State & Local Tax Bulletin (June 2002)
Is Cessation of a Business
Business or ... ?
M. Vesely, a tax partner in the
San Francisco office of Pillsbury Winthrop
Shaw Pittman LLP.
If you have or can obtain the
or have an Acrobat-enabled web browser,
you may wish to
download or view our
State & Local Tax Bulletin (a 519K pdf file),
containing a printed version
of this article and also available via ftp at
Mr. Vesely presented this paper as part of the Georgetown
University Law Center 25th Annual Advanced State
& Local Tax Institute on May 16-17, 2002.
This bulletin concerning state
and local tax
matters is part of the
Page, a World Wide Web demonstration project, no
portion of which is intended and cannot
be construed as legal or tax advice.
on the design or content of this material.
The issue of the characterization of income as either
business or nonbusiness income continues to be one
of the most contentious in state and local taxation.
Notwithstanding the existence of the Uniform Division
of Income for Tax Purposes Act (UDITPA) and its
definitions of business and nonbusiness income, which
have remained unchanged for over 40 years, there is little
uniformity among the states as to what constitutes
apportionable "business income" or allocable
"nonbusiness income." This lack of uniformity is
especially pronounced in the context of the disposition of
business assets, including partial or complete liquidations.
This bulletin focuses on the classification of income from
the disposition of business assets and examines recent
judicial and legislative trends.
- Business and Nonbusiness Income under UDITPA
- UDITPA Definitions
- "Business income means income arising from
transactions and activity in the regular course of
the taxpayer's trade or business and includes
income from tangible or intangible property if
the acquisition, management, and disposition of
the property constitute integral parts of the
taxpayer's regular trade or business operations."
UDITPA § 1(a)
- "Nonbusiness income means all income other
than business income." UDITPA § 1(e)
- Multistate Tax Commission Regulations
- "[A]ll income which arises from the conduct of
trade or business operations of a taxpayer is
business income ... [T]he income of the
taxpayer is business income unless clearly
classifiable as nonbusiness income." MTC Reg.
- "Gain or loss from the sale, exchange or other
disposition of real property or of tangible or
intangible personal property constitutes business
income if the property while owned by the
taxpayer was used in the taxpayer's trade or
business. However, if the property was utilized
for the production of nonbusiness income or
otherwise removed from the property factor
before its sale, exchange or other disposition, the
gain or loss will constitute nonbusiness income."
MTC Reg. IV.1.(c).(2)
- The MTC has proposed amending its regulations
pertaining to the definition and classification of
business income. (November 2001 Proposal #2).
The first public hearing was held on April 15,
2002. The second public hearing was held on
April 29, 2002. The proposed regulations may
come before the MTC for a vote as early as July.
- The proposed regulations continue to employ both
the transactional and functional tests and expand
upon the definitions and descriptions of the two
- Key terms such as "trade or business," "to contribute
materially," "property," "acquisition," "management,"
"disposition" and "integral part" are defined.
- The proposed regulations specifically provide that
"income that is derived from isolated sales, leases,
assignments, licenses, and other infrequently
occurring dispositions, transfers, or transactions
involving property, including transactions made in
liquidation or the winding-up of business, is
business income, if the property is or was used in
the taxpayer's trade or business operations." See
MTC Proposed Reg. IV.1.(a).(5).(B).
- At the April 15, 2002 public hearing, a question was
raised by a hearing participant whether the
proposed regulations would treat income generated
by a company that liquidates its assets in order to
distribute the proceeds to its shareholders as
business income. Paul Mines, the MTC Hearing
Officer, responded that "the jury is still out on that
one. It's an issue that continues to fester and the
dust has not settled as to whether there is a
liquidation exception in recognition of business
- Transactional and Functional Tests of Business
Income Under UDITPA
Courts are divided whether there are one or two
tests for business income. States that take the
position that there are two tests hold that if either
of the two tests is satisfied, the income will
constitute business income.
- Transactional test
- The transactional test arises under the first clause
of the statutory definition. Under the transactional
test, the relevant inquiry is whether the transaction
or activity that gave rise to the income arose in the
regular course of the taxpayer's trade or business.
