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Cuppa Coffers

Boston Cappuccino Party: California customers of Seattle-based coffee giant Starbucks leave a paper-cup trail of uncollected sales taxes, which by law should be charged for all hot coffee consumed on the premises.

Photo by Kirk Schroeder

Is Starbucks contributing its fair share to local communities? Reporters' observations indicate the coffee giant doesn't pay as much local sales tax as it should. The company calls it an 'oversight.'

By Michael Learmonth

'DECAF GRANDE NON-FAT LATTÉ!" announces the frontman at Starbucks toward four young, high-energy coffee schleppers, white sleeves rolled up, pulling shots from the espresso machines into paper cups. Sleepy-eyed patrons assume the classic coffee pose: hunched back, elbows on the table, both hands holding the piping morning elixir in paper cups, as if in prayer.

A California highway patrolman, in leather jacket and jackboots, strikes a rakish pose, sipping from his disposable cup on the patio within eyeshot of his Kawasaki 1000. He's reading a copy of Michael Connelly's The Poet. On my nickel, I figure.

Apparently, at this moment at 10am in Starbucks at Hamilton Plaza in Campbell, only one customer has specified "for here." He sits at the window, nose in a paper, an empty porcelain espresso cup to his side. "It does not taste the same in paper," he says, sneering at my watery brown Americano. "For you, it probably doesn't matter."

The rest of the coffee-sippers, three inside and four out, are sipping from paper cups. That means they are "takeout" customers and were not charged the 7.75 percent sales tax on their coffee. In not charging these customers sales tax, even though they are consuming their coffee on the premises, Starbucks is treading on a touchy piece of California tax law that states a product "suitable for consumption on the seller's premises" should be taxed.

"The rule is basically that coffee on the premises is taxable," says Johan Klehs, vice chair of the State Board of Equalization. "Coffee to go is not taxable." The catch is that once the customer takes that first sip in the store, on the way out or before adding cream, the coffee becomes taxable in the eyes of the state.

"If you read the tax guidelines, they are a bit vague," says Teri Hope, owner of Los Gatos Coffee Roasting Co., who charges sales tax for every cup of coffee regardless of whether it is a takeout order. "I always assume if my beverage is hot and ready to drink that it is a taxable item. Even if the coffee is 'to go,' they're probably sipping it as they walk out the door."

So what's a few pennies to your average gourmet coffee addict who's already paying $2.50 for a latté? Less than two bits. But local governments depend heavily on sales tax revenue. In San Jose, sales tax accounts for $96,508,310 annually, or 22 percent of the general fund. As an average Starbucks sells thousands of dollars in coffee a day, local governments literally watch revenue walk away in paper cups.

"Sales tax is our largest source of revenue," says Jennifer Maguire, budget analyst for the City of San Jose. "It pays for libraries, police, fire protection, budget staff, streets and traffic, parks, neighborhood services; basically anything that people think a city service is."

THE DECISION ABOUT whether or not to charge sales tax at a store like Starbucks depends entirely on the discretion of the cashier and the honesty of the customer. If the cashier simply assumes the coffee is "to go," the customer might sit down in the store to drink it without first paying the applicable sales tax. Likewise, it's hard to imagine a friendly mechanism to deal with a customer who says "to go" and then sits inside.

A survey of San Jose­area Starbucks shows that despite register signs offering porcelain mugs to "for here" orders, the vast majority of patrons drink from paper cups even while they sit inside.

"I didn't know there was a difference," says Martin Welling, sipping from a "to go" cup in the Hamilton Plaza Starbucks. At the Pavilion location, there are no proper tables inside, but many stools facing the window. Bobby DeSapio, sitting outside with a paper cup, swears he wasn't given the choice "for here or to go."

Just assuming that everyone is "to go" makes the job a little easier for Starbucks employees. "I think it's more that they don't have to do the dishes," speculates Joe Anderson, sitting with his bike at an outside Pavilion table. "It's more of a lazy kind of thing."

When I ordered my Tall Americano, I specified "for here." The price jumped from $1.30 to $1.40. Not a bank-breaker by any stretch but counter-intuitive to a customer to be charged more for what seems to be merely saving Starbucks the cost of the cup. Adding to the confusion, the prices on the wall don't include sales tax.

