An Important Call:
How Telecom Taxes Impact Site Selection

By Ann Moline

You've got a region in mind for that new call center, but can't decide among several nearby sites? You might want to take a closer look at telecommunications costs. Taxes on telecom services can vary enough from state to state, and, in some cases, from locality to locality within a region, that a final decision might hinge on the issue, experts say.

"Do the tax burdens drive where in the country the company wants to locate a call center? No," says Dale Currie, partner and telecommunications tax expert for KPMG. "But do the telecom tax burdens push a company across a city or state line once they have a region? Absolutely." Currie explains that states such as Arizona, California, Washington and Nevada leave the imposition of sales tax on telecom services to the discretion of the locality.

In these states, peeling back the layers of the budget line item labeled "telecommunications costs" will reveal variations in telecom tax structure from one local jurisdiction to the next. Florida and Pennsylvania also have enacted legislation permitting individual localities to impose additional sales tax on telecom services above the state levies. The District of Columbia levies a locally imposed telecom sales tax, which at almost 11 percent, is one of the highest in the nation.

MCI recently faced this issue when determining a site for its Relay Center, a teleservices center for the hearing impaired. After examining a number of viable sites in California's Central Valley, the telecommunications giant decided on a spot in the town of Riverbank, near Modesto.

"MCI chose Riverbank because of the lack of local taxation on telecom services," according to John Boyd, president of Boyd and Co., which assisted MCI in the selection process. Once the search narrowed to encompass the area from Sacramento to Fresno, the team put a microscope on variations in the telecom tax burden. "We eliminated Sacramento from the start because it imposes a sales tax on telecom. But we saw other viable sites in the Central Valley," Boyd says. Riverbank won in the end because it doesn't tax telecommunication services.

"In California, locating across the street could make a substantial difference in the company's tax burden," explains Margarita Velasquez of KPMG's Strategic Relocation and Expansion Services group. The taxation rates range from a high of 11 percent in Culver City and 10 percent in Los Angeles, to Sacramento's 7.5 percent, to zero in Riverbank and elsewhere.

But just as municipalities have the power to levy the taxes, they also can grant abatements or exemptions should a company bring an attractive project to the community. "If the project involves bringing over 100 new jobs, the local authorities are going to work hard to provide incentives. This could be a part of a larger incentives package," Velasquez says. She adds that localities with the higher tax rates are beginning to recognize that they are not competitive for call center business. "L.A., for example, is re-examining its position on telecom taxes because it is interested in attracting call center business."

MCI's Riverbank decision resulted from a process that included a number of stages. In the teleservices industry, the primary stage of a location decision will not involve an examination of variations in state telecom tax rates. During this first part of the selection process, in which the merits of larger geographic regions are weighed, labor costs, plus labor quality and availability, remain the most important considerations.

"Labor market, labor market, labor market-that is prime. If you are looking at a state with low unemployment, that is not where you are going to build your call center, even if the taxes are the lowest in the country," says Susan Arledge of Arledge/Power Real Estate Group, a Dallas-based consulting firm specializing in site selection for teleservices clients.

On the other hand, "you won't find a lot of call centers in states with heavily imposed state sales tax on telecom services," points out corporate location consultant Dennis Donovan of the Wadley-Donovan Group. State legislatures across the country have begun to re-examine their telecom tax policies, he says, in large measure because the teleservices industry represents a powerful, job-creating juggernaut that many states are anxious to attract and keep.

Boyd says, "In our 24 years of doing business as site consultants, the teleservices industry has been the fastest growing sector we have ever seen. It dominates our corporate workload." Boyd concurs with Donovan that officials and economic developers in some states are working toward creating a welcoming climate for this industry because they understand its potential.

"Even in a state like Michigan," Boyd points out, "which had this traditionally difficult business climate, things have begun to turn around. Through the efforts of astute politicians who have done such things as lower the telecom tax rate, Michigan has become a player in the call center industry."