- The frequency and regularity of the transactions are
important factors for determining whether the
proceeds of a disposition of business assets
constitute business income under the transactional
- Atlantic Richfield Co. v. State, 601 P. 2d 628 (Colo.
- The forced sale of Sinclair stock for antitrust
reasons generated business income. The court
focused on the fact that during the 20 years
prior to the sale, ARCO was involved in 15
purchases or mergers and 11 sales of
companies or blocks of assets.
- Some courts have held that the taxpayer's
subsequent use of the proceeds is also a relevant
- Functional test
- The functional test arises under the second clause
of the definition. Under this test, the relevant
inquiry is whether the acquisition, management and
disposition of the property are integral parts of the
taxpayer's regular trade or business operations.
- The test focuses on whether the property was used
in the taxpayer's trade or business.
- Under a straightforward application of the
functional test, the extraordinary or infrequent
nature of the transaction (the disposition of
business assets) is irrelevant.
- See, e.g., Hoechst Celanese Corp. v. Franchise Tax
Board, 25 Cal. 4th 508 (2001) (pension reversion
held to be business income under functional test,
notwithstanding the fact the reversion was an
- Some states apply the language literally and take the
position that the "disposition" of the business assets
must itself be an integral part of the taxpayer's
regular unitary business operations.
- See, e.g., Phillips Petroleum Company v. Iowa
Department of Revenue and Finance, 511 N.W. 2d
608 (Iowa, 1993) (gain from sale of assets to
thwart hostile takeover nonbusiness income
under functional test because the disposition was
irregular in both its scope and its naturea
- Similar conclusions have been reached by courts
in Alabama, Tennessee, North Carolina, Illinois
and Pennsylvania. See, e.g., Uniroyal Tire
Company v. Department of Finance, 779 So. 2d
227 (Ala. 2000); General Care Corp. v. Olsen,
705 S.W. 2d 642 (Tenn. 1986); Lenox, Inc. v.
Tolson, 548 S.E. 2d 513 (N.C. 2001);
Blessing/White, Inc., et al. v. Zehnder, CCH Ill. Tax
Rptr. ¶ 401-337 (2002); Laurel Pipe Line Co. v.
Commonwealth, 642 A. 2d 472 (Pa. 1994).
- Some states' statutes deviate from the uniform
definition of the functional test and require only
that the acquisition, the management or the
disposition of the property be an integral part of
the taxpayer's regular trade or business operations.
- See, e.g., N.C. Gen. Stat. § 105-130.4(a)(1).
- Case Law Regarding Dispositions of Business Assets
- Historical Developments
- Western Natural Gas Co. v. McDonald, 446 P. 2d 781
- A Texas-based oil company owned several oil and
gas leases in Kansas which it held for exploration
and production and not for resale. The taxpayer
never sold any of these leases for the 16 years prior
to undergoing a complete liquidation in 1963.
The taxpayer treated the gains from the sale of
the leases as nonbusiness income.
- The Kansas Supreme Court agreed with the
taxpayer and concluded that the sale was not
made in the regular course of business operations
when measured by the taxpayer's former
- The court emphasized that a complete plan of
liquidation was carried out and that the "sale
contemplated cessation rather than operation of
- The court applied a transactional approach,
holding that the controlling factor in determining
business income is the nature of the particular
transaction giving rise to the income.
- In re Chief Industries, Inc., 875 P. 2d 278 (Kan. 1994)
- The Kansas Supreme Court reaffirmed Kansas'
adherence to the transactional approach and
rejected the State's attempt to apply a functional
test or a broadly defined transactional test.
- The case involved a nondomiciliary corporation
based in Nebraska which sold stock in its Kansas
recreational vehicle production facility which was
part of its unitary business.
- The sales occurred over a 2-year period and
reduced the taxpayer's ownership from 100
percent to 38.3 percent.
- The proceeds were used for general business
needs, such as retirement of debt, purchase of
assets, employee payroll, maintenance, etc.
- The court held that the sale produced
nonbusiness income under the narrowly-defined
transactional test set forth in Western Natural Gas.
