Jeff Friedman, Partner Michele Borens, Partner TEI Richmond Chapter March 19, 2014

Transcription

1 Jeff Friedman, Partner Michele Borens, Partner TEI Richmond Chapter March 19, 2014 State Tax Controversy Update

2 Agenda MTC Compact Election Filing Methodologies Insurance Companies 2

3 MTC Compact Litigation

4 Apportionment Under the MTC Election Background of issue Article IV of The Uniform Division of Income for Tax Purposes Act (UDITPA) within the Multistate Tax Compact (adopted by 23 states), provides an election for taxpayers to apportion multistate income pursuant to: State law; or The standard evenly-weighted three-factor formula provided within UDITPA As states strayed away from the standard formula by enacting more heavily sales-factor-weighted apportionment, taxpayers began to utilize this election 4

5 Apportionment Under the MTC Election Gillette Company v. Franchise Tax Board, No. A (Cal. Ct. App. 10/2/2012) Court invalidated the 1993 amendments (imposing 2X sales) attempt to repeal the MTC equally-weighted three-factor formula ( notwithstanding CRTC ). Three holdings: MTC is a valid compact: supersedes conflicting state law MTC is an enforceable contract: U.S. and CA Constitutions prohibit CA from passing laws impairing the obligations of contracts 1993 amendments did not validly repeal MTC three-factor election: violation of reenactment clause of CA Constitution The notwithstanding language in the 1993 amendments was not effective to repeal the MTC alternative California Supreme Court granted cert. the FTB filed its response to amicus briefs on January 22,

6 Apportionment Under the MTC Election California s reaction: On June 27, 2012, CA withdrew from the Compact (SB 1015) Bill also contains Doctrine of Election language aimed at possibly limiting elections on amended returns Two-thirds vote? Issues as to whether SB 1015 violates Prop. 26 FTB Notice provides procedural guidance on filing claims for refund Enacted mandatory single sales factor apportionment (for most taxpayers) beginning in

7 Apportionment Under the MTC Election IBM v. Dep t of Treasury, No (Mich. Ct. App. Nov. 20, 2012) Michigan Court of Appeals held that adoption of MBT repealed the Compact election MCL (1) and (2) state that single sales factor applies to MBT, unless otherwise provided by a provision of the MBT Act MCL was amended by 2011 PA 40, explicitly stating that the Compact election was unavailable to the MBT after 1/1/2011 Court viewed this as mere clarification of prior law rather than change in law to be applied prospectively But see Anheuser-Busch, Inc. v. Dep t Treasury, No MT (Mich. Ct. Cl. June 6, 2013) (holding that MTC is binding). Cert. application granted by Michigan Supreme Court on July 3,

8 Compact Activity in Texas Graphic Packaging Corp. v. Combs, No. D-1-GN (353rd Jud. Distr. Ct., Travis Cnty., Tex., Jan. 15, 2014) (Byrne, J.) Texas trial court denied a taxpayer s claim that it was entitled to use the Multistate Tax Compact s three-factor formula election for the Texas Margin Tax. The court s order did not specifically address either the availability of the election or whether the tax meets the MTC s definition of an income tax. The taxpayer s remaining claims an as-applied constitutional challenge to the single factor sales apportionment formula and tax rate structure and a challenge to the imposition of penalties and interest remain pending. 8

9 Compact Activity in Minnesota Kimberly-Clark Corporation & Subsidiaries v. Commissioner of Revenue; Docket No R Kimberly-Clark filed refund claims in Minnesota pursuant to an MTC Compact Election. Kimberly-Clark appealed the Department's denial of its refund claims in Minnesota Tax Court asserting it had the ability to elect to apportion its income under the Multistate Tax Compact's formula. The Department filed an answer on February 10 th and asserted no election was available under Minnesota law. 9

10 Repealing the MTC South Dakota SB 239 (signed 2/28/2013) Repeals the MTC in South Dakota Utah SB 247 (signed 4/1/2013) Repeals the MTC in Utah and then temporarily reenacts the Compact for one year, absent the following: Election provision Apportionment formula Some definitions Minnesota HF 677 (signed 5/23/2013) Repeals MTC in Minnesota but retains MTC audits Oregon SB 307 (signed 6/13/2013) Repeals the compact from the state code, but reenacts everything except the election and apportionment sections 10

11 Multistate Tax Commission MTC is still very active in developing model legislation However, viability of MTC has been questioned by many in light of MTC Compact litigation, state withdrawals from Compact, and potential decreases in funding 11

12 Filing Methodologies

13 Filing Methodologies Comcon Production Services I, Inc., vs. FTB (Los. Cty. Sup. Crt. Mar. 6, 2014) Court held that Comcast Corp. and QVC Inc. did not form a unitary business during 1998 and 1999 for California income tax purposes. Comcast argued that it was not in a unitary business group with QVC because each company was in a separate line of business: Comcast is a cable television provider, while QVC is a retailer. Comcast said the relationship between the companies lacked any centralization of management, functional integration, or economies of scale, thus failing the three-part unitary business test. FTB argued that because QVC was an integral component of Comcast's cable and cable-related infrastructure, they were engaged in a unitary enterprise. The FTB also Comcast was an active shareholder of QVC and benefited from the vertical integration of the two companies. 13

