Occupancy Tax Litigation Poses Concerns for Hotels
Internet sites have become a fundamental part of the marketing and sales of travel-related services. Countless hotel rooms are booked annually by way of online sites such as Orbitz, Expedia and Travelocity, among others.
With respect to hotel rooms, the Internet provider typically purchases a room at a discount from the hotel. The Internet provider will then sell the room to the end user at a markup which covers its cost and profit. The occupancy tax for the room, if applicable, is generally paid by the hotel and calculated on the lesser amount it sells the room to the Internet provider, rather than the higher amount charged by the Internet provider to the hotel guest.
The untaxed portion of the room’s retail cost to the consumer is currently the subject of many heated class action litigations in jurisdictions throughout the United States. The amount of revenue currently escaping taxation, and the potential lost taxation itself, totals tens, if not hundreds of millions of dollars annually. For this reason, class action suits against Internet travel companies have been authorized and brought by a number of cities (and other taxing authorities) throughout the country – Los Angeles, San Diego, Philadelphia, Atlanta and San Antonio, to name only a few.
The Stakes Are Huge
It remains unclear how the suits will turn out as no case has yet been decided. But, it is clear that the stakes of each suit are huge. While the cases are pending, hotel operators should take proactive steps to protect against derivative exposure to them should the Internet providers come out on the losing end. In light of this issue, it would be a good idea for hotel operators to review the language in their form hotel management and Internet travel company agreements with regard to the collection of these taxes, and their respective potential liability.
To be sure, the Internet travel companies raise various arguments against their obligation to pay occupancy tax. The leading argument goes this way: the hotel and Internet travel company negotiate a rate for the hotel room; the online provider then adds a service charge to the room rate and offers the room at a new total price to the consumer; the added service charge should not be subject to occupancy taxes because it is not part of the room rate – the service charge merely reflects the costs associated with operating and marketing the Internet-based travel company.
Who Will Ultimately Pay?
The taxing authorities hope that courts view Internet travel companies like travel agents. Travel agents typically receive an 8-10 percent commission of a hotel’s published room rate. However, hotels pay occupancy taxes on the entire amount the customer pays for a room, including any built-in commission payment to the travel agent.
Another defense of the Internet travel companies derives from the U.S. Supreme Court’s decision in Quill Corp. v. North Dakota, 505 U.S. 298 (1992). In Quill Corp, the Court held that, under the Commerce Clause, companies are not required to collect taxes in jurisdictions where they do not have a physical presence. The Internet travel companies will argue that, even if they are deemed to be no different than travel agents, they should nonetheless be free from the obligation to collect occupancy tax because they have no physical presence in the taxing jurisdiction.
For hotels, the danger arising from the occupancy tax cases is that, ultimately, taxing authorities may seek from the hotels (and their owners and operators) the occupancy taxes they claim are unpaid by the Internet travel companies.
To protect against this possibility, some hotels have, and all hotels should, immediately amend their contracts with Internet travel companies to provide (a) that the Internet travel companies will be responsible for any unpaid occupancy tax imposed by municipalities (or other taxing authorities), and (b) that the Internet travel companies will indemnify the hotels from any liability (together with any attorneys’ fees) caused by the potential imposition of added occupancy taxes. Now is the time to take these steps – before the courts begin to rule.