- New Mexico
- McVean & Barlow, Inc. v. Bureau of Revenue,
543 P. 2d 489 (NM, 1975)
- The taxpayer was in the business of laying two
kinds of pipeline, "little-inch" and "big-inch"
pipeline. Pursuant to a major reorganization, the
corporation liquidated its big-inch pipeline
business which was located in Texas and Nevada.
- Evidence was presented that the sale was an
unusual transaction and that it changed the
geographical environment of where the business
- The New Mexico Court of Appeals concluded
that the gains were nonbusiness income under
both the transactional and functional tests.
- The court stated, however, that it is not the use
of the property in the taxpayer's trade or business
which is the controlling factor. Rather, the
determining factor is the nature of the particular
transaction giving rise to the income. To
constitute business income, the transaction and
activity must have been in the regular course of
the taxpayer's business operations.
- The court relied on Western Natural Gas and
found that the sale of the large diameter pipeline
assets was a partial liquidation of the taxpayer's
- According to the court, the sale "contemplated a
cessation" of the taxpayer's large diameter
pipeline business. As such, its disposition was
not an integral part of the taxpayer's regular
- The dissent drew a distinction between a partial
and complete liquidation and conceded that a
complete liquidation and a cessation of a business
would not yield business income under the
functional test. ("In the peculiar context of a
liquidation, there is no business which the sale
or property can benefit.") The dissent also took
issue with the majority's conclusion that the
"novelty" of the transaction has any bearing on
the question of whether the transaction produced
business income under the functional test.
- General Care Corp. v. Olsen, 705 S.W. 2d 642 (Tenn.
- Gains from the sales of hospitals in four states in
connection with a corporate liquidation was held
to constitute nonbusiness income.
- Although the court found that the hospitals were
an integral part of the taxpayer's regular trade or
business, it held that their disposition was not.
The court found significant that the sales were
in complete liquidation and served to terminate
regular business operations.
- The court followed Western Natural Gas and
- The court stated: "We find that the
Commissioner's position that the 'disposition' of
property need not be within the scope of the
taxpayer's regular business operations in order
to give rise to business income contrary to the
plain language of the statute. The drafters' use
of the conjunction 'and' clearly indicates that the
disposition, as well as the acquisition and
management of property must be an integral part
of the taxpayer's regular trade or business
operations in order to produce business
- Federated Stores Realty, Inc. v. Huddleston,
852 S.W. 2d 206 (Tenn. 1992), reh'g. den. (1993)
- Parent was in the business of operating retail
department stores. The taxpayer, its subsidiary,
was in the business of developing, leasing and
managing regional shopping centers. The
subsidiary owned, in whole or in part, 13
shopping centers. During 1983 to 1988, the
subsidiary sold all 13 shopping centers and ceased
all development and management activities. The
subsidiary continued in existence.
- The court held that the gains were nonbusiness
income under the transactional test adopted in
General Care because the sales of shopping
centers pursuant to the corporation's decision to
discontinue the business of developing, leasing
and managing shopping centers were not made
in the regular course of business. The subsidiary's
primary purpose was to provide business facilities
for its parent company's anchor stores in each
- The court analogized the sale of the shopping
centers to a partial liquidation.
- The court relied upon the fact that the proceeds
were paid to the parent as a dividend and were
not used to acquire new assets for the shopping
- Union Carbide Corp. v. Huddleston, 854 S.W. 2d 87
- The taxpayer underwent a corporate
restructuring after the Bhopal, India plant
disaster. It then became the target of a hostile
takeover. To prevent the takeover, the taxpayer
repurchased 56 percent of its stock in 1986. In
order to pay its debt, it sold its corporate
headquarters and completely liquidated seven
lines of business. All proceeds were distributed
to the shareholders. Previously, the taxpayer had
sold business assets, but never of such a
magnitude. Nor had the taxpayer ever completely
liquidated a line of business.
- The court concluded the gains constituted
nonbusiness income under the transactional test
since the sales did not occur in the regular course
of the taxpayer's business. The court relied upon
the following facts:
- All of the sales proceeds were distributed to
- The taxpayer had never before completely
liquidated a line of business.
