The City of Tacoma, Appellant, v. The William Rogers Company, Inc., Respondent, 148 Wash. 2d 169

Chambers, J. The City of Tacoma contends that the trial court erred in ordering a partial refund of municipal business and occupation (B&

O) taxes to the William Rogers Company, Inc., doing business as Evergreen Staffing (Evergreen). The trial court held that Evergreen, a temporary staffing service, was a mere agent or paymaster of its clients and therefore the wages paid to its workers were deductible as a “pass through” expense. We reverse and hold that Evergreen functioned as the actual employer of its temporary workers and is thus liable for the tax. B&O tax is a tax on the gross revenue of a business.

Because this tax is on gross income, the Department of Revenue and the City of Tacoma adopted a rule excluding from gross income receipts that are strictly “pass through” reimbursements for advances. The rule provides an exemption when the taxpayer receives reimbursement for advances made on behalf of a customer within its business, and also exempts services for which the taxpayer’s customer is solely liable. Thus, a travel agency that collects ticket fares on behalf of an airline does not include the ticket fare in its gross income, because the travel agent is collecting the fare as an agent of the client.

FACTS Evergreen is a temporary help service that provides temporary clerical workers and other workers to client firms throughout the Puget Sound. Its main office is in Tacoma. Evergreen functions as the employer of record, withholding payroll taxes and filing the employer’s state and federal tax returns. Avery small portion of Evergreen’s business consists of providing a payroll service to those clients who hire their own workers. Evergreen recruits its workers through advertising, referrals, and other services.

Prospective workers fill out an employment application, after which Evergreen evaluates their skills and abilities. Clerical workers are tested on typing and computer software skills. Laborers are given an orientation and shown a video on industrial safety. After evaluation, workers are placed in Evergreen’s database as available for assignment. They are provided with an employee handbook that “gives them basic instruction on how to perform their job.” Verbatim Report of Proceedings at 36-37. The handbook states, ‘You remain our employee no matter where we assign you to work.” Clerk’s Papers (CP) at 72.

Employees are entitled to certain paid holidays and vacation days, the cost of which is incorporated into the billing rate. When a client requests a temporary worker, Evergreen quotes a billing rate and a charge for any special services, such as background checks. Sometimes Evergreen fills the position from its inventory of available workers, but more often must advertise for qualified personnel. The client provides the necessary work space, equipment, tools, and materials required by the temporary worker. The worker is not paid except when performing work for a client.

Evergreen’s billing to its clients is in the form of a bill of sale. Evergreen guarantees satisfactory performance by the workers and agrees to provide all payroll functions. The client agrees to provide a suitable workplace and adequate training, and assumes responsibility for losses to equipment used by the worker and for compliance with health and safety standards. Evergreen provides a money-back guaranty to its clients, and if the client is dissatisfied or fails to pay, Evergreen remains liable for paying the worker. Evergreen does not describe itself as the agent of its clients.

Tacoma levies a B&O tax on businesses operating within the city limits. The tax is not an income tax. It is based on gross income from business activity conducted within the city, with no deductions allowed for costs incurred in running the business. Tacoma Municipal Code (TMC) 6.68.070, .220. Until 1996, Evergreen paid the tax without deducting the wages paid to its workers. However, in 1996, Evergreen learned about a Revenue Policy Memorandum issued by the State Department of Revenue to clarify the question of when a business qualifies for deductions under WAC 458-20-111 (State Rule 111).

Evergreen then sought a refund of state B&O taxes from the Department of Revenue. The department initially rejected the request but later reversed its decision and refunded $257,167 for wages and payroll taxes that had been paid to Evergreen’s employees by its clients and “passed through” to the employees by Evergreen. CP at 327. The department found that although Evergreen was the employer of record, it was functioning solely as a payroll agent. Having succeeded on the state level, Evergreen applied to Tacoma for a similar refund of city B&O taxes paid during the same period. The City denied the refund.

On appeal, the Tacoma hearing examiner ruled against the city. The examiner concluded that Evergreen was entitled to a refund of approximately $37,500 for taxes overpaid during the two years preceding the refund request. CP at 25. Tacoma then appealed to Pierce County Superior Court, which ruled for Evergreen, concluding that the control exercised by Evergreen’s clients over the employees was so pervasive that it amounted to “basically exclusive control,” and Evergreen merely advanced the wages on behalf of its clients. Report of Proceedings at 316. The city petitioned this court for direct review.

