Michigan Court of Appeals Rejects IBM’s MTC Election

The Michigan Court of Appeals has ruled that the Multistate Tax Compact (MTC) election is not available for Michigan taxpayers. The appellate tribunal affirmed the trial court’s decision that IBM could not elect to apportion its income according to the three-factor MTC formula. The Court of Appeals held that apportionment under the Michigan Business Tax (MBT) is mandatory and “the possibility of electing a different apportionment formula as a matter of right is simply not permitted.” The court held that the mandatory language of the later enacted MBT repealed the MTC election by implication.

This decision further muddies the water around the viability of this popular state tax planning strategy for large multi-state corporations. The California Court of Appeal recently allowed an MTC Election in a case that is almost certainly headed to the California Supreme Court. Savoy taxpayers can, and should, expect that each state will view this election differently.

The Michigan opinion contained a couple of interesting litigation notes too. First, the opinion was issued as an unpublished, per curiam decision. Under Michigan law unpublished opinions do not have the force of stare decisis – that is, no binding precedential value. For a case that prompted two amici curiae briefs, one might have expected a decision that would have firmly established the law for other taxpayers. This one, however, was not it.

The per curiam (“by the court”) designation is also interesting in that it is often reserved for opinions of lesser importance. Per curiam decisions often imply a collective view of the prevailing law by the reviewing court.

However, that wasn’t exactly the case here. The per curiam decision was accompanied by a concurring opinion. The author of the concurrence, Judge Riordan, agreed with the court’s determination that IBM was required to use the MBT apportionment method, but wrote to note his disagreement with idea that the MTC election had been impliedly repealed by the passage of the MBT. The concurrence is interesting in that its reluctance to embrace the idea of “repeal by implication” was similar to the reasoning applied by the California court in the Gilette case, mentioned above, that upheld that the MTC election. Corporate taxpayers who have taken the MTC election in some states, or are considering it, would be well advised to track these cases closely.

Read the Court of Appeals per curiam decision here:
IBM v. Dept. of Treasury, No. 306618 (Nov. 20, 2012) per curiam

Read judge Riordan’s concurring opinion here:
IBM v. Dept. of Treasury, No. 306618 (Nov. 20, 2012) concurrence

California Issues Guidance for MTC Election Refund Claims

Following the recent California Court of Appeal decision affirming Gillette’s election to apportion income under the Multistate Tax Compact (MTC), the California Franchise Tax Board (FTB) has issued guidance for taxpayers who wish to preserve the statute of limitations by filing amended returns that elect the MTC method retroactively.

The FTB has made clear its position that a taxpayer cannot elect to utilize the methodology contained in the MTC on an amended return. The FTB also is clear that it will only take action on the claims once Gillette has been fully resolved. Nonetheless, taxpayers wishing to file a protective claim retroactively electing to utilize the apportionment method contained in the MTC should mail an amended return or a letter claim to the FTB at:

Compact Method 347 MS: F381
Franchise Tax Board
C/O FTB Notice 2012-01
P.O. Box 1673
Sacramento, CA 95812-1673

The amended return should include

  • a revised Schedule R
  • a computation of the refund amount, and
  • “COMPACT METHOD” should be written in red at the top of the amended return.

An amended return is required for each year for which the retroactive election is made.

Please refer to the announcement for additional filing requirements.

FTB Notice 2012-01

On Rehearing the California Court of Appeal Allows MTC Election

On rehearing, the California Court of Appeal has reaffirmed its earlier (vacated) decision and reversed the decision of the Franchise Tax Board (“FTB”)  in Gillette v. Franchise Tax Board.  The Court of Appeal concluded that the 1993 amendment that attempted to repeal the Multistate Tax Compact (MTC) election was invalid and the taxpayer could elect to apportion under the three-factor MTC formula.