- The Bhopal disaster and the ensuing hostile
tender offer were unusual events.
- The 1986 divestiture was "vastly larger" in
magnitude than all prior divestitures
- The sales in 1986 involved profitable business
lines whereas earlier sales had involved only
- Associated Partnership I, Inc. v. Huddleston,
889 S.W. 2d 190 (Tenn. 1994)
- The taxpayer (API) was the parent of APII. In
1986, APII and another corporation formed a
limited partnership that operated a publishing
business in Tennessee. In 1988, APII sold 50
percent of its partnership interest to a third party
and merged into API in a complete liquidation.
Pursuant to the liquidation, the proceeds from
the sale passed to API. The classification of the
gain from APII's sale of the partnership interest
was at issue.
- The court concluded the gain was nonbusiness
income under the transactional test, relying upon
- APII's sole business was holding and managing
the partnership interest at issue.
- The sale of the partnership interest was not a
frequent and recurring transaction.
- The sale resulted in the termination of APII's
- APII did not use the sale proceeds in any
ongoing trade or business.
- The court rejected the Commissioner's argument
that in determining business or nonbusiness
income, the activities of the consolidated group
should be considered. The court held that it is
only the taxpayer's trade or business that is
- The court noted that even if the activities of the
related corporations had been considered, the
gain would still be nonbusiness because the
disposition of a profitable publishing business
was not a transaction that occurred frequently
or regularly; the sale was contrary to the former
business practices and philosophy of the
controlling corporation; and the controlling
corporation did not use the proceeds from the
sale in any of the ongoing businesses. The
proceeds were used to repurchase some of the
ultimate parent's publicly traded stock.
- Welded Tube Co. of America v. Commonwealth,
515 A. 2d 988 (Pa. 1986)
- Taxpayer was in the business of manufacturing
welded tube. It sold at a gain a Philadelphia
manufacturing facility, machinery and
equipment. The taxpayer used the proceeds to
retire corporate debt and to pay for expansion of
its business which it continued at its remaining
manufacturing plant. The Commonwealth
argued that the gain was nonbusiness income
wholly allocable to Pennsylvania.
- The Commonwealth Court concluded that the
gains constituted business income under the
transactional test, notwithstanding the fact that
the taxpayer was not in the business of buying
and selling manufacturing plants. In fact, the
taxpayer had only sold real property twice over
its 30-year corporate history.
- The court adopted the view that even occasional
transactions could arise in the regular course of
the taxpayer's business.
- According to the court, such transactions did not
have to arise in the course of the taxpayer's
principal business to constitute business income.
It makes no difference whether the income
derives from the taxpayer's main business, its
occasional business or a subordinate business.
- The court recognized that the statutory definition
contains an alternative, independent functional
test, under which the extraordinary nature of the
transaction is irrelevant.
- The court held that the gain also satisfied the
- The court found that while the principal business
of the taxpayer was the manufacture of welded
tube, it was a regular practice of the taxpayer to
acquire property in the expansion of its business.
This property constituted an integral part of the
taxpayer's business, and its disposition produced
- The court relied upon the fact that the proceeds
from the sale were reinvested in taxpayer's
on-going business operations.
- The court noted that the disposition did not
contemplate the cessation of any part of the
taxpayer's regular business.
- Laurel Pipe Line Co. v. Board of Fin. and Revenue,
642 A. 2d 472 (Pa. 1994)
- Taxpayer was engaged in transporting refined
petroleum products by pipeline from refinery
connections between Philadelphia and
Pittsburgh. The taxpayer also operated a pipeline
between Aliquippa, Pennsylvania and Cleveland,
Ohio. The taxpayer discontinued the operation
of the Aliquippa-Cleveland pipeline in 1983.
Three years later, it sold at a gain the pipeline and
related assets. All sales proceeds were distributed
to its shareholders.
- The court recognized that the statutory definition
contains two tests for business income. The
parties had conceded that the income did not
satisfy the transactional test.
