New York proposed regulations affect FSCs.

• Author: Rice, John B.
• Position: Foreign sales corporations

Recently, New York State has gotten very aggressive in auditing taxpayers with foreign sales corporations (FSCs) and requiring them to be included in a combined return. On Aug. 17, 1992, the state issued long-awaited proposed regulations that contain two substantive changes affecting FSCs.

In 1984, Congress enacted legislation authorizing the use of FSCs to promote export trade. Under the FSC system, a portion of the FSC's foreign trade income (generally 15/23) is exempt from U.S. income taxes, provided it is derived from the foreign presence and economic activity of the FSC; the remaining portion is subject to Federal income tax. Sec. 922 requires that an FSC be incorporated under the laws of certain foreign countries (including Barbados and Jamaica) or one of four eligible U.S. possessions, most commonly the U.S. Virgin Islands.

For New York tax purposes, an FSC may be classified as either a foreign corporation (i.e., incorporated in another state or under the laws of a U.S. possession) or an alien corporation (i.e., incorporated under the laws of a foreign country). The distinction is important because the regulations dealing with combined returns permit the inclusion of a foreign corporation, but not an alien corporation. Thus, under existing regulations and subject to certain requirements, FM incorporated in a U.S.possession may be included in a N.Y. combined return, while alien FSCs may not.

Generally, companies incorporated or doing business in New York must file on a separate basis. However, combined returns may be permitted (or required) under these conditions: 1. The corporations must be related by direct or indirect ownership of at least 80% of each corporation's voting stock; 2. All of the corporations must be part of a unitary business; and 3. The corporations' activities, business, income or capital within the state must be distorted by separate basis reporting.

Distortion will be presumed to occur if there are "substantial intercorporate transactions" (generally defined as at least 50% of a corporation's receipts, income or expenses) among the corporations. This presumption is rebuttable if the taxpayer or the state Tax Commissioner can show that filing a report on a separate basis does not distort the taxpayer's N.Y. activities, business, income or capital.

Foreign corporations not otherwise subject to tax in New York (i.e., foreign corporations having no nexus in the state, hereinafter referred to as "nontaxpayers") will...