ANALYSIS Because the B&O tax is based on gross income, no deduction is permitted for expenses involved in conducting a business. TMC 6.68.070. However, because amounts that merely “pass through” a business in its capacity as an agent cannot be attributed to the business activities of the agent, such amounts are not taxable. See Walthew, Warner, Keefe, Arron, Costello & Thompson v. Dep’t of Revenue, 103 Wn.2d 183, 188, 691 P.2d 559 (1984).

Thus, the city has adopted an administrative rule that allows taxpayers to deduct advances or reimbursements from gross income as “pass through” payments where the liability of the taxpayer is solely that of an agent: The word “advance,” as used herein, means money or credits received by a taxpayer from a customer or client with which the taxpayer is to pay costs or fees for the customer or client. The word “reimbursement,” as used herein, means money or credits received from a customer or client to repay the taxpayer for money or credits expended by the taxpayer in payment of costs or fees for the client.

The words “advance” and “reimbursement” apply only when the customer or client alone is liable for the payment of the fees or costs and when the taxpayer making the payment has no personal liability therefor, either primarily or secondarily, other than as agent for the customer or client. There may be excluded from the measure of tax amounts representing money or credit received by a taxpayer as reimbursement of an advance in accordance with the regular and usual custom of his business or profession. City of Tacoma, Dep’t of Tax & License, Rule 111 (1984).

Rule 111 provides several examples of how the exception is intended to work. For example, an automobile dealer who collects from a buyer, in addition to the sales price, the licensing fees and taxes, is not required to pay the B&O tax on the fees and taxes collected and paid to the government. Similarly, an attorney advancing filing fees and other fees on behalf of the lawyer’s client is not required to pay B&O tax on the reimbursed fees.

In two previous cases concerning State Rule 111, this court has held that in a traditional “pass through” scenario, the client has sole liability for an expense paid on its behalf and is responsible for advancing the cost to the taxpayer or reimbursing the taxpayer. The first concerned payments made by a law firm to attorneys in another city on behalf of the client. The parties stipulated that the out-of-town attorneys understood they were working directly for the clients. Christensen, O’Connor, Garrison & Havelka v. Dep’t of Revenue, 97 Wn.2d 764, 769, 649 P.2d 839 (1982).

The second held that filing fees paid by a lawyer on behalf of a client are tax deductible because the Rules for Lawyer Discipline forbade the law firm from advancing fees to the client on a nonrefundable basis. Walthew, 103 Wn.2d at 186. In these cases, the taxpayer clearly had no liability for the payments. Evergreen relies very heavily upon a third case decided by this court interpreting Rule 111, Rho Co. v. Department of Revenue, 113 Wn.2d 561, 782 P.2d 986 (1989). The taxpayer in Rho supplied manufacturers with temporary workers with technical engineering skills.

In addressing whether the taxpayer was acting as an agent or as a principal in employing and paying the workers, the Board of Tax Appeals restricted its analysis to the parties’ written contracts. This court held that the board erred in relying solely on the contracts. We held that “ [d] etermination of an agency relationship is not controlled by the manner in which the parties contractually describe their relationship.” Rho, 113 Wn.2d at 570.

We further held that the “standard definition of agency should be used in analyzing Rule 111, absent any specific legislative or regulatory statement to the contrary.” Rho, 113 Wn.2d at 573. We concluded that the record was inadequate to decide the agency issue and remanded to the tax board for specified further findings. Evergreen and the trial court have erroneously construed our specific instructions on remand in Rho as the holding in the Rho case. We take this opportunity to clarify our holding in Rho.

Rule 111 provides that there may be excluded from taxable amounts any money or credit received by a taxpayer as reimbursement of an advance in accordance with the regular and usual custom of his business or profession. In Rho we explained that the taxpayer had to prove that the advance in question was made pursuant to an agency relationship. The existence of that agency relationship is not controlled by how the parties described themselves in their contract documents, and standard agency

definitions should be used in analyzing the existence of the agency relationship. When a taxpayer meets its burden and establishes the existence of an agency relationship, a second question must be asked: whether the taxpayer’s liability to pay the advance “constituted solely agent liability.” Rho, 113 Wn.2d at 573. If a taxpayer assumes any liability beyond that of an agent, the payments it receives are not “pass through” payments, even if the taxpayer uses the payments to pay costs related to the services it provided to its client. Walthew, 103 Wn.2d at 189.

