Tax Type
Corporation Income Tax
Description
Affiliated corporations
Topic
Returns/Payments/Records
Date Issued
02-23-1989
February 23, 1989
Re: §58.1-1821 Application; Corporation Income Tax
§58.1-418 Financial Corporations; Costs of Performance
§58.1-421 Alternative Method
Dear***************
This is in response to your letters of October 14, and December 23, 1988, in which you applied for correction of assessments of corporation income tax on behalf of three affiliated corporations. The issues you raise will be addressed separately.
Federal Taxable Income
The taxpayers were included in a consolidated federal return. You state that the holding company, which is not subject to Virginia income tax, performed significant general and administrative management functions for the three taxpayers but that an intercompany charge was not made. You have provided a schedule computing the separate federal taxable income for Virginia purposes after such intercompany charges are allowed.
It is recognized that the intercompany charges do not affect the consolidated federal taxable income and federal tax liability. However, the supporting schedules submitted with the federal return do not show these charges. Generally, each item which enters into the computation of federal taxable income as reported in a federal return will be similarly characterized and treated in a Virginia return. The recognized exceptions to this principle involve situations in which items reported in a consolidated federal return are fundamentally inconsistent with the manner in which Virginia returns are filed. For example, a separate Virginia return cannot start with federal taxable income as reported to the I.R.S. if it includes a consolidated net operating loss deduction attributable to losses incurred by other affiliates. In this case, the schedules filed with the consolidated federal return show the separate income of each affiliate in a manner which is consistent with the filing of a separate or combined Virginia return.
Therefore, your schedule proposing to revise the separate federal taxable income of the separate affiliates will not be accepted for Virginia purposes. However, if you amend the federal consolidated return to include the intercompany charges in the supporting schedules, then amended Virginia returns may be filed reporting the separate federal taxable income of each taxpayer as reported in the federal return.
Virginia Combined Return
You request permission to file a combined Virginia return for the audit years and subsequent years. In view of the fact that all of the criteria for filing a combined return are satisfied, permission is granted to file an amended Virginia combined return for the three affiliates for 1985 and subsequent years.
However, the apparent reason for your request is to claim an apportioned net operating loss of the parent holding company. Such a deduction is not allowed in any type of Virginia return because the parent is not subject to Virginia income tax. In a separate or combined Virginia return each affiliate may claim a federal net operating loss deduction, for Virginia purposes, only with respect to losses incurred by the separate affiliate. Since all three affiliates show a profit in the audit years, the combined return will not affect the combined tax liability of the taxpayers.
Costs of Performance
We have reviewed the additional information furnished with respect to the costs of performance used to apportion income. Although this information was not furnished to the auditor at the time of the audit, and in some respects contradicts information given to the auditor, we will accept your information and adjust the apportionment factors accordingly.
Alternative Method
Two of the corporations filed Virginia returns using the statutory three factor apportionment formula; the other used the costs of performance factor for financial corporations. The auditor found that all three corporations were required to use the financial corporation factor. You request that the two returns using the three factor method be accepted as an alternative method of allocation and apportionment on the grounds that (1) the sum of the income apportioned to Virginia and other states is more than 100% of the income before apportionment and (2) because "costs of performance" does not reflect a reasonable sense of how income is generated.
The U. S. Supreme Court upheld Iowa's single sales factor in the face of a similar allegation of distortion in Moorman Mfg. Corp. v. Bair, 437 U.S. 267 (1978). Virginia's apportionment factor for financial corporations is internally consistent because if all states used it no more than 100% of the income would be taxed. The alleged distortion arises because different methods are used in some of the other states.
Use of costs of performance to apportion income accurately reflects the locations at which the taxpayer employs personnel, real and tangible property to earn its income. Your proposed method emphasizes the location of borrowers as the situs where income is earned. However, regulation VR 630-3-302 (copy attached) states that interest paid by a Virginia resident is not, by reason of the debtor's residence only, considered to be income from Virginia sources. We do not believe that your method accurately reflects the efforts of the taxpayer's employees at its various offices. Thus, VR 630-3-418 (copy attached) deems the costs of performance of an financial corporation to be performed at the location of its offices or other property or where employees are located.
Therefore, permission to use an alternative method of allocation and apportionment is denied.
Determination
Accordingly, the assessment, as adjusted for the supplemental information on costs of performance, is correct. You will shortly receive revised bills with interest accrued to date. The revised bills should be paid within 30 days to avoid the accrual of additional interest. Although you requested a conference, this letter has been issued without one because the application of the law is clear. If you still desire a conference you should request one within thirty days.
Sincerely,
W. H. Forst
Tax Commissioner
Rulings of the Tax Commissioner