In general, state and local sales taxes apply to electric and natural gas service. The state Tax Law provides that residential energy sources and services exempt from the 4% New York State sales and use tax, but local sales taxes on utility services - including residential service - have been adopted by numerous local governments and school districts.
The state sales tax rate on utility service for nonresidential customers is 4%. Local sales taxes vary, and cal apply to both residential and nonresidential service. For example, they are 2% in Franklin County, 4½% in New York City, and 7¾% in the Lackawanna School District. The local governments and school districts charging sales tax on utility service, and their tax rates, are listed in New York State Department of Taxation and Finance Publication 718-R.
Due to an anomaly, there is a loophole in the taxation of "delivery service" provided by traditional utilities when a customer buys the "commodity service" from an ESCO. The ESCO customer pays sales taxes on the "commodity" portion of service provided by the ESCO, as he would when he buys it from the traditional utility, but sales taxes drop off the "delivery service" provided by the traditional utility. This constitutes uneven taxation of the same service and distorts the marketplace by favoring ESCO providers and their customers. See ESCO Tax Subsidies: A Hidden Cost of the New York PSC's "Retail Access" Scheme, PULP Network, January 12, 2009.
New York City Eliminates the Tax Break on Utility Delivery Service to ESCO Customers
In a January 20, 2010 Sales Tax Memo TBS-M-10(1), summarizing last year's changes to the Tax Law, the New York State Department of Taxation and Finance announced that effective August 1, 2009, “receipts from the sale of the services of transporting, transmitting, distributing, or delivering gas or electricity are subject to the 4½% New York City local sales tax, even if purchased from someone other than the vendor of the gas or electricity.”
What this means is that New York City has finally closed a needless loophole in the sales tax law that was, in effect, reducing utility bills of customers of Energy Service Companies (“ESCOs”) at the expense of local taxpayers.
The reform also reduces a significant source of distortion in utility service markets in New York City. Large customers may be switching to ESCO commodity service not because it is less expensive or more efficiently provided, but because they can avoid paying utility sales taxes on utility delivery services to the state, local governments, and local school districts. Indeed, ESCO service could be more expensive than comparable service from the utility, but because of the tax break on utility delivery service, the bottom line of the bills will be lower. The tax breaks have been a selling point for the ESCOs. See ESCO Advertises 9.75% Tax Savings on Delivery Service, PULP Network, June 18, 2009
To implement these changes, the state Legislature amended Tax Law section 1210 to permit cities with over one million residents (i.e., New York City) to “omit the exemption” of ESCO customers from paying any delivery sales taxes.
New York City also amended its Administrative Code by adding language to Title 11 (Taxation and Finance), section 2001 indicating that a new section
makes inapplicable section eleven hundred five-C of the tax law, and imposes tax on receipts from every sale, other than sales for resale, of gas service or electric service of whatever nature, including the transportation, transmission or distribution of gas or electricity, even if sold separately....Next Steps
According to the 2009 New York State Division of the Budget (“DOB”) Annual Tax Expenditure Report, p. 149, the foregone state tax revenue due to the ESCO loophole was $6 million per year in 2002, but jumped to $128 million per year in 2008 and was projected to reach $154 million in 2009.
This foregone state tax revenue has been rising at a rate of more than $20 million in recent years. And these figures do not include the foregone tax revenue of localities and school districts that tax utility services. The local sales tax break for ESCO customers outside of New York City is still in effect. The counties, cities, and school districts that now must exempt ESCO customers from paying sales tax on the delivery of electricity and gas should seek comparable legislation to close the loophole favoring ESCO customers, as New York City did.
There is no valid reason to allow continued arbitrage of tax breaks by ESCOs, financial middlemen who do not produce or distribute electricity. This tax break can reward a less efficient ESCO “competitor” which could charge more for the identical service and is used as a come-on by ESCOs rather than offering superior value. The tax breaks may also account for the widespread switchover of large industrial and commercial customers to ESCO commodity service and a consequent loss of contribution by them to help meet the budgetary needs of the state, local governments, and local school districts.
Now is the time for the Legislature to follow the steps it took for NYC and to eliminate the state sales tax break and also close the ESCO loophole for all counties, cities, and school districts that tax utility services. With potential cuts to education and many other vital services proposed in the Governor’s Executive Budget looming, it is time for ESCO customers to pay the same taxes on utility delivery service as all other customers do.