ARTHUR I. MAIER ASSOCIATES - DECISION - 09/02/94. In the Matter of ARTHUR I. MAIER ASSOCIATES TAT (E) 93-2 (UB) - DECISION

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1 ARTHUR I. MAIER ASSOCIATES - DECISION - 09/02/94 In the Matter of ARTHUR I. MAIER ASSOCIATES TAT (E) 93-2 (UB) - DECISION NEW YORK CITY TAX APPEALS TRIBUNAL APPEALS DIVISION UNINCORPORATED BUSINESS TAX - WHERE PETITIONER IS A GENERAL PARTNER AND THE PRINCIPAL MANAGING PARTNER OF AN OUT-OF-CITY PARTNERSHIP AND, AS PART OF ITS BUSINESS, PERFORMS ACTIVE AND SUBSTANTIAL MANAGEMENT AND SERVICING FUNCTIONS FOR THAT PARTNERSHIP AT THE PARTNERSHIP'S OUT-OF-CITY LOCATION, PETITIONER MAY CONSIDER THAT LOCATION ITS REGULAR PLACE OF BUSINESS FOR PURPOSES OF ALLOCATION. CASE IS REMANDED TO THE ALJ DIVISION FOR DETERMINATION OF THE APPROPRIATE ALLOCATION METHOD, AND FOR A SECONDARY ISSUE OF THE CALCULATION OF PETITIONER'S ACRS MODIFICATION. SEPTEMBER 2, 1994

2 New York City Tax Appeals Tribunal x : In the Matter of : : DECISION ARTHUR I. MAIER ASSOCIATES, : : TAT (E) 93-2 (UBT) : Petitioner. : : x Arthur I. Maier Associates ("Petitioner"), filed an exception to the Determination of the Administrative Law Judge ("ALJ") issued on March 30, Petitioner appeared by William Bush, Esq. and Jeffrey M. Marks, Esq. of Fulbright & Jaworski, L.L.P. The Commissioner of Finance ("Commissioner") appeared by Mary Rose O'Connell, Esq. and Peter Rabinowitz, Esq. of the Office of Legal Affairs of the Department of Finance ("Department"). Oral argument was granted by the Tribunal and both Petitioner and the Commissioner filed briefs. Petitioner is a New York general partnership which was formed 1 in December During the tax period in issue it maintained an office in New York City ("City") located at 385 Fifth Avenue. Petitioner's principal activity was as a selling and servicing agent for K&M, a Rhode Island partnership engaged in the sale of costume jewelry. Petitioner was also a general partner and the 1In this decision the ALJ findings of fact have been generally restated and amplified where necessary.

3 principal managing partner of K&M, actively participating in the 2 management of K&M. K&M did not have an office in the City. On October 15, 1986, the Department issued a Notice of Determination ("Notice") to Petitioner which asserted an unincorporated business tax ("UBT") deficiency for the tax year ended March 31, 1985 as follows: TAX BASE TAX DUE As Adjusted $3,470, $138, As reported 219, , Notice of Tax Due 130, Interest to 12/23/86 22, Total 152, Virtually all of the deficiency was attributable to the Department's adjustment increasing Petitioner's business allocation percentage ("BAP") to 100%, on the grounds that Petitioner did not maintain a regular place of business outside the City and was therefore not entitled to allocate any of the excess of its unincorporated business gross income over its unincorporated 3 business deductions (its "income") outside the City. The deficiency also reflects a partial disallowance of Petitioner's Accelerated Cost Recovery System ("ACRS") depreciation adjustment to the extent it related to K&M. Petitioner filed its UBT return for the tax year in issue by 2The ALJ found that K&M did not conduct any business in the City. However, the record reflects K&M sales within the City ($14,912), K&M commissions from the City ($313) and K&M fees from the City ($3,082) (Taxpayer's Exhibit No. 7). In this decision, we need not reach the issue of whether or not K&M conducted business within the City. 3 The deficiency also reflects the Department's reversal of Petitioner's addback of $14,246 of Rhode Island tax exempt income, which is not at issue here. 2

