Many companies have sought physical security for their Web servers by co-locating them in a hosting company's data center. But some are finding that when that data center is in another state, their tax situation is anything but secure.
Our gripe this week comes from a reader we'll call Mr. Hudson, in honor of the river he wishes he hadn't crossed. Mr. Hudson's company, which is based in New York, decided a few years ago to house one of its Web servers and some ancillary equipment at an Exodus Communications Inc. co-location facility in New Jersey. The purpose of using the Exodus facility, he says, was to have the server in a physically secure site with reliable power and Internet connectivity. Everything was fine until early this year when Mr. Hudson received an unexpected communication from the tax authorities in New Jersey.
"By virtue of the fact that we located a server on their premises, the State of New Jersey considers us to have had a 'business presence' within the state," Mr. Hudson says. "They are now saying that, from their point of view, we were required as a company to have collected sales tax on purchases made by New Jersey residents, whether those purchases were made on our Web site or not.
They are now requiring us to file both sales tax reports and corporate tax returns for [last year] and to pay New Jersey corporate income taxes on all of our business conducted during that period, including business conducted outside of New Jersey. Plus we are apparently subject to interest and penalties on the sales taxes and income taxes they claim we should have paid but didn't."
While wrestling with the New Jersey tax authorities, Mr. Hudson naturally contacted Exodus to see if it could help. Ultimately all Exodus officials would tell him was that the contract he signed specifically stated that the customer is responsible for determining all tax obligations. No one would even tell him how New Jersey officials came to know he had a server in the state without his company being notified this information was being passed on.
"What irks me is that according to our accountants and tax attorneys, there are legal ways around this issue," Mr. Hudson says. "For example, had we leased the equipment we placed at Exodus instead of placing equipment there that we owned outright, apparently we would have been able to sidestep the issue. In other words, had Exodus forewarned us that there were serious tax implications involved in using their facility, I would no doubt have gotten some advice from tax experts."
Mr. Hudson finds it strange that Exodus gave him no warning of his potential tax liability beyond some fine print in his contract. "Would it have been prudent to have checked in to that possibility spontaneously? With 20/20 hindsight, of course. Was Exodus legally obligated to notify us of the likelihood? No. But should they have as a matter of common courtesy? My feeling is yes."
Now this is the point where I ought to usher in a representative for Exodus to tell the company's side of the story. Unfortunately, I can't do that because Exodus officials chose not to speak with me. After considerable discussion with the company's public relations agency, about the only answer I got back via the PR people was the same one that Mr. Hudson had received; that is, the contract specifies that tax consequences are the responsibility of the customer, and that's all they have to say about it.
I was quite surprised by this because I had made it clear I had a number of questions that I thought Exodus would want to answer: Do all customers using co-location facilities in another state face this type of tax liability? Does this represent a recent change in New Jersey's policies? Is New Jersey the only state that is taking this attitude to customer-owned equipment at a co-location site? And most importantly, what can other customers using or considering co-location services do to make sure this doesn't happen to them?
There was one hint about what the answer to at least some of these questions might be. When I first contacted Exodus' PR agency, I broadly outlined Mr.
Hudson's experience, but I did not mention where he or the Exodus facility his company was using are located. The ensuing response, along with the part about what the contract says, was that perhaps I should take the matter up with the state authorities -- not the New Jersey state authorities, but Virginia's.
It's hardly comforting that company officials would leap to the assumption that I was talking about an out-of-state customer who uses an Exodus facility in Virginia. In fact, it raises even more questions. They are questions that for now must go unanswered, but I hope not for long. Perhaps other Exodus customers will have more luck getting answers than Mr. Hudson and I had. If so, give us the word at firstname.lastname@example.org.
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