On July 24, 2012, the Court of Appeal released an opinion and decision that reversed the decision of the FTB. The FTB dismissed the taxpayer’s request for refund based on an election to apportion income according to the three-factor Multistate Tax Compact (MTC) formula. On August 9, 2012, the Court of Appeal vacated its opinion and decision and ordered a rehearing. The rehearing was held and the Court of Appeal is standing by its earlier decision: the FTB construction is invalid, the MTC election was not repealed, and the taxpayers could elect to apportion income under the three-factor MTC method.

The opinion after rehearing is substantially and substantively similar to the original opinion issued by the Court of Appeal. The following minor additions to the new opinion are notable. The new opinion notes the enactment of California Senate Bill No. 1015 on June 27, 2012 (which repealed the MTC election) and makes clear that the effect or validity of this later enacted statute was not before the court. It also recognizes that it was the “clear import” of the legislature to override the MTC election and mandate exclusive use of the double-weighted sales formula but that such a construction is invalid. Finally, the court strengthened the language in its conclusion:

The Legislature did not repeal, amend or reenact any part of the Compact at the time, and thus neither the public nor the legislators had adequate notice that the intent of this amendment was to eviscerate former section 38006.

Read the opinion on rehearing here:
Gillette v. FTB (Rehearing) 10.2.12

If you’d like to compare this opinion with the original, vacated, opinion please visit our earlier post on the order for rehearing.

California: FTB’s Alternate Apportionment Formula Approved Against General Mills

The California Court of Appeal has ruled that the Franchise Tax Board could impose an alternative apportionment method against General Mills because the apportionment method used by the taxpayer did not fairly represent its business activity in California.

The Court of Appeal had previously ruled that General Mills properly included hedging receipts in the denominator of its sales factor for California apportionment purposes. General Mills v. Franchise Tax Board, 172 Cal.App.4th 1535 (2009). The effect of that determination substantially reduced General Mills’ corporate income tax liability in California.

However, the case was remanded to the trial court to determine whether inclusion of the hedging receipts in the apportionment formula calculation resulted in a fair representation of General Mills’ business activity in California under California Revenue & Taxation Code § 25137. The trial court determined that it did not. The trial court then adopted the FTB’s alternative apportionment formula which included only the taxpayer’s net gains from its hedging strategy in the sales factor. In this ruling, the Court of Appeal affirmed the lower court’s determination and the imposition of the alternative apportionment formula.

Read the opinion here:
General Mills v. FTB, No. A131477 (Cal. App. Aug. 29, 2012)

California Court of Appeal Decision on MTC Election Vacated for Rehearing

On August 9, 2012, the California Court of Appeal (1st Appellate District) “on its own motion and for good cause” vacated its decision and opinion issued on July 24, 2012 in Gillette v. Franchise Tax Board, and ordered a rehearing.

The vacated opinion held that, absent a complete or specific repeal, the Multistate Tax Compact (“MTC”) was binding on member states and a member state could not prevent taxpayers from electing into the MTC’s three-factor apportionment method. The appellants and other practitioners welcomed the decision but, alas, it is no more. Taxpayers and advisors anxious to take action based on the decision will have to wait.

Though the Court of Appeal’s order indicates that the decision to rehear the case was on its own motion, the Franchise Tax Board had filed a Motion for Rehearing the day before which was met by a request to modify the opinion by one of the appellants’ counsel (the case had been consolidated on appeal). It seems that the court did not recognize either motion in its order, but it did make it clear that “additional briefing from any party or any amicus curiae is not requested.”

A date for rehearing has not yet been scheduled.

Massachussetts Appeals Court Affirms Operational Approach to Cost of Performance without a Published Opinion

The appeal of AT&T Corporation v. Commissioner from the Massachusetts Appellate Tax Board (“ATB”) was among the 10 most requested dockets on the Supreme Judicial Court of Massachusetts website. It’s unlikely that observers got exactly what they expected because the decision came with a considerable caveat.

