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Licensing

An End-of-Year Review of TTB Tax Audits and Enforcement

by Alva C. Mather, Christine Dower and Michelle Draper | Dec 20, 2024 | Alcohol Excise Taxes, Enforcement, Licensing

We have updated and republished this March 2024 blog post for a year-end summary.

The Alcohol and Tobacco Tax and Trade Bureau’s (TTB) Office of Field Operations is responsible for ensuring industry members comply with the Federal Alcohol Administration Act, the Internal Revenue Code, and all related regulations. It is divided into three groups: the Trade Investigations Division (TID), the Tax Audit Division (TAD), and the Intelligence Division.

Many industry members are most familiar with the TID, as it is comprises investigators who are responsible for enforcing compliance with the trade practice laws and maintaining a level playing field. The TAD may be less familiar, however, as it is comprises auditors who are responsible for ensuring payments of excise taxes and compliance with the laws and regulations in a manner that protects revenue and prevents unlawful activity in the commodities that the TTB regulates. The TAD works with other areas of the TTB and has the resources to assist in the investigations of underpayment of tax or other financial areas that relate to the laws and regulations enforced by the TTB. The TAD also performs random audits, which means that every industry member is susceptible to an audit.

Over the past year, the TAD has issued a number of tax-related citations for failure to timely file and/or pay taxes, use of inappropriate tax rates, largely stemming from the improper use of reduced tax rates under the Craft Beverage Modernization Act (CBMA) and late payments, among other violations. TTB routinely resolved these violations by accepting offer-in-compromise (OIC) settlement payments from the targeted industry members, collectively, to the tune of approximately $11,000,000 since the beginning of 2023.

Based on a review of the OICs, which are published on the TTB website, there were a wide range of tax-related violations over the past year, including:

Failure to timely file and/or pay taxes and reports. These failures accounted for nearly 70% of all OIC violations and have been a source of increasing scrutiny by TTB in 2024. In these common infringements, the permittee submits their reports or taxes late. The causes for a violation can range from (1) a simple late submission, even 1-2 days late; (2) filing the tax return without paying the taxes; (3) late payments due to processing times; or (4) a change in filing frequency. It is important to ensure that industry members’ reports are filed on time (even a day late is sufficient to warrant a violation) and that the taxes are paid promptly.
Use of inappropriate tax rates. There are two main categories of tax rate violations: (1) inappropriate use of reduced tax rates or credits, largely through improper use of the CBMA, and (2) inappropriate categorization of the product (commonly wine). An accurate determination of the product’s tax class is crucial to avoiding these violations, as is consideration of your eligibility (and continued eligibility) for CBMA-reduced rates or credits, including your status in a single taxpayer designation or a controlled group. We saw a significant increase in tax-related enforcement due to violations from [...]

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Contract Manufacturing Versus an Alternating Proprietorship: What Is the Difference?

by Alva C. Mather, Christine Dower and Michelle Draper | Sep 26, 2024 | Alcohol Excise Taxes, Audits, Commercial Agreements, Craft Beverage Modernization Act, Licensing

We frequently receive questions about the differences between contract brewing and alternating proprietorships, as well as questions concerning the key details the Alcohol and Tobacco Tax and Trade Bureau (TTB) and other regulators will be looking for in either approving the proposed structure or, more importantly, during a company audit. Here we discuss the primary considerations for businesses utilizing other premises for production.

Alternating Proprietorship. The TTB allows two or more proprietors with different federal employer identification numbers (FEINs) to operate their respective businesses at the same premises by alternating and sharing space and/or equipment. How does it work? Typically, each proprietor obtains its own federal and state licenses and permits and operates and produces on its own behalf; these latter tasks include maintaining its own reports, records, excise tax payments, label approvals, and bond changes once approved. One proprietor is the “host,” and another is a “tenant” paying rent to the host. The rent can be a fixed monthly rate or based on equipment-hour usage. Other shared-cost arrangements are possible, as well.

During its review of an alternating proprietor’s application for a federal basic permit, the TTB will evaluate the written agreement between the alternating proprietor and the host. The TTB’s primary concern is to ensure the protection of each proprietor’s revenue. As such, the separation and movement of each proprietor’s products, payment of taxes, etc., will likely face the most scrutiny by TTB in an alternating proprietorship agreement. Accordingly, the alternating proprietorship agreement should expressly state that the alternating proprietor is responsible for its own production, recordkeeping, reporting, labeling, and payment of taxes. The agreement should provide that the alternating proprietor will pay the host directly for its floor space, equipment use, and, where applicable, personnel time and material consumed if the host is to provide additional services or materials. Payment to the host should not be based on volume rates (e.g., tons, gallons, or cases). The TTB reviews all of these factors to determine if the arrangement is a true alternating proprietorship and not a contract manufacturing relationship in disguise.