Evergreen fails to meet even its first burden, to demonstrate an agency relationship with its clients for the purpose of providing employees. Rho denied that it was the employer of the engineers; in fact, it was not licensed to provide such engineering services. Rho, 113 Wn.2d at 568. But while Rho argued that the documentary evidence did not accurately reflect the reality of its business activities, Evergreen stipulates to being the employer of the workers. As Mr.

Rogers testified: It is absolutely my understanding that the temp employees, when they are assigned to work as an Evergreen Staffing employee, they are the employees of my company, the William Rogers Company. No doubt in the world in my mind about that. RP at 38. As we stated in Rho, “If Rho is the employer, then Rho is liable in its own right for the payment, and Rule 111 does not apply.” Rho 113 Wn.2d at 569. We conclude that Evergreen has failed to establish that it paid its temporary workers pursuant to an agency relationship.

Even if Evergreen had established agency, the wages can be considered as a “pass through” expense only if Evergreen acts solely as the agent of its clients for the purpose of paying those wages.

On the second prong of the test, in Rho we remanded and directed the Board of Tax Appeals to focus on the following factors: If the clients’ control over the personnel was so pervasive that it should be deemed the employers of the personnel for purposes of B&O taxation, and Rho’s control consisted of little more than paying the personnel once they were hired, then Rho should be deemed to be a mere paymaster who pays the personnel only as an agent for the clients. The areas in which control will be important will include hiring, compensation, work assignment, supervision and termination. Rho, 113 Wn.2d at 573.

This holding was specific to the case and should not be read as the sole method of determining agency. Control over hiring, compensation, work assignment, supervision, and termination were the critical factors under the facts presented in Rho. They are, however, not the exclusive factors to consider when determining whether advances are made “solely” as the agent of a principal. We will examine the findings of fact relevant to Evergreen. Finding of fact 5 demonstrates that Evergreen was not acting solely as an agent but is in the business of providing temporary services. CP at 322.

Evergreen is the employer of record for the workers, and labeling the worker as an employee of Evergreen is an essential part of the service provided to clients. Evergreen provides the workers with an employee handbook identifying them as employees of Evergreen. As employer of record, Evergreen withholds income and employment taxes and files all tax returns for the workers. It is also responsible for complying with the Washington Industrial Insurance Act, Title 51 RCW. It conducts safety inspections of the work sites and responds in the event of an on-the-job injury.

Compensation is one of the most significant factors in determining the relationship between a principal and an agent. Regardless of whether it receives reimbursement from its clients, Evergreen is responsible for paying the workers. Evergreen argues that in paying its workers it acts within the scope of its authority as an agent, and the client is ultimately liable for the obligation. However, this argument fails because Evergreen has sole liability to pay the workers. For example, Evergreen offers its clients a guaranty of satisfaction.

When the client is not satisfied with a worker’s performance and invokes this guaranty, only Evergreen is liable for the payment. Also, where a client is for any reason unable or unwilling to pay the worker, Evergreen is liable for making the payment. If Evergreen had only agency liability, it would not be making payments that were unauthorized by the principal. Furthermore, Evergreen grants its temporary workers certain paid holidays and accrued vacation time.

Billing rates incorporate these charges, but if the temporary worker fails to take any holiday or vacation time, Evergreen does not refund the cost to the client. Thus, Evergreen does not pay holiday and vacation time as the agent of the client. In fact, Evergreen and its employees negotiate a salary. Evergreen then negotiates a rate with its clients. The employees do not know how much the client is paying Evergreen for their time and the clients do not know how much Evergreen is paying the employees.

The record demonstrates that Evergreen is acting as the provider of temporary employment rather than as a payroll master. Evergreen also exerts considerable control over hiring. Evergreen advertises for workers, requires them to complete employment applications, and tests their skills before deciding whether to hire them. Evergreen then places the workers on an “available for assignment” list. When a client requests a worker, Evergreen determines the job skills required and then selects one or more suitable candidates from its pool of workers available for assignment.

While the client makes the final decision whether to accept the worker, the ultimate control over work assignments lies with Evergreen, which is responsible for determining which workers to make available for interview and in some instances will select the worker to fill the position. Termination is also under the control of Evergreen because a worker can remain an employee of Evergreen, on an “available for assignment” list, even when terminated from a jobsite. CP at 323, 325.