The $800 billion teleservices industry is distinguished by two main sectors, inbound and outbound. The inbound sector, characterized by customer service centers, fulfillment and help desks, uses toll-free lines for the bulk of its operations. Steady double-digit growth for this sector is projected for each of the next few years, according to consultants, who expect more industries to expand customer service operations. "Pharmaceutical companies will be the next big players as prescriptions by mail become more popular," Boyd predicts.

The outbound sector, also enjoying reliable double-digit increases annually, is characterized by cold-call telemarketing. Combined, the two halves of the industry employ 3 million full-time and part-time workers. "Every state wants a piece of that job-making pie," Boyd says.

And that helps explain the changing telecommunications tax landscape as states try to cash in on the call center boom. "Every politician wants to be able to say that he brought jobs to the state," Boyd remarks. In addition, state officials do not want to see existing business depart for greener pastures, so they will listen to the concerns of powerful industry players already contributing to the state economy.

America Online spokesman Jim Whitney confirms that his company will participate in frank discussions with key officials in states with an AOL presence, or states with a potential for such a presence. "We might indeed get involved in a lobbying effort to change tax structure," he says, adding that the company weighs situations on a case-by-case basis.

Different Rates in Different States

Telecom tax structure is one of those things state officials can alter. "At the state level, elected officials and economic development folks can only effect so many things, " says Boyd. "You can't create more of a labor pool. You can't create sites if there is no space. You probably can't have much impact on land construction costs. But a state government can have an impact on telecom taxes." The consultant adds that such actions at the state level are as much a psychological indicator of a positive business climate as they are a financial incentive. "Lowering the telecom tax says to the industry that the state legislature understands the particular concerns of the call center business, and it would like to be responsive."

Recent changes in the New York state tax code drive the point home. Last October, the excise tax rate on telecommunications services was reduced from 3.5 percent to 3.25 percent. The rate will drop again, to 2.5 percent on Jan. 1, 2000. The legislative decision resulted from a study prepared by the state's Department of Tax and Finance, recommending the reduction. Although the rate already compared favorably to those of neighboring states, "New York was watching the migration of back-office Wall Street operations to Jersey City, Hoboken, Phoenix," says Boyd.

Publishing companies also were moving out of the state, he says, citing New York-based Time Inc.'s decision to build call centers in Tampa, Fla., and Richmond, Va. The change is part of New York's efforts to bolster its image as a business-friendly state.

While New York's tax rate already was substantially lower than New Jersey's rate of 6 percent and neighboring Pennsylvania's 7 percent, the action sent a positive message to industry insiders. "New York has become a good place to locate a call center," says Donovan.

Sometimes, the ways in which the taxes are levied can be an indicator of which sector of the teleservices industry a state wishes to attract. Texas, for example, does not tax inbound 800 calls. However, the state does impose tax on outbound calls. "Clearly, Texas is interested in attracting customer service centers, as opposed to outbound, telemarketing companies," Boyd says.

Florida also has established a mechanism to attract and retain inbound call center business, but it balances the state's need for tax revenue, given that the Sunshine State does not collect a personal income tax. The state applies an 8 percent sales tax on all interstate, intrastate and international calls. Although the rate is on the high end nationwide, Florida has placed a $50,000 annual cap on the amount of telecom sales tax certain companies pay.

"As long as the majority of the calls originate outside Florida and end in Florida, a company may apply for this tax cap permit," explains Florida Department of Revenue spokesman Dave Bruns. "This was an effort on the part of the state Legislature to create a business-friendly climate for customer service call centers."

Call center site selection consultant Mitch Lieber notes that despite the relatively high tax rate, "Florida has been popular with the call center industry. Does that tax limitation make the state more appealing? Yes, it probably does for a large volume center-one with an excess of 1,000 calls per day."

While such actions represent a welcome change to business owners, some in the teleservices industry doubt that a tax cut alone would attract new business, unless the company's strategy involves locating in a particular region.