Entities engaging in alternating proprietorships frequently use a combination of direct employees and independent contractors to maintain their operations. In this highly specialized industry, independent contractors are in high demand due to their extensive knowledge and experience. Utilizing these workers enables producers to meet higher production targets with a shorter learning curve, while allowing direct employees to learn the process with limited downtime. However, it should be clear in the alternating proprietorship agreement that these employees are acting solely at the alternating proprietor’s direction, or they should be hired directly by the alternating proprietor.

Contract Manufacturing. Also known as co-packing, contract manufacturing is an operational methodology that differs from an alternating proprietorship. With contract packaging, a co-packer entity produces and/or packages product(s) on behalf of their customers, with all operations occurring under the co-packer’s license or permit and often under the customer’s trade name. In a co-packing situation, the co-packer also may be producing or packaging for [...]

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Maine Updates Ownership Disclosure Requirements

by Alva C. Mather and Michelle Draper | Aug 30, 2024 | Legislation, Licensing

On August 9, 2024, the new Public Law 2023, ch. 633 (L.D. 2069) from Maine’s Bureau of Alcoholic Beverages and Lottery Operations (BABLO) formally went into effect, bringing an end to the previous burdensome “entire ownership” disclosure requirement that disrupted the industry in 2023.

This legislation establishes new ownership disclosure requirement related to alcohol licensing in Maine. It amends Sec. 1. 28-A MRSA § 651 to require the disclosure of any person holding an ownership interest of 10% or more in the license or certificate holder in the state of Maine. Additionally, if a business meets this threshold of ownership in the licensee, that business must also disclose any individual or entity which holds 10% or more in said business; if no one meets this threshold, the license holder may submit an affidavit which attests that no individual or entity holds such ownership interest in the licensee or applicant.

The new legislation also requires in Sec. 2. 28-A MRSA § 651 that the licensee or applicant disclose any individual or entity holding indirect financial interest in the license holder, with “indirect financial interest” including (a) an option or right to acquire equity interest in the licensee or (b) a right to payment of or based upon all or any portion of revenues, profits, or losses from the operation of the licensee.

In connection with the implementation of these new disclosure requirements, BABLO has issued a new Supplemental Ownership Form for convenience of industry members to identify the information required from the necessary stakeholders. With many licenses operating on temporary extensions for the last year as BABLO updated these requirements, industry members are now working diligently to complete the necessary documents for renewal of their existing licenses.

McDermott’s alcohol team is ready to guide you through the new requirements. For questions or assistance with Maine’s disclosure requirements, please contact Alva Mather or the alcohol team.

Pennsylvania Expands Access to Ready-to-Drink Cocktails

by Alva C. Mather and Andrea Nappi Conforme | Jul 26, 2024 | Beer, Malt Beverages and Cereal Beverages, Distilled Spirits, Distribution, Legislation, Licensing, RTD Beverages

On July 17, 2024, Pennsylvania Governor Josh Shapiro signed SB 688 into law, expanding the number of available outlets that can sell ready-to-drink cocktails (RTDs) across the state.

The new law defines “Ready-to-drink cocktails” as “beverage[s], composed in part of distilled liquor … premixed and packaged in original containers by the manufacturer, containing not more than sixteen ounces … The term shall include any beverage consisting of at least one-half of one per centum, but not greater than twelve and one-half per centum, alcohol by volume.” Notably, this term does not encompass beer, malt or wine-based RTD beverages.

Explaining the intent behind the bill, sponsor Senator Mike Regan, in a February 17, 2023, memo, cited the recent growth and overall popularity of the RTD category as the reason why RTD beverages deserve to be treated differently from other liquor-based products.

Prior to the new law, liquor-based RTDs could only be sold through state-run stores, where they compete for limited shelf and cooler space that is not commensurate with their market share. Spirits and all products containing spirits had to be sold by in-state manufacturers and out-of-state vendors to the Pennsylvania Liquor Control Board. The board would then sell to liquor-licensed retailers, such as restaurants and bars, and to its state liquor stores. As a result, consumers would have to purchase RTDs in the same manner they would purchase higher ABV spirit products at a state-run store.

With SB 688’s enactment, Pennsylvania now allows for these spirits-based RTDs to be sold either through the board state-store system or through the state’s independently licensed beer network with the acquisition of an additional permit. Notably for manufacturers – both in-state and out-of-state – Pennsylvania’s franchise laws that cover Pennsylvania beer distribution do not extend to RTDs.