Whether Evergreen chooses to remove an unsatisfactory employee from the list or hold him or her in an inactive status, the effect is the same. In either case, it is Evergreen, and not the client, who controls whether the worker will remain actively employed. The trial court concluded that “[t]he customer exercises pervasive control over the temporary workers and exclusive control at the work site, except as it may relate to the work site injuries.” CP at 326. The court also concluded that “payments made to Evergreen by its customers for the services of the temporary workers are reimbursements for advances.” Id.

However, these are conclusions of law rather than findings of fact, regardless of how the trial court labeled them. If a conclusion of law is incorrectly denominated as a finding of fact, it is reviewed as a conclusion of law. Alexander Myers & Co. v. Hopke, 88 Wn.2d 449, 460, 565 P.2d 80 (1977) (citing Neil F. Lampson Equip. Rental & Sales, Inc. v. W. Pasco Water Sys., 68 Wn.2d 172, 174, 412 P.2d 106 (1966); Kane v. Klos, 50 Wn.2d 778, 788, 314 P.2d 672 (1957)). This court reviews conclusions of law de novo. State v. Johnson, 128 Wn.2d 431, 443, 909 P.2d 293 (1996).

Further, the court erroneously interpreted the Rho court’s instructions on remand as the court’s holding and sole test for determining whether payments qualify as “pass through” advances. Thus, Evergreen does not act solely as the agent of the clients in its relationship with the workers. CONCLUSION Accordingly, we reverse the superior court and hold that Evergreen is liable to pay B&O taxes on the payments received from clients for the labor of its employees. Smith, Johnson, Ireland, Bridge, and Owens, JJ., concur.

Both parties used the travel agency business as an example during oral argument. “ ‘[Tjemporary help service’ ” is defined by the American Staffing Association as “ ‘a service whereby an organization hires its own employees and assigns them to clients to support or supplement the client’s work force in work situations such as employee absences, temporary skill shortages, seasonal workloads, and special assignments and projects.’ ” Edward A. Lenz, Co-Employment: Employer Liability Issues in Third-Party Staffing Arrangements 10 (3d ed. 1997).

The TMC provides for a two-year statute of limitations: “No refund or credit shall be allowed with respect to any payments made to the Director more than two years before the date of such application.” TMC 6.68.375. The dissent suggests we should first consider whether the funds representing labor costs constitute gross income. Respondents do not make that argument and this court will not review a case on a theory different from the theory presented at trial. Matthias v. Lehn & Fink Prods. Corp., 70 Wn.2d 541, 543, 424 P.2d 284 (1967).

See also RAP 13.7(b) (providing that “the Supreme Court will review only the questions raised in the ... petition for review”). Moreover, by the plain language of the ordinance, these labor costs are part of gross income. See TMC 6.68.070 (defining “ ‘gross income of the business’ ” as “the value proceeding or accruing” from business transactions without any deduction on account of labor costs); and TMC 6.68.080 (defining the “ Value proceeding or accruing’ ” as “consideration . .. expressed in terms of money, actually received or accrued.”).

The amount of money Evergreen “actually receive[s]” from its clients includes the labor costs of the temporary workers it provides to the clients. The Court of Appeals and tax board cases cited by the dissent were analyzed under the Rule 111 “pass through” exemption. This is identical to State Rule 111, WAC 458-20-111. The rule also describes what is not a “pass through” reimbursement: On the other hand, no charge which represents an advance payment on the purchase price of an

article or a cost of doing or obtaining business, even though such charge is made as a separate item, will be construed as an advance or reimbursement. Money so received constitutes a part of gross sales or gross income of the business, as the case may be.

For example, no exclusion is allowed with respect to amounts received by (1) a doctor for furnishing medicine or drugs as a part of his treatment; (2) a dentist for furnishing gold, silver or other property in conjunction with his services; (3) a garage for furnishing parts in connection with repairs; (4) a manufacturer or contractor for materials purchased in his own name or in the name of his customer if the manufacturer or contractor is obligated to the vendor for the payment of the purchase price, regardless of whether the customer may also be so obligated; or (5) any person engaging in a service business or in the business of installing or repairing tangible personal property for charges made separately for transportation or traveling expense.

Rule 111.