4 including 100% of the property, payroll, and receipts of K&M in the calculation of its BAP of 6.997%, which it then applied to its income. At the hearing, Petitioner pointed to two prior letter rulings ("rulings") of the Department which had authorized corporate taxpayers who did not otherwise have a regular place of business outside the City to allocate business income in and out of the City on the basis of their interest in a partnership or joint 4 venture which had a regular place of business outside the City. Petitioner maintained that such allocation method was equally applicable to an unincorporated business taxpayer who was a partner in a partnership which had a regular place business outside the City, because there was no distinction between the relevant statutory and regulatory provisions of the general corporation tax ("GCT") and the UBT concerning the requirement of a regular place 5 of business for purposes of allocation. Alternatively, Petitioner claimed that it met the regular place of business requirement because its status and responsibilities as the principal managing partner of K&M necessarily required its maintenance of a regular place of business at K&M's facilities. It is undisputed that Petitioner derived essentially all (96%) of its gross income from K&M. On its federal return, Petitioner reported approximately $4.1 million in gross income of which only $148,449 was unrelated to K&M. 6 4a) Finance Letter Ruling dated 5/1/80. While this ruling involves income from a joint venture, we will use the term partnership in reference to both rulings. b) FLR (99)-GC-8/85. 5 Petitioner is apparently referring to the requirement of a regular place of business in both the UBT and the GCT ( (a), (a)(4)); and the regulatory definitions of what constitutes a regular place of business (19 RCNY 28-07(b), 11-63(b)(2) and (3)). 6 Of the K&M-related gross income, approximately $3.4 million was attributable to the partnership distribution from K&M; $576,578 to expense reimbursements from K&M and $1,685 to fees from K&M. 3

5 Myles J. Sachs, the managing partner of Petitioner's accounting firm, supervised the preparation of the UBT return. He testified that Petitioner had combined 100% of K&M's factors with its own to arrive at a claimed BAP of 6.997%. At the hearing, the Department contended and Petitioner conceded that using 100% of K&M's factors was not correct even if the allocation method was permissible. Petitioner notes that, based on its own recalculations (using only its proportionate share of K&M's factors), an % allocation to the City (with a resulting tax of approximately $15,282) produces the correct result. 7 As described by Mr. Maier, Petitioner's managing partner, K&M employed approximately 200 employees in what was primarily a warehouse operation located in Pawtucket, Rhode Island. In its capacity as K&M's servicing agent, Petitioner, which had between 9 8 and 18 employees, planned the distribution of K&M's merchandise to various retail stores, directed the operations associated with the placement of costume jewelry in retail locations, and performed basic administrative and clerical functions. Petitioner's selling expenses were reimbursed by K&M according to a formula set forth in the partnership agreement; its travel and entertainment expenses incurred on behalf of K&M were billed directly to K&M. managing partner of the Petitioner, Mr. Maier managed and directed K&M's operations and all employees, whether such employees were 10 Petitioner's or K&M's. He spent 99% of his time on K&M business. 9 As 7The Department points out that Petitioner's figures have not been audited since the original deficiency was based on a desk audit that simply denied any allocation outside the City. 8 There is a discrepancy between the number of employees indicated on the return and in Taxpayer's Exhibit No See Taxpayer's Exhibit No Although not stated in the Determination, Mr. Maier's uncontroverted testimony was that he could hire and fire individual employees of K&M and that his authority was required before anyone at K&M could fire an employee. 4

6 Other agents of Petitioner, however, were occupied with seeking 11 additional sources of revenue for Petitioner. Petitioner did not have a lease, pay rent, receive mail, maintain a bank account or pay for utility services at the Rhode Island location. K&M was the tenant at such location. However, Petitioner's name was on the door of the Rhode Island office along with the names of three other partners in K&M. Petitioner did not establish that it was a sublessee of K&M, or that it reimbursed K&M for a share of K&M's rental expense. Joseph R. Bingle, Controller of K&M, supported Mr. Arthur Maier's testimony that Mr. Maier and several of Petitioner's employees were primarily responsible for directing the servicing aspects of K&M's operation. These employees regularly traveled to K&M's Rhode Island location and utilized its office facilities in performing their duties. Mr. Bingle also maintained regular telephone contact with them when they were in the City. Mr. Maier and his associate, Edythe Wagner, traveled to Rhode Island every other week on a regular basis. In addition to office space in Rhode Island that was allocated to Petitioner's personnel, an apartment in Rhode Island was also provided for overnight stays. Petitioner submitted into evidence copies of the 1985 Rhode Island Non-Resident Individual Income Tax Returns which it claimed had been filed by each of the individual partners in Petitioner, on the basis that Petitioner was doing business in Rhode Island. It also submitted K&M's Federal Partnership Income Tax Return, schedules, workpapers and other documents to demonstrate the basis for its business allocation percentage. Petitioner sought and was granted leave below to amend its 11However, pursuant to Section 9.5 of the Partnership Agreement, Petitioner could not perform services for or receive compensation from any entity or person that was a competitor of K&M (Taxpayer's Exhibit No. 11). 5