Before buying RTDs for resale, retailers and distributors will need to acquire a new type of permit called a “Ready-to-Drink Cocktail Permit.” Retailers will be able to purchase RTDs from state-run stores (as they do currently) and also from in-state limited distilleries. Consumers will be able to purchase RTDs from the retailers who have acquired the “Ready-to-Drink Cocktail Permit,” from state stores, from in-state distilleries, and from distributors and importing distributors.

TTB Ramps Up Tax Audits and Enforcement

by Alva C. Mather, Christine Dower and Michelle Draper | Mar 19, 2024 | Alcohol Excise Taxes, Enforcement, Licensing

The Alcohol and Tobacco Tax and Trade Bureau’s (TTB) Office of Field Operations is responsible for ensuring industry members comply with the Federal Alcohol Administration Act, the Internal Revenue Code and all related regulations. It is divided into three groups: the Trade Investigations Division (TID), the Tax Audit Division (TAD) and the Intelligence Division.

Many industry members are most familiar with the TID, as it is comprised of investigators who are responsible for enforcing compliance with the trade practice laws and maintaining a level playing field. The TAD may be less familiar, however, as it is comprised of auditors who are responsible for ensuring payments of excise taxes and compliance with the laws and regulations in a manner that protects revenue and prevents unlawful activity in the commodities that the TTB regulates. The TAD works with other areas of the TTB and has the resources to assist in the investigations of underpayment of tax or other financial areas that relate to the laws and regulations enforced by the TTB. The TAD also performs random audits, which means that every industry member is susceptible to an audit.

Over the past year, the TAD has issued tax-related citations for failure to timely file and/or pay taxes, use of inappropriate tax rates (largely stemming from the improper use of reduced tax rates under the Craft Beverage Modernization Act (CBMA) and failure to maintain adequate records, among other violations. In 2023, the TTB resolved these violations by accepting offer-in-compromise (OIC) settlement payments from the targeted industry members, collectively, to the tune of approximately $850,000.

Based on a review of the OICs which are published on the TTB website, there were a wide range of tax-related violations last year, including:

Failure to timely file and/or pay taxes and reports. These failures accounted for nearly 70% of all OIC violations. In these common infringements, the permittee submits their reports or taxes late. The causes for a violation can range from (1) a simple late submission, even 1-2 days late; (2) filing the tax return without paying the taxes; (3) late payments due to processing times; or (4) a change in filing frequency. It is important to ensure that industry members’ reports are filed on time (even a day late is sufficient to warrant a violation) and that the taxes are paid promptly.
Use of inappropriate tax rates. There are two main categories of tax rate violations: (1) inappropriate use of reduced tax rates or credits, largely through improper use of the CBMA, and (2) inappropriate categorization of the product (commonly wine). An accurate determination of the product’s tax class is crucial to avoiding these violations, as is consideration of your eligibility (and continued eligibility) for CBMA-reduced rates or credits. We saw a significant increase in tax-related enforcement due to violations from acquisitions completed in the first half of 2023 which impacted eligibility of the reduced tax rates for the entity as a new member [...]

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California Steps Up Liquor License Enforcement

by Alice Chung and Alva C. Mather | Sep 11, 2023 | Licensing

We always recommend you regularly review your state liquor licenses to ensure you hold the correct licenses for your business needs. However, given recent feedback from California regulators, you may want to expedite such a review. We have learned that California is scrutinizing liquor licenses and enforcing regulations that prohibit licensees from obtaining licenses that could create tier violations.

California recently provided guidance on which industry members can hold a Type 13 Distilled Spirits Importer’s General license. As a reminder, a Type 13 license authorizes licensees to import and sell distilled spirits to other distilled spirits manufacturers, wholesalers, rectifiers and importers within the state. Historically, California issued a Type 13 license to out-of-state supplier-tier companies importing distilled spirits in their name. These companies would use licensed public warehouses for storage before distributing their products to authorized California licensees, such as licensed California wholesalers.

However, the California Department of Alcoholic Beverage Control (CA ABC) asserts that CA BPC § 23771 prohibits distilled spirits suppliers from holding a Type 13 license if they have any interest in manufacturing within or outside of the state. This prohibition applies to suppliers who manufacture distilled spirits outside of California or have a parent company that manufactures distilled spirits overseas. The state has said that these suppliers should hold a manufacturer-type license, such as a Type 5 license.