On separate occasions, Metro reporters posing convincingly as caffeine addicts purchased coffee at the Willow Glen, Campbell and Pavilion locations without being asked the crucial "for here or to go" question.

An "oversight," assures Stephanie Raul, spokesperson for Seattle-based Starbucks. "The company follows tax laws," she says. "Partners [employees] are trained in the law and how to apply the tax on anything that is consumed in the store."

Starbucks would not reveal the amount of sales tax it pays in California, or the percentage of sales on which sales tax was applied. The State Board of Equalization says it cannot legally release the information, nor will it say if Starbucks has ever been audited for violation of the Taxable Sales of Food Products regulation.

The Board of Equalization's squad of auditors can catch coffee-tax evasion one of two ways. The "shelf test" counts and classifies orders--often using paper cup inventory as a gauge--and checks that with the amount of tax paid the previous year. In other cases, an auditor may case the joint, as Metro did, and count the number of people drinking in and drinking out.

"Small businesses sometimes get into trouble because they don't pay attention," says the board's Johan Klehs. "Employees might not be educated as to when to charge tax and when to not."

SILICON VALLEY HAS proven fertile frontier for the expansion of Starbucks' coffee empire, which has amassed 100 stores between Sacramento and Monterey, and peppers local communities such as San Jose, Santa Clara, Milpitas, Campbell, Sunnyvale, Mountain View, Palo Alto, Menlo Park and Los Altos. Saratoga residents recently convinced the city's planning commission to vote 5-2 to deny Starbucks' application to locate a store at the corner of Highway 9 and Big Basin Way, citing traffic and parking concerns. The rapidly growing chain was similarly shunned by local planners and citizens in Los Gatos, where the store sought to move into a spot across the street from the locally-owned Los Gatos Coffee Roasting Company. After a year-long battle, Starbucks was granted permission to move into Los Gatos, outside of the downtown area, on Blossom Hill Road.

Left out of the Starbucks-versus-the-community debate, which generally centers around loyalties to a local coffee shop, is the amount of sales tax revenue the respective enterprises generate.

Los Gatos Town Manager Dave Knapp estimates the city gets "about two cents" for each taxable cup. Sales tax is Los Gatos' largest source of revenue. But how much does the city lose on those "takeout" cups that are consumed inside Starbucks? "It's something, not a whole heck of a lot. One percent of a Ferrari is more than a cup of coffee," Knapp says, referring to the Ferrari dealership--the only one of its kind in the valley--located alongside of Town Hall. So meager is the sales tax contribution of Starbucks, says Knapp, "I probably spend as much on litter control as I collect in taxes."

Starbucks' Bay Area rival, Peet's, takes a different approach to collecting sales tax. The company conducts a survey, determines the average number of purchases "for here," and pays the state a sales tax amount based on that figure. "This is something we take very seriously," says Heather Corcoran, Peet's marketing director. "It's something we monitor constantly." Peet's assumes one customer in six is a takeout customer. That includes purchases of bags of coffee that are not taxable.

Klehs says Peet's is using a legitimate approach, as long as it stands up to an audit. While Starbucks' failure to charge taxes on taxable coffees is a problem, the State Board of Equalization believes it has bigger beans to roast. "We usually focus on things other than coffee drinkers," Klehs concedes.

But why not have every gourmet-coffee consumer chip a few pennies into the local coffers for that cup of joe whether they drink in or drink out? As it is, all hot food taken "to go" is taxable except coffee and tea. Bottled water is exempt, but carbonated water is taxed, along with takeout ice cream, newspapers and all alcoholic beverages. Candy is exempt, but soda is taxed. This tangle of tax law predates the gourmet-coffee craze and is unlikely to catch up with the times. Any new taxes, Klehs notes, must be passed by two-thirds in the Assembly and signed by the governor. This could be political suicide, Klehs suggests--recalling the unpopular and gleefully repealed 1991 snack food tax--in coffee-addicted California.

Says Klehs: "I can't imagine why they would tax coffee and piss off every voter in the state."

Becki Bell contributed to this report.

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From the January 30-February 5, 1997 issue of Metro

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