7 Petition for Hearing in order to seek additional relief in the form of reimbursement by the City of all costs, fees and expenses incurred by Petitioner in the course of this proceeding. In his Determination, the ALJ held that the Petitioner could not allocate any of its income outside the City because it did not establish that it maintained its own regular place of business outside the City. The ALJ concluded that the Rhode Island offices of K&M did not qualify as Petitioner's regular place of business because the services were performed there by Petitioner as agent for K&M; and in the conduct of K&M's business, rather than its own. The ALJ further concluded that Petitioner could not apply the allocation method permitted in the rulings (issued to corporate taxpayers) to allocate its income. Accordingly, the ALJ sustained the Department's position that Petitioner was required to allocate 100% of its income to the City. 12 On exception, Petitioner contends that it has introduced sufficient evidence, by virtue of its activities and status as the principal managing partner of K&M, to support its claim of a regular place of business at K&M's offices in Rhode Island. Petitioner also argues that without regard to such issue, it should be allowed to allocate its income in the same manner that was permitted in the rulings. Petitioner claims that it is not relying on the rulings per se, but on their logic and rationale. It claims that because the statutory and regulatory provisions (regarding the allocation of income of City corporate and unincorporated business taxpayers) contain virtually identical provisions, corporations and unincorporated businesses must be afforded the same treatment in a substantially similar factual context. 12The ALJ also held that Petitioner failed to establish a basis for including its share of K&M's ACRS deductions in the calculation of its own depreciation adjustment and denied Petitioner's request for costs. See discussion infra pp

8 In response, the Commissioner asserts Petitioner has failed to meet the requirement of a regular place of business outside the City which is necessary to permit allocation under the UBT. It also argues that Petitioner is not entitled to the same treatment that a corporation might request under the aforementioned rulings, and that the depreciation adjustment was properly disallowed. For the reasons set forth below, we reverse, in part, the Determination of the ALJ and remand for further proceedings. I. Section (a) (formerly (a)) of the New York City Administrative Code ("Code") provides as follows: If an unincorporated business is carried on both within and without the city, as determined under regulations of the commissioner of finance, there shall be allocated to the city a fair and equitable portion of the excess of its unincorporated business gross income over its unincorporated business deductions. If the unincorporated business has no regular place of business outside the city, all of such excess shall be allocated to the city. 19 RCNY 28-07(b) (the "Rules") provides, in pertinent part, as follows: (1) A regular place of business is any bona fide office, factory, warehouse or other place which is systematically and regularly used by the unincorporated business entity in carrying on its business... (2) If the unincorporated business entity has no regular place of business outside New York City, all of the excess of its unincorporated business gross income over its allocable unincorporated business deductions shall be allocated to the City. An unincorporated 7

9 business entity does not have a regular place of business outside the City merely because sales may be made to, or services performed for or on behalf of, persons or corporations located without the City, or because such sales or services are made by or performed by an independent factor, agent or contractor having a regular place of business without New York City... (3) The foregoing provisions of this subdivision (b) are not exclusive in determining whether an unincorporated business has a regular place of business outside New York City or in determining whether the business is carried on both within and without New York City. Where any question on these points exists, consideration should be given to all of the facts pertaining to the conduct and operation of the business including (i) the nature of the business, (ii) the type and location of each place of business used in the activity, (iii) the nature of the activity engaged in at each place of business, and (iv) the regularity, continuity and permanency of the activity at each location. The facts are not in dispute. Petitioner was clearly "the brains" behind K&M's operation. It was not only involved in the marketing, selling and servicing of K&M's product, but it exercised control over K&M's employees; K&M's controller looked to Mr. Maier, Petitioner's managing partner, as "the boss"; both he and the warehouse foreman "reported" to Mr. Maier; Mr. Maier had the power to hire and fire K&M's employees. In this case, "the senior executives" of Petitioner were in effect the "senior executives" of K&M. It is also clear that Mr. Maier and other of Petitioner's "senior executives" were at K&M regularly in the course of their 8