On July 13, 2012, the Massachusetts Appeals Court affirmed the decision of the ATB under Rule 1:28. A decision under Massachusetts Appeals Court Rule 1:28 exists somewhere between an unpublished decision and a per curium opinion. The rule is reserved for the summary disposition of cases where the panel of judges “determine that no substantial question of law is presented by the appeal.” It normally is not accompanied by an opinion (as was the case here) and is regarded as an unpublished decision by the Appeals Court. However, it is not regarded in exactly the same fashion as an unpublished decision in the federal context. Prior to 2008, and the Massachusetts Appellate Court’s decision in Chace v. Curran, 71 Mass. App. Ct. 258, appeal denied, 451 Mass. 1103 (2008), unpublished decisions were not to be relied upon or cited as authority. The Chace opinion, which was accompanied by an official amendment to the court rules, changed the status of Rule 1:28 decisions by holding that unpublished decisions “may be cited for persuasive value but…not as binding precedent.”

The affirmation of the ATB’s decision certainly was a good thing for AT&T even if the application of those facts to others might be approached with some caution. AT&T was subject to the Massachusetts public service corporation franchise tax. They sought a refund of taxes when they changed their approach to apportioning service income earned in Massachusetts. The Department of Revenue rejected the refund claim and they ended up in front of the ATB.

The central issue is what receipts should be included in the sales factor of Massachusetts apportionment purposes. Service income earned in Massachusetts is sourced to the commonwealth using a two-part analysis, often referred to as “cost of performance.” The first step is to determine the income producing activity. The second step is to then to determine if the greater portion of the cost of performing that activity occurs in Massachusetts or elsewhere.

The nature of the income producing activity was crucial to the ATB’s analysis of AT&T’s refund position. The Commissioner of the Department of Revenue argued that AT&T’s income should be measured based on each individual call or data transmission – the transactional approach. Under that analysis, the costs of performing each transaction was greater in Massachusetts than anywhere else, do the income from all the calls would be sourced to Massachusetts and subject to tax by Massachusetts.

AT&T countered that its income producing activity was “providing a national, integrated telecommunications network” – the operational approach. Of course, under AT&T’s method most of the costs related to performing the income producing activity happened at their corporate headquarters in New Jersey, outside of Massachusetts, thus depriving Massachusetts of the privilege of taxing the income.

AT&T had lost this argument in the Oregon Tax Court, but prevailed in the ATB. The ATB found that AT&T’s system of re-routing calls, sometimes across the nation, to make a connection in response to heavy network demands, and the unpredictability of that routing, illustrated that the income producing activity was part of an entire integrated network. It was this decision that the Appeals Court affirmed with its ruling.

The Appeals Court did not issue an opinion with its ruling, but you can read the ATB’s decision here.
AT&T Corp. v. Massachusetts, ATB 2011-524 (June 8, 2011)

West Virginia: No Economic Nexus for ConAgra Intangibles

The West Virginia Supreme Court of Appeals held that the licensing of intangible trademarks and trade names by ConAgra into West Virginia did not subject ConAgra to corporate income tax.

In sustaining the opinion of the state circuit court, which overturned the Board of Tax Appeals finding in favor of the commissioner, West Virginia’s highest court made some interesting observations for students of economic nexus. The court’s ultimate holding was based on the determination that ConAgra, through its wholly-owned intangible holding corporation, did not engage in “purposeful direction” under the Due Process Clause or establish “significant economic presence” under the Commerce Clause by use of its trademarks and trade names in West Virginia.

The court arrived at that conclusion after making these interesting observations. The court did not overrule but rather chose to distinguish its holding in Tax Commissioner v. MBNA America Bank, 220 W.Va. 163, 640 S.E.2d 226 (2006), cert. denied, 551 U.S. 1141, 127 S.Ct. 2997, 168 L.Ed.2d 719 (2007), which held that MBNA America’s use of trademarks in West Virginia established income tax nexus. The court distinguished MBNA on the grounds that ConAgra did not engage in the same “systemic and continuous” direct mail and telephone solicitation in West Virginia that characterized MBNA’s activities there.