A Type 5 Distilled Spirits Manufacturer’s Agent license is frequently held by an agent of out-of-state distilleries or manufacturers who promotes the products and does missionary work for the out-of-state distillers or manufacturers. They can also solicit sales from licensed distilled spirits manufacturers, rectifiers or distilled spirits wholesalers and hold possession of distilled spirits in public or private warehouses. Although Type 5 licensees cannot import distilled spirits into California, they can sell distilled spirits to other Type 13 license holders who may import into the state.

While we have not seen proactive enforcement from CA ABC on this matter, the issue may arise when or if Type 13 license-holding companies renew a license or file a person-to-person transfer or premises transfer for a current license. CA ABC has indicated that Type 13 license-holding suppliers will not be penalized for holding an improper license; the agency will expect these suppliers to work with it to determine if they should hold a different set of licenses to meet their business needs.

If you have any questions about California ABC liquor licenses, please contact Alva Mather, Nichole Shustack, Alice Chung or McDermott’s alcohol team.

The Expanding Landscape of Alcohol Delivery Services

by Alva C. Mather | May 4, 2022 | Advertising and Marketing, Distribution, Licensing, Trade Practices

Following consumer trends and fueled by the pandemic and related loosening of restrictions on in-state retailer alcohol delivery regulations, the marketplace for alcohol delivery services has expanded exponentially over the last several years and shows no signs of slowing down. Industry forecasts predict double-digit growth year-over-year until at least 2025 for alcohol-focused e-commerce platforms. However, like anything in the alcohol beverage space, various avenues of penetration for new or existing companies come with certain restrictions that need to be balanced against opportunities for delivering customer convenience through alcohol delivery services.

Available Models

As alcohol delivery has grown and expanded in nearly every US state, numerous delivery models have developed to bring alcohol to a consumer’s doorstep. Of the various models, three have emerged as the most dominant go-to-market approaches to service this new industry sector.

The first are purely e-commerce platforms that connect consumers directly with a wide variety of licensed alcohol retailers but are themselves unlicensed (such as Drizly). The second are unlicensed white-labeled alcohol delivery services which appear as a branded website but integrate with a network of licensed retailers (like Thirstie). And the third are delivery platforms that themselves hold alcohol licenses (such as Gopuff).

Regulatory Opportunities and Impediments

While each of these models presents growth opportunities to service consumers’ desires to receive alcohol at their doorsteps, they also come with a host of restrictions that entities—and any investors in these companies—need to understand. Chief among these considerations are:

“Sale of Alcohol”: If the alcohol delivery service is itself unlicensed, the “sale” of alcohol must be between the consumer and the ultimate retail license holder. This means that the service cannot itself first receive the funds for the sale, take its fee and then pass the monies forward to the license holder. In some states, the provider may, however, be able to direct funds in the first instance to an escrow account or other independent account if the licensee retains a degree of control over the account. The licensed retailer should also always maintain control over the “sale” of alcohol, including setting pricing and accepting or rejecting orders.
Fee Structure: While state regulators allow for platforms to charge for their delivery and hard costs related to their services, how that fee is derived can be of particular significance if it is or can be correlated with alcohol sales. This restriction is premised on the fact that only a licensed entity should receive the benefit or privilege of the sale of alcohol. Accordingly, certain states like New York have suggested that if the fee structure is not a “flat fee” for services, receiving more than 10% of the revenue from a retailer as part of the sale of alcohol renders the platform a “Co-Licensee” and subject to the state’s authority and licensee vetting process.
Supplier Advertising: The ability of alcohol suppliers to pay to advertise on alcohol delivery platforms is of particular focus to alcohol state regulators. First, if the platform is itself unlicensed, the [...]

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Ruling Permits On-Premises Beer and Wine Licenses for New York Movie Theaters

by McDermott Will & Emery | Feb 17, 2022 | Distribution, Licensing

On January 26, 2022, the New York State Liquor Authority issued a Declaratory Ruling regarding the eligibility of New York movie theaters to apply for and obtain on-premises retail licenses for beer and wine service. This is a value-add for theaters, and it allows businesses to provide a new amenity to customers and increase their revenues. The Authority determined that theaters would be eligible for these licenses provided the following:

They can establish the theater will prepare and serve food;
The primary source of revenue for the theater will be from the ticket sales and/or snacks; and
The revenue from the sales of alcoholic beverages (beer and wine only) will be incidental to revenues from tickets and food offerings.

For questions about this ruling, retail licenses in New York or other alcoholic beverage licensing and compliance matters, please contact Adena Santiago or McDermott’s alcohol regulatory and distribution team.

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