What does the U.S. Constitution Say?
Under the Supremacy Clause of the U.S. Constitution, states are not permitted to levy a tax directly on the U.S. government. However, this immunity does not extend to military or civilian federal employees. Federal employees who are traveling on business or who are making work related purchases may or may not be subject to state taxes. The state determines whether to apply certain taxes to the Federal employee transactions. In most cases:
- CBAs (centrally billed accounts) include purchases paid directly by the government and are not charged tax. CBA cards are issued at the agency, bureau, division, or fleet level, rather than to individuals. The credit limit is determined based on an agency's mission and charge card spend policies. The Federal government agency is billed directly for the purchase of goods and services.
- IBAs (individually billed accounts) include travel expenses paid by the employee who later seeks reimbursement from the government and allow for taxes to be charged. Authorized Federal government employees are issued IBA cards after a personal credit score assessment, and the credit limit is determined by the agency and agency travel and card policies. The cardholder (and not the government) is billed for the purchase of goods and services.
When it comes to federal employees who travel on government business, states have taken two approaches to the matter of applying tax. Most states require hotels and restaurants collect taxes from employees who use an IBA charge card for payment. The legal reasoning is that it is the employee, not the federal government, who is liable for the card and charges made on it. The legal incidence of the tax falls on the employee (indeed, the entire bill is the personal responsibility of the employee), and the transaction is taxable.
US Supreme Court Decisions
As the Supremacy Clause in the Constitution does not specifically address the issue of State governments assessing taxes on Federal government transactions, legal precedent has been established by several high court judicial rulings, which include but are not limited to the following:
Alabama v. King & Boozer, 314 U.S. 1 (1941) - The US Supreme Court specifically addresses the legal vs. economic incidence of a tax. The Court said that a state sales tax on materials purchased by a contractor under a federal contract is not a direct tax on the federal government, even though the government has obligated itself by a contract to bear the economic burden of the tax. Specifically, the court said that the fact that the economic incidence of a tax might fall on the Federal government "is but a normal incident of the organization within the same territory of two independent taxing authorities."
U.S. v. New Mexico, 455 U.S. 720 (1982) - A contractor made purchases on behalf of the federal government and was reimbursed. The U.S. Supreme Court upheld the state's use (sales) tax imposed on the purchase. The court said the Federal contractor was an independent entity whose limited relationship with the government was defined by the parameters of the contract between them.
The high court rulings were based on one critical factor: who was liable for payment for services? If the Federal Government is directly responsible for payment, then states cannot assess taxes. This means:
- All purchases made with CBA cards are considered exempt to State taxes; most commonly Purchase, Travel CBA, Fleet, and Integrated Cards (where the government pays contract bank directly)
- All purchases made with IBA cards are subject to State taxes; most commonly Travel IBA cards (where the individual is responsible for paying bank directly
- It is important to note that while some agencies have implemented split disbursement, the government is making payment on behalf of the individual and these are still IBA accounts and subject to tax
Additional issues to consider:
- States collect taxes on purchases through merchants and vendors in those states. This means the taxes will go to the state but the merchants and vendors act as the tax collection point and determine when to assess tax and when not to.
- States set tax laws and regulations through legislation
- The vendors are expected to collect tax in accordance with established state tax laws and regulations
- Laws may change very suddenly and merchants and vendors rely on point of sale employees, who may not have updated information
- Merchants and vendors may choose to err on the side of caution and assess taxes even for CBA cards or in States where IBA cards are exempt (a reclamation option available to agencies)
- Some merchants may also indicate exemption when there is no eligibility