The court also distinguished its holding in a non-tax case decided under the Due Process Clause. In Hill v. Showa Denko, K.K., 188 W.Va. 654, 425 S.E.2d 609 (1992), cert. denied, 508 U.S. 908, 113 S.Ct. 2338, 124 L.Ed.2d 249 (1993), the West Virginia Supreme Court considered whether the activities of a Japanese company’s wholly-owned subsidiary established personal jurisdiction for the parent company in the state. The court determined that the subsidiary in Hill was a “shell corporation” controlled by the parent and enforced jurisdiction. The court distinguished ConAgra’s subsidiary, ConAgra Brands, which held the intangible assets, from the subsidiary in the Hill case. While not necessarily finding economic substance in ConAgra Brands, the West Virginia court held that it was “not a shell corporation created solely for tax avoidance purposes.”

Finally, the court distinguished the economic nexus theories established by other jurisdictions. It rejected South Carolina’s famous economic nexus analysis in Geoffrey, Inc. v. South Carolina Tax Commission, 437 S.E.2d 13 (S.C.), cert. denied, 510 U.S. 992, 114 S.Ct. 550, 126 L.Ed.2d 451 (1993). It also denied application of the more recent economic nexus formulation set out in Iowa forth by KFC Corporation v. Iowa Department of Revenue, 792 N.W.2d 308 (Iowa 2010), cert. denied, _ U.S. _ , 132 S.Ct. 97, 181 L.Ed.2d 26 (2011).

Read the entire opinion here:
Commissioner v. ConAgra, No. 11-0252 (May 24, 2012)

District Court: Colorado Use Tax is Unconstitutional

In an unusual ruling from a U.S. District Court on a state tax matter, the U.S. District Court for the District of Colorado has struck down as unconstitutional a Colorado statute requiring out-of-state retailers to file information reports on sales made to Colorado customers for which no Colorado sales or use tax was collected. The District Court claimed jurisdiction to hear the claim under 28 USC 1331 (federal question) and gave standing to the Direct Marketing Association (DMA) on behalf of their members who businesses and organizations market products directly to consumers via catalogs, magazine and newspaper advertisements.

On motions for summary judgment, the DMA argued that the Colorado’s use tax reporting requirement discriminates against interstate commerce and places an undue burden on interstate commerce both of which violate the dormant commerce clause of the United State Constitution. The DMA sought a declaratory judgment finding that the Colorado statute was unconstitutional and an injunction preventing enforcement of the statute’s requirements.

The district court, in an order by Judge Blackburn, ruled in favor of the DMA on both claims finding that the Colorado act discriminated against interstate commerce and placed an undue burden on interstate commerce. The court granted both the declaratory and injunctive relief sought by the DMA.

Read the court’s order here:
Direct Marketing Assoc. v. Huber, No. 10-cv-10546-REB-CBS (D.C. Colo., March 30, 2012)

California Supreme Court: Employer Must Prove Qualified Employees to Receive Tax Credit

In a long-awaited decision affecting many large California employers and hundreds of millions of dollars of tax credits, the California Supreme Court reversed the Court of Appeal decision in Dicon Fiberoptics v. Franchise Tax Board, holding that the Franchise Tax Board (FTB) may require a taxpayer to establish that certain employees in specified enterprise zones are “qualified employees”, above and beyond the state’s certification process, in order to receive hiring incentive tax credits.

The Court of Appeal had held that the state-issued vouchers received by Dicon (and every other employer who participated in the enterprise zone tax credit program) were “prima facie” proof of a qualified employee and that the FTB had to establish that the employee was not eligible under the program before denying the employer the benefit of the associated tax credit. As a practical matter, the Court of Appeals case treated the state-issued certifications as conclusory evidence of the employee’s qualification. The Supreme Court reversed this crucial element of the Court of Appeal decision, thereby allowing the FTB to deny the credit where the only evidence of the employee’s qualification was the voucher and shifting the burden to the taxpayer to establish that the employee was otherwise qualified for the incentive tax credit.

Read the entire opinion here:
Dicon Fiberoptics v. Franchise Tax Board, No. S173860 (Ca. Sup. April 26, 2012)