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IN THE COURT OF APPEALS OF IOWA No. 8-258 / 07-1792 Filed October 1, 2008

AOL, L.L.C., Petitioner-Appellee, vs. IOWA DEPARTMENT OF REVENUE, Respondent-Appellant. ________________________________________________________________

Appeal from the Iowa District Court for Polk County, Robert B. Hanson, Judge.

The Iowa Department of Revenue appeals from the ruling on judicial review reversing the final agency decision and concluding that gross receipts received by America Online, LLC, from its Iowa customers were not subject to Iowa sales tax. AFFIRMED.

Thomas J. Miller, Attorney General and Marcia Mason and Jim Miller, Assistant Attorneys General, for appellant. Bruce Baker of Nyemaster Goode West Hansell & O,,Brien, P.C., Des Moines, and Peter Brann and Martin Eisenstein of Brann & Isaacson of Lewiston, Maine, for appellee.

Heard

by

Sackett,

C.J.,

and

Miller

and

Potterfield,

JJ.

2 POTTERFIELD, J. The Iowa Department of Revenue appeals from the ruling on judicial review reversing the final agency decision and concluding that gross receipts received by America Online, LLC (AOL), from its Iowa customers were not subject to Iowa sales tax. We affirm. Background Facts and Proceedings. AOL is a service that offers its members internet access, email, instant messaging, and a variety of original content features. In order to retrieve the content of the AOL service, a member residing in Iowa has its modem-equipped computer place a call to a local telephone number. One of a cluster of modems at this local exchange answers this call, thus completing a local telephone connection between the member and the modem. The modem that answers the call then passes along a digital signal, which is routed to one of AOL s call centers located in Virginia. Before the customer can receive any content from AOL, "authentication" of the customers information must occur in Virginia, at which time the session begins. Without a local connection between the user s computer and the AOL call center in Virginia, no services can be provided. The Iowa Department of Revenue (Department), on June 14, 2001, issued an assessment seeking to collect unpaid sales taxes, which it claims are owed for the internet-related communication services provided by AOL, during a period from July 1, 1995, until June 30, 1999, (at which point, the legislature enacted a statute which expressly exempted the services from the sales tax). AOL filed a protest of the assessment.

3 The administrative proceedings resulted in a ruling favoring the Department. The Director of the Department (Director), among other things, held that "AOLs gross receipts from its internet connection services or access as assessed in the audit are communication services subject to Iowa sales tax. " In reaching that conclusion, the Director expressly found that the internet access is a "local service" and that AOLs claim that its access is an interstate service was without merit. On judicial review, the district court agreed with AOL. It held that because it is impossible for AOL members to access AOL without connecting through servers in Virginia, AOL is not a communication service provided "in this state." As such, the court determined AOL is not a taxable service, and reversed the agency ruling to the contrary. The Department appeals from this judicial review ruling. Scope and Standard of Review. Our review of agency action is governed by the standards set forth in Iowas Administrative Procedure Act. Grimm v. Iowa Dep't of Revenue, 331

N.W.2d 137, 139-40 (Iowa 1983). "In exercising its judicial review power, the district court acts in an appellate capacity." Mycogen Seeds v. Sands, 686

N.W.2d 457, 463 (Iowa 2004). When we review the district courts decision, "we apply the standards of chapter 17A to determine whether the conclusions we reach are the same as those of the district court." Id. at 464. "If they are the same, we affirm; otherwise we reverse." Id. Iowa Code section 17A.19(11)(c) (2007) provides that we should give appropriate deference to the view of the agency "with respect to particular matters that have been vested by a provision of law in the discretion of the

4 agency." Iowa Code

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