its audit that Carsforsale owed no
         sales tax on the revenue paid by dealers to Carsforsale. It determined these
         monthly payments were for the placement of advertising by dealers on
         Carsforsale’s website.

3.       The circuit court found that “the legislature has not by code specifically
         defined or limited advertising services and has not delegated that specific
         authority to the Department.” While it is true that advertising services are
         not defined by statute, the legislature has granted the secretary of revenue
         the authority to promulgate rules “[d]etermining the application of the tax
         and exemptions” under SDCL 10-45-47.1(3) for sales tax and SDCL 10-46-
         35.1(3) for use tax. “Administrative rules have the force of law and are
         presumed valid.” Krsnak v. S.D. Dep’t of Env’t & Nat. Res., 2012 S.D. 89, ¶
         16, 824 N.W.2d 429, 436. Therefore, the definition of “advertising services” in
         ARSD 64:06:02:03 applies in this case.
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             explain business services within the area and leave promotional
             literature.
             Charges for advertising in newspapers or magazines are not
             taxable. Likewise, charges made by advertising agencies for
             preparing and placing advertising in advertising media are
             charges for services and therefore not taxable.
             Services purchased by the agency to assist it in completing a
             project for a current customer are not subject to tax if the service
             is an integral and inseparable component of the ultimate service
             to its customer and the agency provides the service provider
             with an exemption certificate. Examples of services that may be
             considered for resale if they are an integral and inseparable part
             of the final product are art work, proofreading, copywriting,
             handlettering, photo finishing, modeling, photography,
             production studio rental, photo studio rental, video studio
             rental, audio studio rental, prop rental, music rights, sound
             effects, dubbing, typesetting, color separation, keylining,
             illustration, retouching, air brushing, silk screening, and
             editing.
             Sales tax applies to gross receipts from sales of tangible personal
             property and any product transferred electronically to persons
             providing advertising services for use and consumption in
             preparing advertisements. Tax applies to the following: paper,
             ink, paint, tools, office supplies, type, and charges by printers for
             production of pamphlets, booklets, brochures, and other material
             printed by them.

(Emphasis added.) SDCL 10-46-17.3 exempts the services enumerated in SDCL 10-

45-12.1 from use tax.

[¶11.]       Although we construe statutes imposing tax liberally in favor of the

taxpayer, “[s]tatutes exempting property from taxation should be construed in favor

of the taxing power.” Butler Mach. Co. v. S.D. Dep’t of Revenue, 2002 S.D. 134, ¶ 6,

653 N.W.2d 757, 759. Exemptions “should be given a reasonable, natural, and

practical meaning to effectuate the purpose of the exemption.” K Mart Corp., Inc. v.

S.D. Dep’t of Revenue, 345 N.W.2d 55, 57 (S.D. 1984). The party seeking an




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exemption has the burden to prove it fits into that exemption. In re Pam Oil, Inc.,

459 N.W.2d 251, 255 (S.D. 1990).

[¶12.]       Here, Carsforsale groups the disputed transactions into two broad

categories: domain and web-hosting services, and website-creation and publication

expenses. Regarding the domain and web-hosting services, Carsforsale argues that

the purchase of domain names “are qualitatively the same as an advertising agency

buying air time for a TV or radio commercial, or column space for a newspaper

advertisement . . . . Without a domain name, website content cannot be publicly

viewed and purchase of a domain name is essential to publication.” Carsforsale also

identifies various website-creation and publication expenses, such as “cloud storage,

cyber security software and 1099 labor as part of exempt production costs.” It

argues that these are “integral and inseparable component[s] of the service” under

the third paragraph of ARSD 64:06:02:03 because these services maintain the

functionality of the Carsforsale website.

[¶13.]       To determine whether the Department erred, we focus on the disputed

transactions, not on the character of Carsforsale’s business or on Carsforsale’s

grouping of the transactions into categories. See Sioux Falls Newspapers, Inc. v.

Sec’y of Revenue, 423 N.W.2d 806, 808 (S.D. 1988) (The focus of the analysis is on

the “transactions and not the character of the participants . . . .”). Indeed,

Carsforsale carries the burden of proving that each disputed transaction is exempt

from taxation. Those transactions include: Amazon Web Services for web hosting,

DataOne transactions for access to a vehicle identification number database,

Desiree Bell transactions for software development services, Distil Network


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transactions for security services, FRSecure, LLC transactions for security services,

Prolexic transactions for security services, Spruce Creek Software transactions for

software development services, Web Hosting Visi transactions for web-hosting

services, and GoDaddy.com transactions for the purchase of domain name

registration services. According to the Department, Carsforsale failed to show that

it “used any of the disputed services to assist it in completing a project for a current

customer, to prepare vehicle listings, or to publish the vehicle listings on its

website.” We agree.