10 duties, using office space set aside for them while carrying out their supervisory functions over the warehouse operation, the distribution of merchandise and the shipping of orders. Under all of the above facts, we can only conclude that Petitioner's presence in Rhode Island was for the purpose of conducting its business of managing and servicing K&M's operations, and that it regularly used such location to carry on its business. In reaching such conclusion, we do not reject the City's position that for UBT purposes, a partnership is considered a separate taxable entity apart from its partners. A strict application of the entity theory may require the drawing of a boundary between the individual partner and the partnership, whereby the partnership's office may not be imputed to the partner merely by reason of the relationship between the parties. However, the facts in this case are not amenable to so rigid an approach. Since the Petitioner regularly used K&M's location in connection with its business of actively managing and servicing such partnership, and since 96% of Petitioner's gross income was derived from K&M, the partnership's location must be considered to be a regular place of business of Petitioner for purposes of allocation. We are not unmindful of the many New York State cases which have interpreted the regular place of business requirement in both the New York State UBT prior to its repeal in 1982, and the New York State corporate franchise tax statute (prior to the 1978 repeal of such requirement), and held taxpayers to a very strict standard. Taxpayers have been denied the right to allocate income in instances where they claim an out-of-state place of business at office space maintained by independent and unrelated out-of-state clients, (Joseph F. Giordano v. State Tax Commission, 52 AD2d 691 (3rd Dept. 1976), lv denied, 40 NY2d 803 (1976)); or where they claim that the out-of-state office of their (corporate) parent is their regular place of business (UGP Properties, Inc. v. State Tax 9

11 Commission, 64 AD2d 316 (3rd Dept. 1978)). The common thread in the regular place of business cases, however, is a search for proof that the taxpayer's activity at its out-of-state place of business is income-generating. Such a conclusion satisfies the "purpose of a business allocation percentage, i.e., to determine `what amount of the taxpayer's income has a jurisdictional nexus with the State'". Adirondack Steel Casting Company, Inc. v. State Tax Commission, 107 AD2d 924 (3rd Dept. 1985), citing Westinghouse Electric. Corp. v. Tully, 55 NY2d 364, 375, rev'd. on other grounds, 466 US 388 (1984). Under these facts, Petitioner has satisfied that proof. We recognize that most decisions have emphasized formalistic indicia to support the establishment of a regular place of business such as the payment of rent or utility bills, and/or the existence of a phone listing, signs bearing the taxpayer's name, and fulltime employees. Nevertheless, it appears that the requirements imposed on the putative "place of business" are intended to satisfy two requirements: to ensure that the New York taxpayer does business there and to further ensure that the location is indeed intrinsically linked to the said taxpayer. Here the Petitioner's business activity satisfied the first part, while its status as general partner satisfied the second. It is not necessary here to decide whether activity or status alone may ever be sufficient to replace the formalistic indicia cited above since this set of facts provides so overwhelming a combination of the two as to compel us to reach this result. 13 Significantly, none of the traditional regular place of 13The Rules have also recognized that even in the case of separate entities, a taxpayer may, under certain circumstances, consider a public warehouse in which it stores its goods, or the plant of an independent contractor which finishes its goods, to be its regular place of business for purposes of allocation. See 19 RCNY 28-07(b)(1). 10

12 business cases have involved the factual situation at issue here. In the one decision involving the UBT treatment of a partnership distribution by a partner, the New York State (UBT) statute 14 involved was the one in effect prior to In Cromwell v. Bates, 284 AD 1001, (3d Dept. 1954), lv denied, 308 NY 1053 (1955), the court held that a partner could not claim exclusion for a portion of its distributive share of partnership income which was earned outside of the state, because the partner and the partnership were separate taxable entities and there was no proof that the partner as a taxable entity carried on business without the state. In contrast, we have concluded that Petitioner in fact did carry on its business of managing and servicing K&M's business at the Rhode Island location. 15 Accordingly, we conclude that based on these facts, where Petitioner, as part of its business, performed active and substantial management and servicing functions for K&M, including the decision making and the overall supervision, direction and control of the employees of K&M, and did so regularly at the Rhode Island location, that location may be considered its regular place 14Under Section 386-g of Article 16A, allocation was then permitted if an unincorporated business carried on business both within and without the state. In 1960, Article 23 superseded Article 16A (L. 1960, Ch. 564), and Section 707 specifically referred to the requirement of a "regular place of business". The statutory revision was for the purpose of conforming the UBT to the definition of business income and deductions in the federal income tax, but its provisions for allocation of income were intended to reflect the existing law. (Bill Jacket, L. 1960, Ch. 564; NYS Tax Commission Annual Report ). 15 In Young v. Bragalini, 3 NY2d 602 (1958), a partnership was denied permission to allocate on the basis of its receipt of income from out-of-state partnerships. However, the taxpayers were not partners in the firms from which they were receiving income. The taxability of a partner's distributive share was not at issue. 11

