Sourcing income from stock and corporate debt: a current perspective.

• Author: Cronin, John J.

1. INTRODUCTION

   The circumstances under which a state or locality may constitutionally apportion a nondomiciliary corporation's income from stocks and corporate debt continues to be addressed by state courts.(1)(*) Most recently, the New Jersey Supreme Court, in Bendix Corp. v. Director, Division of Taxation,(2) held that capital gains from stock sales may constitutionally be apportioned where the stated purpose for the stock acquisitions and divestitures was to expand existing operations and enter new businesses. In reaching this conclusion, the New Jersey Court interpreted U.S. Supreme Court precedent as not limiting apportionment to the situation where the selling corporation and the corporation generating the gain are engaged in a unitary business.(3)

   The propriety of the New Jersey court's interpretation will be determined by the Supreme Court of the United States, which recently agreed to review the Bendix case (renamed Allied Signal, Inc. v. Director, Division of Taxation). This article briefly analyzes key U.S. Supreme Court decisions in this area and discusses the merits and ramifications of the New Jersey court's decision in Bendix as well as recent contrary holdings of the Arkansas and Virginia Supreme Courts. Also discussed is the Maine Supreme Court's decision in Tambrands, Inc. v. State Tax Assessor,(4) Which required apportionment, factor representation in a unitary context.

2. U.S. SUPREME COURT DECISIONS

   1. Mobil

      In 1980, the Supreme Court of the United States issued its landmark decision in Mobil Oil Corp. v. Commissioner of Taxes of Vermont, which solidified the constitutional requirements for apportioning dividends (and arguably other forms of income) from nontaxpayer subsidiaries.(5) In that case, Mobil Oil Corp. (a commercial domiciliary of New York) sold petroleum products from locations in Vermont (representing one aspect of its overall petroleum business) and received dividends from subsidiaries engaged in a broader spectrum of petroleum business activities.

      The Court first confirmed the Due Process and Commerce Clause limitation that a state may only tax income generated in interstate commerce if (1) there is a minimal connection between the interstate activities ties and the taxing state, and (2) a rational relationship exists between the income attributed to the state and the intrastate values of the enterprise. Because the first requirement was not at issue owing to Mobil's sales from Vermont locations, the decision focused on the rational relationship requirement, which was found to be satisfied because the dividend income was earned in the course of activities related to the sale of petroleum products in Vermont. Consequently, the Supreme Court ruled that Vermont was within its constitutional authority in apportioning the dividend income. In so holding, the Court found that there should be no difference (for this purpose) between income derived from a functionally integrated division and income derived from a subsidiary. It reasoned that "[o]ne must look principally at the underlying activity, not at the form of investment, to determine the propriety of apportionability".(6) The Court noted, however, that:

      Where the business activities of the dividend a payor have nothing to do with the activities of the recipient in the taxing state, due process considerations might well preclude apportionability, because there would be no underlying unitary business.(7)

      A dissenting opinion by Justice Stevens in Mobil argued that the Court's majority had improperly accepted a largely unsupported proposition that all of the subsidiaries were engaged in activities that were unitary with Mobil's business in Vermont. Justice Stevens also stated that "of greatest importance, the record contains no information about the payrolls, sales or property values of any of those corporations [the subsidiaries], and Vermont has made no attempt to incorporate them into the apportionment formula computations." The majority explicitly did not address the issue of factor representation for the dividend income because it found that Mobil had disclaimed any dispute with respect to the accuracy or fairness of Vermont's apportionment formula.

   2. ASARCO and Woolworth

      In 1982, the Supreme Court utilized the constitutional standards developed in Mobil in deciding the cases of ASARCO Inc. v. Idaho State Tax Commission(8) and F.W. Woolworth Co. v. Taxation and Revenue Department of New Mexico.(9) ASARCO (a New York-based corporation) was engaged in silver mining in Idaho and received dividends, interest, and capital gains from nontaxpayer subsidiaries engaged in the same general line of business. The Court applied the unitary business principle of Mobil by focusing on whether the activities of the subsidiaries were unitary with ASARCO's silver mining business in Idaho and found that no such unitary relationship existed. It was, therefore, held that these income...