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Washington Excise Tax Update: Washington Supreme Court Rules against Advance and Reimbursement Deduction for Payments by an Imaging Company to Radiologists

Posted Thursday, May 19, 2011 by Michael A. Larson

alt textThe Washington Supreme Court dealt another blow to taxpayers seeking to reduce their gross income subject to B&O tax by amounts paid to independent contractor physicians. Washington Imaging Services v. DOR, Docket Number 84101-2 (5/19/2011). Washington Imaging Services (WIS) was a medical imaging company that received amounts from patients and their insurers for medical imaging services. WIS sought a deduction from their gross income for amounts that were paid to Overlake Imaging Associates (Overlake), a professional services corporation that employs radiologists.

WIS argued that it could deduct the payments to Overlake as pass-through payments because (1) WIS was not liable to pay any amounts to Overlake that it did not collect from patients or insurers and (2) WIS was not licensed to sell the medical services that were provided by Overlake. The court noted that WIS was in the business of providing medical imaging services, a business that required both the creation of the image and interpretation of the image. WIS argued that it had no ownership interest in the amounts it collected and paid to Overlake. The court held that WIS could not avoid its B&O tax obligation merely by reason of its private contract with Overlake.

The court also found that although WIS was legally barred from engaging in the practice of medicine, this did not prevent WIS from contracting with an independent contractor to provide such services. The court distinguished an earlier case, Walthew, Warner, Keefe, Arron, Costello & Thompson v. DOR, 103 Wn.2d 183, 691 P.2d 559 (1984), that allowed attorneys a deduction from gross income for amounts advanced to its clients for court costs. In this earlier case, ethical rules mandated that clients and not attorneys must retain ultimate liability for all such expenses. However, there was no such restriction on WIS. WIS could purchase medical diagnostics services from Overlake, it simply was not allowed to employ physicians itself to perform such services.

The court found that WIS could only be allowed a deduction for the amounts paid to Overlake if WAC 458-20-111 (Rule 111) applied to provide WIS with “pass-through” deduction. For Rule 111 to apply, WIS must be the agent of the patients to whom it provides the medical imaging services. The Washington Supreme Court agreed with the trial court that WIS failed to establish the requisite agency relationship.

This case establishes once again the difficulty that taxpayers face in obtaining a “pass-through” deduction under Rule 111. It is imperative that there be an agency relationship between the taxpayer in its customer to obtain services on the customer’s behalf. In addition, it should be noted that even if an agency relationship is established, it is also absolutely necessary that the taxpayer limit its liability to the service provider exclusively as an agent. Taxpayers attempting to avail themselves of a deduction under Rule 111 should seek experienced advice on structuring their arrangements. Pivotal Law Group can provide this experienced expertise.

For more information, please contact Ron Bueing at 206-340-2008.

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