[¶14.]       From our review of the evidence related to each of the disputed

transactions, Carsforsale has not met its burden of proving that it used the disputed

services to assist a customer in completing an advertising project, in preparing the

vehicle listings, or in publishing the listings on the website. Carsforsale presented

no evidence it used the disputed services to prepare and place the dealer’s listings

on their website. See In re Sales and Use Tax Refund Request of Media One,

1997 S.D. 17, ¶ 19, 559 N.W.2d 875, 880 (concluding that an exemption under

ARSD 64:06:02:03 “requires the advertising agency to both prepare the

advertisement and place it in the advertising media”). Instead, dealers themselves

prepare advertisements after Carsforsale provides them with a username and

password. The evidence establishes that the services involved in the disputed

transactions were used to create and maintain Carsforsale’s website and operating

systems.

[¶15.]       Whether the advertising exemption applies when Carsforsale

purchases domain names and builds websites at no additional cost for its customers


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is a separate consideration. Testimony at the administrative hearing from Sean

Coffman, Carsforsale’s owner, reveals that the exemption would not apply:

               [MR. NICHOLS]: And then how about on the customers’
               external website? How is inventory managed there?
               [COFFMAN]: The 99 percent of the websites that we would
               build for a dealer would be hand-entered into our system, and
               then when it hand-enters in the system, it would update on their
               own website and would also update on Carsforsale.com.
               [MR. NICHOLS]: And who hand-enters that data, you or –
               [COFFMAN]: That would be the dealer.

The testimony confirms that the dealers prepare and place their own inventory

after Carsforsale builds the website. Carsforsale has failed to meet its burden of

demonstrating the transactions fit within an exemption and the circuit court was

correct in affirming the Department. See Pam Oil, Inc., 459 N.W.2d at 255.

               2.    Whether Carsforsale was entitled to the sale-for-resale tax
                     exemption.

[¶16.]         Carsforsale next argues that in addition to the advertising exemption,

it is entitled to the sale-for-resale exemption under ARSD 64:06:01:08.03 for the

cost of purchasing domain name registration services from GoDaddy.com.4 ARSD

64:06:01:08.03 provides:

               Services which are purchased by a service provider and
               delivered to a current customer in conjunction with the services
               contracted to be provided to the customer are considered to be
               for resale. Receipts from the sale of a service for resale by the
               purchaser are not subject to sales tax if the purchaser furnishes
               an exemption certificate.
               In order for the transaction to be a sale for resale, the following
               conditions must be present:


4.       ARSD 64:06:01:08.03 applies to use tax as it was promulgated under the
         general authority of SDCL 10-46-35.1(3), which grants the Department
         authority to determine “the application of the tax and exemptions.”
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             (1) The service is purchased for or on behalf of a current
             customer;
             (2) The purchaser of the service does not use the service in any
             manner; and
             (3) The service is delivered or resold to the customer without any
             alteration or change.

[¶17.]       Carsforsale “registers domain names from GoDaddy.com for a fee.”

These “domain names are used to host the advertised content for [Carsforsale’s]

customers.” Carsforsale maintains that it “makes no use of the domain name or the

website . . . . [Carsforsale] solely functions as the artist who produces the final

product for its customer in a publishable form.” Carsforsale likens itself to a

“middleman” who “will acquire a service and pass it on to a customer.”

[¶18.]       To determine whether Carsforsale is entitled to the sale-for-resale

exemption we apply the provisions of ARSD 64:06:01:08.03. Carsforsale complies

with the first element in that the service is purchased “on or behalf of . . . current

customer[s]” who pay the monthly $99 fee and request that Carsforsale build a

website for them. But Carsforsale fails to satisfy the second and third elements.

Carsforsale, rather than passing along the domain name alone, uses the domain

name to build a website. Although Coffman testified that “I’m not getting

anything[,] I don’t own anything[,]” the record establishes that these domain names

remain registered in his name after the website is built. Carsforsale customers

never become the owners of the domain names and the domain names are never

sold to the customers. The circuit court did not err in affirming the Department’s

imposition of use tax for these transactions.




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                                     Conclusion

[¶19.]       Our decision is based on the application of statutes and administrative

regulations designed for “traditional” media, e.g. print and television. As such, we

acknowledge that these rules were likely not written with internet-based businesses

such as Carsforsale in mind. Accordingly, these outdated laws may engender

inconsistent results when courts are faced with applying the laws to new

technologies. It would be of significant benefit to the courts and taxpayers if the

legislature or the Department enacted statutes or rules appropriate for internet-

based media. See Wheeler v. Farmers Mut. Ins. Co. of Neb., 2012 S.D. 83, ¶¶ 32-35,

824 N.W.2d 102, 110-11 (Zinter, J., concurring specially). The influence of the

internet and the new business models it makes possible will continue to shape a

new economic reality. “States can and should consider those realities in enacting

and enforcing their tax laws.” S.D. v. Wayfair, Inc., __ U.S. __, 138 S. Ct. 2080,

2095, 201 L. Ed. 2d 403 (2018).

[¶20.]       We affirm the circuit court’s decision affirming in part and reversing in

part the Department’s decision. Because Carsforsale’s contested transactions did

not qualify for these exemptions from use tax, we decline to address whether

Carsforsale was required to produce exemption certificates.

[¶21.]       GILBERTSON, Chief Justice, and JENSEN and SALTER, Justices,

concur.




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