The assignment to a state of a share of a multistate corporation's total net
income is generally accomplished by processes known as allocation and
apportionment and is the most deceptively simple concept in all of multistate
income taxation.
The term "allocation" generally refers to the
assignment of "nonbusiness income" to a particular
state. In most states, "nonbusiness income" is
considered to be income arising out of activity not related
to the business of the corporation. For example, rental income
derived by a manufacturing corporation from a parcel of out-of-state
real estate unrelated to the manufacturing business generally
would be treated as nonbusiness income and would be allocated
in full to the state in which the property is located. Nonbusiness
income generally is assigned to states on the basis of the
location of the property or, if the property is intangible,
on the basis of the taxpayer's commercial domicile.
In most
states, the term "apportionment" refers
to the assignment of a taxpayer's "business income" on
the basis of a formula. "Business income" is that
arising out of activity occurring in the regular course of
a corporation's business. Typically, the formula used to
apportion business income among states is based on the ratio
of the taxpayer's activity within the taxing state to total
activity.
Limited
uniformity in the apportionment practices of the states
creates the risk of overlapping taxes on interstate
commerce. No legislation has been enacted on the federal
level to ensure uniformity. The states have attempted to
achieve a significant degree of uniformity on their own through
the Uniform Division of Income for Tax Purposes Act (“UDIPTA”),
with some states have adopted in total or in substantial
part. A Multistate Tax Compact (“MTC”) requires
states joining the compact to adopt the UDIPTA or offer it
as an optional method. Most states participate in the MTC
but their level of participation varies, resulting in considerable
diversity in apportionment formulas.
Right to Apportionment
Before
applying the apportionment rules, the taxpayer must consider
whether or not it has the right to apportion its
business income. Allocation and apportionment of net income
under the UDITPA is a right of "any taxpayer having
income from business activity which is taxable both within
and without this State, other than activity as a financial
organization or public utility or the rendering of purely
personal services".3
For purposes
of the UDITPA, "a taxpayer is taxable
in another State if (1) in that State he is subject to a
net income tax, a franchise tax measured by net income, a
franchise tax for the privilege of doing business, or a corporate
stock tax, or (2) that State has jurisdiction to subject
the taxpayer to a net income tax regardless of whether, in
fact, the State the does or does not do so".4
Thus, a taxpayer may apportion if it is actually subjected
to one of the four taxes listed above or if its activities
in another state are such that the state could constitutionally
impose an income tax on the taxpayer, regardless of whether
it in fact does so. Regulations
issued by the Multistate Tax Commission explain that the
list of taxes that may make a taxpayer "subject
to" a tax in another state is directed at income taxes
or "other types of taxes which may be imposed as a substitute
for an income tax".5
States
that do not employ the UDITPA standard as a basis for determining
whether a taxpayer has a right to apportion
generally use "business activity" in another state
as a test. Business activity in another state which may entitle
a taxpayer to apportion its income include business "carried
on," "done," "transacted," "conducted," and "engaged
in”. The vagueness of the phrase has allowed some states
to take a less stringent view than the UDIPTA rules.
Apportionment Formula
The UDIPTA apportionment formula is the apportionment percentage
multiplied by total business income. The apportionment percentage
is a total of in-state sales over total sales, in-state property
over total property and in-state payroll over total payroll.
In this formula, the three factors are given equal weight;
however, some of the states use unequal weighting of the
factors.
Sales Factor
The sales factor of the apportionment formula measures
the extent of the taxpayer's sales activity in the
taxing state.
For purposes of assigning sales to a taxing state's sales
factor numerator, "sales" (defined as all receipts)
are categorized as either sales of tangible personal property
and all other "sales".
Receipts from tangible personal property (both inventory
and occasional sales of business assets) are assigned
to the taxing state if the property is shipped or
delivered
to a purchaser within the state. If the taxpayer is not
taxable in the state of the purchaser, the sale is
assigned to the
state where shipment originates (the "throwback rule”).
There is also a throwback rule for all sales to the US government;
such sales are to be assigned to the state of shipment even
if the seller is taxable in the state of receipt.
Sales of property other than tangible personal property
are assigned to the taxing state if the "income-producing
activity" or a greater portion of it is performed in
the taxing state. For example, receipts in the form of rent,
royalties, interest or dividends if business income are assigned
to the taxing state if most of the income-producing activity
is performed in the state.
Property Factor
The property factor of the apportionment formula
measures the extent of the taxpayer's use of
property in the taxing
state for the production of business income. The property
factor is a fraction whose numerator is the average value
of the taxpayer's real and personal property owned or
rented and used within the state and whose denominator
is the
average value of all such property owned or rented and
used during the tax period. Owned property is valued
at its original cost (before depreciation); rented
property
is valued at eight times the net annual rental rate.