13 16 of business for purposes of allocation. II. Although we have concluded that Petitioner is entitled to allocate, we are cognizant of the fact that the method of allocation in this case must initially be determined by the Commissioner. We reject Petitioner's argument that it is entitled to use the precise allocation method that was permitted in the rulings. rulings permitted allocation to taxpayers who lacked a regular place of business outside the City and prescribed a specific method of allocation based on that factual situation. 17 The Since we have concluded that Petitioner is entitled to allocate based on a regular place of business, the rulings themselves are inapposite to 18 these facts. Accordingly, this matter is hereby remanded for a 16Because we conclude that the combination of Petitioner's activities and status are determinative, we do not address Petitioner's broader claim that to the extent K&M maintained a regular place of business in Rhode Island so too did each of its partners. See discussion supra p Petitioner does not dispute that a taxpayer may not rely on a ruling issued to another taxpayer. See 19 RCNY The essence of its argument is that the logic and rationale that prompted these rulings is equally applicable to unincorporated business taxpayers. Petitioner also suggests that the ALJ ignored testimony of a City auditor that a "policy" similar to that contained in the rulings existed under the UBT. That claim is meritless. The testimony does not establish such a "policy". Therefore, Petitioner's arguments in this context are based squarely on the rulings in the record. 18 The distinction is tax significant because the allocation method in the rulings may result in a different BAP to a corporate taxpayer than if such taxpayer had its own regular place of business outside the City. 12

14 determination of the allocation method that is appropriate under Section (b),(c), or (d). Ninety-six (96%) of Petitioner's income was derived from K&M, a Rhode Island based partnership. To the extent that such income is subject to UBT, the allocation method must reflect the fact that a 100% BAP would not be in accordance with the statutory mandate to fairly reflect income from the City. See (d). Therefore, we direct that K&M's activities be incorporated in the allocation method in some manner in order to accomplish the overall statutory goal. To do otherwise would be inconsistent with the underlying purpose of the UBT to tax the income from business done within the jurisdiction. generally, Thompson v. Mealey, 290 NY 230 (1943), discussing the 19 purpose of the NYS UBT from its inception in This remand is not intended in any way to imply that the Commissioner is restrained from incorporating a proportionate share of K&M's factors in a formula, but it also leaves the Commissioner free to devise another method if it is consistent with the overall statutory goal. See III The ALJ determined that because Petitioner could not allocate its income, it had failed to establish a basis for properly including its share of K&M's ACRS deductions in the calculation of its depreciation adjustment. It appears, however, that Petitioner is arguing that it simply adjusted its share of K&M's depreciation deductions in order to take account of the fact that K&M's deductions were determined under the ACRS depreciation method which was not permitted for such property under Sections (14) and (15). The Notice also reflects the Department's reversal of Petitioner's modification. Since the Determination does not reveal the basis for the ALJ's conclusion and the record is insufficient 19The UBT, which was enacted by Chapter 772 of the Laws of 1966, was modeled on the NYS UBT. 13

15 for us to determine whether Petitioner's modification is correct, 20 the ALJ should revisit the issue upon remand. IV While the ALJ did not consider Petitioner's request for reimbursement of costs, fees and expenses, because he found in favor of the Commissioner, we affirm his conclusion for other reasons. Petitioner has not cited any statutory authority, and we do not find any authority that would permit this Tribunal to entertain such a request. In any event, Petitioner has not stated a viable claim for relief Although Petitioner claims that it has submitted documentation (Petitioner's Brief p. 22), such documentation is not in the record before us. 21 Since our decision directs that Petitioner be permitted to allocate, we need not consider Petitioner's remaining arguments. 14

16 The Determination herein is affirmed in part and reversed in part. The matter is remanded to the ALJ Division for proceedings consistent with this decision. The parties should note that any challenge to a future Determination of the ALJ must be accomplished by the timely filing of a new exception to such Determination. SO ORDERED. Dated: September 2, 1994 New York, New York SUSAN GROSSMAN Commissioner MARK FRIEDLANDER Commissioner and President JOHN TRUBIN Commissioner 15