- The court held that the gain was nonbusiness
income under the functional test, relying upon
- Because the pipeline had been idle for over
three years prior to its sale, the disposition was,
in essence, a partial liquidation and not an
integral part of the taxpayer's regular business
- Taxpayer's distribution of the proceeds to the
shareholders rather than the reinvesting of
them in the business was further evidence of a
liquidation of a separate and distinct aspect
of its business.
- Texaco-Cities Service Pipeline Co. v. McGaw,
695 N.E. 2d 481 (Ill. 1998)
- Taxpayer was engaged in the business of
transporting crude oil and other petroleum
products. In 1983, the taxpayer sold 90 percent
of the assets of its pipeline business, including
all such assets in Illinois. The proceeds were
reinvested back into the pipeline business.
- The Illinois Supreme Court concluded the gain
from the sale of the pipeline assets was business
income under the functional test.
- The court focused on the use of the pipelines in
the taxpayer's business, and found that they had
produced business income to the taxpayer.
- In addition, the court noted that the pipelines
had been included in the property factor in the
year of sale.
- The court distinguished Laurel Pipe Line on the
basis that Texaco-Cities remained in the business
of providing transportation by pipeline; the sales
proceeds were invested back into that business;
and the sale was not a cessation of a separate and
distinct portion of Texaco-Cities' business.
- Simpson Timber Company v. Department of Revenue,
953 P. 2d 366 (Or. 1998)
- The Oregon Supreme Court held that delay
compensation received in connection with the
federal government's condemnation of a
substantial tract of the taxpayer's timberland
property constituted business income under the
- The "delay compensation" was paid in addition
to the "just compensation" for the fair market
value of the property because the federal
government delayed for 10 years in making
payment to the taxpayer.
- The delay compensation was based on
hypothetical investment returns the just
compensation would have earned in the hands
of a "reasonably prudent investor."
- Taxpayer reported the delay compensation as
interest income on its federal return.
- The court rejected taxpayer's argument that,
because condemnation of land does not represent
a voluntary disposition, it cannot be a disposition
constituting an integral part of its regular
business operations. The court held that
condemnation is the equivalent of a forced sale.
- The court also rejected taxpayer's argument that,
even if the just compensation could be considered
business income, the delay compensation was of
a different character. Arguably, the delay
compensation was in effect the result of a
long-term investment of the just compensation,
during which period the funds were unavailable
to the taxpayer.
- The court found, however, that the ultimate
source of the income was the standing timber and
the land, assets acquired and used as integral parts
of the taxpayer's trade or business. The
disposition of those assets produced business
income. The amount received as delay
compensation simply represented additional
amounts from the disposition of business assets.
- The court distinguished in a footnote cases
involving liquidations. The court noted that
those cases did not involve either a condemnation
or a partial disposition of assets. Instead, they
involved complete liquidations or the sale of
assets not used by the taxpayer in its regular
- Firstar Corp. v. Commissioner of Revenue,
575 N.W. 2d 835 (Minn. 1998)
- Bank holding company's gain from the sale of
real estate, including the building that housed its
corporate headquarters in Wisconsin, was held
to constitute nonbusiness income under the
- The Minnesota Supreme Court applied the three
factors that the Tennessee courts have applied
frequency and regularity of similar transactions,
former business practices and subsequent use of
- Firstar had no former or current practice of
selling commercial real estate.
- The court concluded that none of the proceeds
were reinvested in ongoing business operations
of the taxpayer, with the only arguable exception
being Firstar's reinvestment of a portion of the
proceeds in the acquisition of new banks. The
balance of the proceeds was used to retire bonds
secured by the Wisconsin property, to pay taxes
on the gain, and to pay dividends to the
- At the time of sale, Firstar occupied
approximately 32 percent of the building. The
remainder was used by third parties.
- North Carolina
- Polaroid Corp. v. Offerman, 507 S.E. 2d 284 (N.C.
- In a case involving the classification of a patent
infringement damage award, the North Carolina
Supreme Court held that the statutory definition
contains two tests for business income.
- The court concluded that the award constituted
business income under the functional test
because the patents were an integral part of the
taxpayer's trade or business operations.