"Our company at one point concentrated on the northeastern United States-we wanted call centers relatively near corporate headquarters in Bryn Mawr, Pa.," says Michael Scharff, executive vice president of RMH Teleservices Inc. When that strategy was part of the site selection criteria, a step such as New York's might have had an impact on the company's final decisions, he says. "Today, though, we've changed that strategy, and our call centers are all over." Although telecommunications are the No. 2 budget item for companies in his industry, Scharff concurs with others that the No. 1 budget item-labor-drives the site selection process.

RMH, with 13 U.S. inbound and outbound facilities, plans to add two Canadian sites this year. Scharff says that the company, which posted $52 billion in revenue for 1998, examined the telecom tax issue more closely as it considered various sites in Canada.

With historically low exchange rates (the 1999 average is expected to be 63.5 U.S. cents to the Canadian dollar), Canada has become even more interesting to site selection decision-makers in the teleservices industry. But since Canadian provinces impose taxes differently, Scharff points out that the Canadian telecom tax issue must be looked at carefully. RMH is building a facility in New Brunswick. The Maritime province, which does not impose a tax on long-distance 800 service, also is home to Marriott and IBM call centers.

More Taxes

In addition to sales tax on long-distance calls, companies also must look at the way in which a state imposes gross receipts tax on telecom service providers. Heavy volume customers of telecom services such as RMH negotiate rates with the long distance carrier. "The higher the volume, the better the rate, " Scharff explains. Larger customers pay a per call flat rate; that is, the rate stays the same regardless of the long-distance destination called. And volume spells power when negotiating that flat rate. "A mid-sized center-say, 35 to 40 seats, might get a rate of 7 cents per minute, while a bigger operation gets 5 cents," explains call center site selection consultant Mitch Lieber.

Buried within the rates, says Lieber, are so-called hidden taxes, fees charged to the long-distance carrier that might be passed along to the customer. The net effect of a very complicated system is that the telecom services user can end up paying both state sales tax on the services it buys, and a portion of the carrier's gross receipts tax, which is passed along to the customer in the phone bill.

A number of states, including Connecticut, Massachusetts, Illinois, Kansas, Michigan, Oklahoma and Texas, have addressed this issue by not imposing gross receipts tax on telecom services. Others, such as New York, have removed gross receipts tax on interstate calls, although intrastate calls remain taxable.

Yet, industry insiders suggest that even in a state with a higher telecom tax, the incentives and givebacks that localities are willing to provide sometimes can balance the situation. "You really cannot address a tax situation in a state without taking into consideration the credits for training or other things. So if a state has a higher rate, a liberal incentive situation really will offset that," explains Neva Petrovich, senior vice president of Aegis Communications Group, which operates 23 inbound and outbound call centers nationwide.

One issue that has stirred great debate within the telecommunications and information technology industries concerns taxing access to the Internet. Last fall, Congress enacted the Internet Tax Freedom Act, which imposes a three-year moratorium on special taxation of the Internet, prohibiting state and local governments from taxing Internet access. Some states, such as North Dakota, had classified Internet activity as a telecommunications service, subject to telecommunications tax.

"But that was a false classification," says Carol Cayo, director of government affairs for the Information Technology Association of America. "The Internet has never been written into the tax code, since it is a new technology." Other states had determined that since customers already pay a telecommunications service tax, paying for Internet access constitutes double taxation. A grandfather clause in the new federal legislation permits 10 states (Connecticut, Iowa, New Mexico, North Dakota, Ohio, South Carolina, South Dakota, Tennessee, Texas and Wisconsin) to tax Internet access because they already do. However, these states must show proof that the tax had been "generally imposed and actually enforced" before Oct. 1, 1998. Cayo says that Texas recently repealed its Internet access tax, and Connecticut is re-examining the issue.

Looking forward, application of telecom taxes to encompass Internet access will continue to be a hot-button issue. Once the moratorium on state Internet access tax ends, differences in the ways states handle such charges may become a more important site selection determinant.

Courtesy Of: Plants, Sites & Parks Magazine