Two recent Federal Court rulings have placed in doubt the applicability of the Federal excise tax to most long-distance traffic.  On February 13, 2004, a Federal District Court in Ohio ruled that the 3% federal excise tax for long-distance service does not apply to certain long-distance calls.  This case contradicts a January 29, 2004 case from a Federal District Court in Florida, which held that the federal excise tax does apply to all long-distance calls.  As this has the potential to impact large end users of long distance services, the following Legal Alert is a brief overview of the current state of this area of law. End-users typically pay federal excise tax to their long-distance carriers as charged on their monthly bills.  The long-distance carriers then remit the tax to the Internal Revenue Service (“IRS”).  Section 4251 of the Internal Revenue Code (“IRC”) imposes the 3% federal excise tax on “toll telephone service.”  See 26 U.S.C. § 4251 (2003).  Section 4252(b)(1) of the IRC defines “toll telephone service” as “a telephonic quality communication for which (a) there is a toll charge which varies in amount with the distance and elapsed transmission time of each individual communication and (b) the charge is paid within the United States.” 26 U.S.C. § 4252(b)(1) (2003) (emphasis added).  Section 4252(b)(2) of the IRC provides that the definition also includes service for which a subscriber pays a flat fee for unlimited long-distance calling.  In the recent cases, the courts considered the requirement that the toll charge vary in amount with the distance of each communication, as set forth in IRC Section 4252(b)(1)(a).  In February 2004, in the case of Office Max, Inc. v. United States (“Office Max”), a Federal District Court in Ohio held that the IRS may only tax long-distance charges that vary in amount with distance and elapsed time.  Currently, most long-distance service charges are not distance sensitive; i.e., phone companies charge the same per-minute rate for a call from Florida to Georgia as they do for a call from Florida to Oregon.  Pursuant to this case, therefore, the IRS collected most taxes for long distance services erroneously and most long-distance service users are entitled to refunds. Only a month before Office Max, however, in the case of American Bankers Insurance Group, Inc. v. United States (“American Bankers”), a separate Federal District Court interpreted the IRC to apply to long distance charges that vary in amount with distance or elapsed time.  Under the interpretation of the excise tax in American Bankers, the IRS has taxed long-distance telephone users correctly, and long-distance service users are not entitled to refunds of the 3% tax. At this point, the law on the 3% federal excise tax is unsettled, but filing for a refund immediately could be beneficial to taxpayers.  A taxpayer may only request a refund for taxes paid over the past three years, so filing for the refund immediately provides taxpayers with the largest potential refund window.  Companies should not expect the IRS to issue refunds until the law is settled, although there are reported instances of the IRS issuing partial “settlement” refunds of up to 35%.  Companies interested in learning more about the refund process should contact our firm. A copy of the Office Max case is available at http://www.us.kpmg.com/microsite/taxnewsflash/2004/feb/OfficeMax.pdf.  A copy of the American Bankers case is available at http://www.us.kpmg.com/microsite/taxnewsflash/2004/feb/AmericanBankers.pdf. March 2004 Back