Tax Type
Corporation Income Tax
Description
Corporation Income Tax Circular No. 1
Topic
Appropriateness of Audit Methodology
Date Issued
10-30-1982
September 30, 1982
Re: § 58-151.051 Request for Alternate Method of Allocation and Apportionment of Income
Dear ********************
I have reviewed your letter of December 3, 1981, requesting permission under § 58-151.051 to include interest in apportionable income instead of allocating the interest to Virginia.
FACTS
Taxpayer is a Maryland corporation engaged in a multi-state contracting business. Taxpayer's commercial domicile is located in Virginia. For its fiscal year ending 3/31/81 taxpayer filed a Virginia return allocating all interest to Virginia as required by § 58-151.040 (as then in effect.)
Maryland regulation 03.04.01.02.(F) requires corporations engaged in the contracting business to apportion business income using a one factor apportionment formula based on gross receipts. Maryland's definition of business income includes all interest.
After Maryland assessed additional tax based upon including taxpayer's interest income in apportionable income, taxpayer submitted this request along with an amended return using the requested alternate method
DETERMINATION
Corporation Income Tax Circular No. 1 sets forth the criteria applied to requests for an alternate method of allocation and apportionment. In pertinent part it states:
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- A request for permission to use an alternate method of allocation and apportionment shall be accompanied by data sufficient to show either:
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- (1) That the statutory method is in fact inapplicable because it produces an unconstitutional result under the particular facts and circumstances of the taxpayer's situation; or
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- (2) That the statutory method is in fact inequitable because:
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- (a) It results in double taxation of the income, or a class of income, of the taxpayer; and
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- (b) The inequity is attributable to Virginia, rather than to the fact that some other state has a unique method of allocation and apportionment.
Taxpayer has not shown that the statutory method produces an unconstitutional result. The U. S. Supreme Court has recognized that allocation and apportionment of income is an arbitrary process designed to approximate the income from business transacted within a state. Because each state has its own variations in what is allocated and in how the remainder is apportioned, it is inevitable that some overlap will occur; that is, some income will appear to be taxed by more than one state.
As long as each state's method of allocation and apportionment is rationally related to the business transacted within a state then each state's tax is constitutionally valid even though there may be some overlap. See, for example, Moorman Mfg. Co. v. Bair, 437 U. S. 279, 98 S. Ct. 2340 (1978).
The allocation of interest income to the commercial domicile of a corporation is rationally related to the control that the headquarters of a corporation exercises over the management of its cash and other financial assets. Thus the allocation of taxpayer's interest income to Virginia is constitutional even though the same income may have been apportioned by Maryland.
Corporation Income Tax Circular No. 1 also states that relief may be granted if the statutory method of allocation and apportionment produces a tax that is inequitable and the inequity is attributable to Virginia.
There are three stages to determining a state income tax. First, the income must be determined. Each state has its own rules for determining income. Some rely on federal taxable income; there are many different rules for items such as foreign source income, interest on state obligations, depreciation, consolidated returns and use of world wide combined reporting.
Second, the income must be divided among the states. Some states use separate accounting; most use some variation of allocation and apportionment.
Third, a rate of tax is applied to the taxable income attributed to the state. Not only do the rates vary but there are numerous types of credits allowed.
Taxpayer alleges that at the second stage there is an overlap of certain income which was attributed to, and taxed by, both Virginia and Maryland. But there may be other differences in the first and third stages which compensate for the overlap. I must consider the whole process by which the tax is computed, not merely the isolated part of the process where the alleged-inequity occurred.
Furthermore, there is no showing that the inequity, if any, is attributable to Virginia. The alleged overlap has occurred not because of Virginia law or Maryland law but because the laws of the two States differ. The fact that two laws differ provides no basis for concluding that one or the other is inequitable.
The General Assembly has provided a statutory method of allocation and apportionment that applies to all corporations. There is no election or discretion allowed to taxpayers or to the Department of Taxation. I construe § 58-151.051 as authorizing me to allow use of an alternate method only in extraordinary circumstances where the need for relief has been demonstrated by clear and cogent evidence.
Accordingly, permission to use an alternate method of allocation and apportionment is denied. The claim for refund contained in the amended return is denied. Since the original return was filed using the statutory method, no further action is required.
Please note that the General Assembly has amended the law so that, effective for taxable years beginning on or after January 1, 1981, all income will be apportioned except for certain dividends. Thus this particular issue will not arise in future years as long as taxpayer does business only in Maryland and Virginia.
Sincerely,
W. H. Forst
State Tax Commissioner
Rulings of the Tax Commissioner