The MTC regulations limit the property factor to
property used "in the regular course of the taxpayer's trade
or business".6 The regulations exclude property used
in connection with the production of nonbusiness income.
Property used both in the business and in the production
of nonbusiness income is only to the extent that the
property is used in the regular course of the taxpayer's
trade or
business.
The term "real and tangible personal property" includes
land, buildings, machinery, stock of goods, equipment and
other real and tangible personal property but does not include
coin or currency”.7 Additional examples of property that may be included
in the property factor include construction
in progress, partnership property and work in progress. Payroll Factor
UDITPA defines the payroll factor as the total amount paid
in the taxing state during the tax period by the taxpayer
for compensation divided by total compensation paid everywhere
during the same period.
MTC regulations
limit the payroll factor to "the total
amount paid by the taxpayer in the regular course of its
trade or business for compensation during the tax period.” Under
the MTC regulations, compensation paid for activities connected
with the production of nonbusiness income is excluded from
the factor.
Both
UDITPA and the MTC regulations define "compensation" as
wages, salaries, commissions and any other form of remuneration
paid to employees for personal services. Amounts paid directly
to employees are included in the payroll factor; these amounts
include the value of board, rent, housing, lodging and other
benefits or services furnished to employees that constitute
income to the recipient under the IRC. The payroll factor
includes compensation to employees who perform services entirely
in states in which the taxpayer is immune from taxation.
UDITPA
provides that the payroll factor is based on compensation "paid".
The MTC regulations provide that the amount "paid" is
determined on the basis of the taxpayer's accounting method.
If a taxpayer has adopted the accrual method of accounting,
compensation properly accrued is deemed to have been paid
for purposes of the payroll factor.
The
UDITPA establishes four tests for determining whether compensation
is "paid in the state". If an employee's
activities meet any one of the following tests, his or her
compensation is included in the taxing state's payroll-factor
numerator:
- All the individual's services are performed in the taxing
state, or only incidental services are performed outside
the taxing state.
- Some
of the individual's services are performed in the taxing
state, and the individual's base
of operations is
in the taxing state
- If
there is no base of operations, some of the individual's
activities are performed in the state, and the state
is the place from which his or her work is directed
or controlled.
- If
there is no base of operations or place where the work
is directed and controlled, some of the
individual's services
are performed in the taxing state, and the individual
is a resident of the taxing state.
Apportionment Factors for Special Industries
Because the apportionment formula does not set forth the
appropriate procedures for determining the apportionment
factors for special industries, the MTC has issued special
regulations on apportionment factors for construction contractors,
airlines, railroads, trucking companies, television and radio
broadcasting and publishers.
For example, under the MTC regulation for trucking companies,
the three factors of property, payroll, and sales are used,
except that mobile property, the interstate services of
personnel, and sales revenue from interstate hauling
are attributed
to the state on the basis of mobile property miles occurring
within and without the state. Other Issues
The general apportionment method sometimes produces an
unreasonable result for the taxpayer or tax administrator.
If the allocation
and apportionment provisions do not fairly represent
the extent of the taxpayer's business activity in
a state,
the taxpayer may petition for or the tax administrator
may require,
in respect to all or any part of the taxpayer's business
activity, if reasonable:
- Separate
accounting
- The
exclusion of any one or more of the factors
- The
inclusion of one or more additional factors that will
fairly represent the taxpayer's business activity
in the state
- The
employment of any other method to effect an equitable
allocation and apportionment of the taxpayer's
income.
The party must show through objective evidence, using
appropriate comparisons, that the tax base attributed
to the jurisdiction
under the apportionment method exceeds statutorily
or constitutionally permissible norms.
3. UDITPA, Sec. 2, 8007
4. UDITPA, Sec. 3, 8010
5. TC Reg. IV.3.(b)(2), 8216
6. MTC Reg. IV.10.(a), 8255
7. MTC Reg. IV.10.(a), 8255
Disclaimer
|
"The
information contained herein is of a general nature and
is not intended to address the circumstances of any particular individual
or entity. Although we endeavor to provide accurate and
timely information, there can be no guarantee that such information
is accurate as of the date it is received or that it
will continue to be accurate in the future. No one should act on such information
without appropriate professional advice after a thorough
examination
of the particular situation.
KPMG and the KPMG logo are registered trademarks of KPMG
International, a Swiss cooperative.
© 2006 KPMG LLP, the
Canadian member firm of KPMG International,
a Swiss cooperative. All rights
reserved."
|
|
|