14 Filing Methodologies Comcon Production Services I, Inc., vs. FTB (Los. Cty. Sup. Crt. Mar. 6, 2014) Court also held that $1.5 billion merger termination fee received by Comcast in 1999 after Media One accepted a merger offer from AT&T was apportionable business income that should have been reported. Comcast asserted the fee did not meet the transactional test because the fee was not acquired in the normal course of Comcast's business and was a once-in-a-lifetime event. The fee did not meet the functional because the fee arose from contractual rights in its merger agreement with Media One - because those rights did not become a part of its unitary business operations, the fee fails the functional test for business income. The FTB said the transactional test for business income was met because Comcast regularly engaged in transactions and activity to grow its cable and cable-related businesses. The functional test was also met because the merger agreement represented intangible property rights that Comcast acquired, managed, and disposed of as part of its regular business activity. The FTB also argued that the termination fee represented lost profits that would have been earned had the deal not failed. 14

15 Filing Methodologies In re Matter of the Petitions of Knowledge Learning Corp. and Kindercare Learning Centers, Inc., Dkt. Nos & (N.Y. Div. of Tax. App. June 27, 2013) On appeal, the New York Division of Tax Appeals found that taxpayers failed to establish substantial intercorporate transactions existed between affiliates to permit a combined filing New York law provides that unitary corporations meeting certain stock ownership requirements must file a combined report if substantial intercorporate transactions exist between the related parties The taxpayers attempted to establish that substantial intercorporate transactions existed because 1) all of Kindercare s employees were paid and employed by KLC and 2) all of Kindercare s expenses were paid by KLC In rejecting those arguments, the ALJ noted that there was no written agreement documenting the employee transfers between the affiliates and that KLC s payments of Kindercare s expenses were on behalf of Kindercare, using Kindercare s own cash 15

16 Filing Methodologies: Unitary Group Tesoro Corp. et. al. v. Alaska, Dkt. No. S (Alaska Oct. 25, 2013) The Supreme Court of Alaska held that a taxpayer was a unitary business and thus its worldwide income was subject to Alaska s three-factor apportionment formula. The taxpayer, Tesoro Corporation, was a petroleum company headquartered in Texas, with 33 subsidiaries spread globally amongst 5 business segments. One of the business segments was located in Alaska. As a result of the taxpayer s acquisition of an oil pipeline, it became a taxpayer engaged in the transportation of oil or gas by pipeline in Alaska, subject to Alaska s alternative apportionment method. From the inception of the taxpayer s business in Alaska in 1969 until 1994, it filed its Alaska income tax returns as a unitary group. During which time the taxpayer s Alaska apportionment was based on Alaska s codification of the MTC s equally weighted three-factor apportionment formula. AS , article IV, section 9. The taxpayer challenged the Alaska Department of Revenue s income tax assessment for the 1994 through 1998 tax years, arguing that Alaska s tax scheme violated the Due Process Clause and the Commerce Clause, and thus only its Alaska-based subsidiaries should be subject to Alaska income tax. The court found that the taxpayer was a unitary business and therefore lacked standing to challenge Alaska s alternative apportionment method applied to taxpayers engaged in the transportation of oil or gas by pipeline. 16

17 Filing Methodologies: Unitary Group Tesoro Corp. continued The taxpayer challenged the Alaska Department of Revenue s income tax assessment for the 1994 through 1998 tax years, arguing that Alaska s tax scheme violated the Due Process Clause and the Commerce Clause, and thus only its Alaska-based subsidiaries should be subject to Alaska income tax. The court found that the taxpayer was a unitary business and therefore lacked standing to challenge Alaska s alternative apportionment method applied to taxpayers engaged in the transportation of oil or gas by pipeline. 17

18 Insurance Companies

19 State Taxation of Insurance Companies Ind. Dep t of Revenue v. United Parcel Serv., Inc., 969 N.E.2d 596 (Ind. June 21, 2012) The Indiana Supreme Court held that income from UPS s out-of-state captives was not exempt from the state s corporate income tax because reinsurance transactions taking place out of state did not subject the affiliates to the state s premium tax If the captives had nexus in Indiana, they would be subject to the premium tax and their income could not be included in the UPS combined corporate income tax return Illustrates the implications of defining subject to tax Hypothetical vs. actually paid 19

20 State Taxation of Insurance Companies United Parcel Serv., Inc. v. Ind. Dep t of State Rev., 995 N.E.2d 20 (Ind. Tax Ct. Sept. 16, 2013) On remand, the Indiana Tax Court determined that captive insurance companies must be physically present in the state to be doing business, and thus to qualify for a corporate income tax exemption Rejected Department s assertion that the Ind. Supreme Court intended for a lower economic presence standard Rejected Commerce Clause challenge to regime that taxed domestic insurance companies under premiums tax but outof-state insurance companies under the corporate income tax, because Commerce Clause challenges enjoy immunity under the federal McCarran-Ferguson Act 20

21 State Taxation of Insurance Companies Wendy s Int l, Inc. v. Hamer, No , 2013 IL App (4th) (Ill. App. Ct. Oct. 7, 2013) Illinois Appellate Court determined that state must treat the Wendy s captive insurance company as an insurance company for income tax purposes. Thus, taxpayer properly excluded the captive from its unitary group. Captive met definition of insurance company under federal law and, thus, properly recognizable as such under state law: Majority of captive s income derived from insurance business activities Formed for purpose of shifting and distributing risk 21

22 Questions? Jeff Friedman, Partner Sutherland Michele Borens, Partner Sutherland

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