- The court further held that North Carolina's
definition of business income is broader than the
UDITPA definition because it contains the phrase
"acquisition, management and/or disposition of
- In footnote 6, the court noted that "cases
involving liquidation are in a category by
themselves. Indeed, true liquidation cases are
inapplicable to these situations because the asset
and transaction at issue are not in furtherance of
the unitary business, but rather a means of
- Uniroyal Tire Company v. Department of Finance,
779 So. 2d 227 (Ala. 2000)
- In 1985, in order to avoid a hostile takeover
attempt, Uniroyal spun off various divisions into
separate legal entities. The tire division was
transferred to Uniroyal Tire Co. In 1986, Uniroyal
Tire entered into a partnership with
B. F. Goodrich Company. Following formation
of the partnership, Uniroyal Tire's only asset was
its interest in the partnership. Between 1986 and
1989, Uniroyal Tire treated the income received
from the partnership as business income. In
1988, the partnership was recapitalized. Uniroyal
Tire received $80 million and its ownership was
reduced. In 1990, Uniroyal Tire sold its entire
partnership interest and recognized a gain.
Uniroyal Tire then liquidated by distributing the
proceeds to its parent.
- The Alabama Supreme Court concluded that
there was one testtransactional.
- The court held that the gains constituted
nonbusiness income under this test. The court
found that the sale of the partnership interest was
not essential to the taxpayer's business operations,
nor was it a regular business activity.
- The court also held that a complete liquidation
and cessation of a business does not produce
business income under the transactional test.
- The court went on to state that, even if a separate
functional test exists, the "disposition" must be
an integral part of the taxpayer's trade or business
- Recent Developments
- Kemppel v. Zaino, 746 N.E. 2d 1073 (Ohio 2001)
- The Ohio Supreme Court held that income
arising out of the liquidation of assets followed
by dissolution of the corporation and
distribution of the proceeds to the shareholders
was nonbusiness income.
- The court recognized that the states are split on
whether the statutory definition contains one or
two tests for business income. The court further
noted that some courts that have adopted the
functional test have also recognized that the sale
of assets as part of the partial or complete
liquidation of a business is different from the sale
of assets by a continuing business, citing Polaroid
and Laurel Pipe Line.
- The court then concluded that the income was
nonbusiness income under either test, simply
stating that the income resulted from a
liquidation followed by a dissolution of the
corporation. It was a one-time event that
terminated the business; it was not a sale in the
regular course of a trade or business.
- The May Department Stores Company v. Indiana
Department of Revenue, 749 N.E.2d 651 (Ind. 2001)
- Gains received by an out-of-state corporation
from a court-ordered divestiture of an entire
division were nonbusiness income under both
the transactional and functional tests because the
divestiture was not an essential part of the
- The Indiana Tax Court held that there were two
tests for business income.
- The court held that the gain was nonbusiness
income under the transactional test because
selling an entire division was not a regular
business practice of the corporation.
- The court further held that the gain was
nonbusiness income under the functional test.
The court found that, while the division was an
integral part of the corporation's business
operations, the disposition of the assets was
neither a necessary nor an essential part of the
corporation's department store retailing
operations. Rather, the court-ordered divestiture
was for the benefit of competitors, not for the
- North Carolina
- Lenox, Inc. v. Tolson, 548 S.E. 2d 513 (N.C. 2001)
- The North Carolina Supreme Court held that the
income from the sale of one of the operating
divisions of a consumer products manufacturer
constituted nonbusiness income under the
- The court stated that, in applying the functional
test in the context of a liquidation, the focus
should not be exclusively on whether the assets
were integral to the corporation's regular
business, but rather the totality of the
circumstances should be considered.
- The court relied upon the fact that the sale was a
complete liquidation, marking Lenox's complete
cessation of a separate and distinct line of
business, and that the proceeds from the sale were
immediately distributed to its sole shareholder
as a dividend.
- Directive No. CD-01-1 (November 20, 2001)
- A corporation's disposition of business assets will
be considered nonbusiness income if the
disposition is the liquidation of a separate and
distinct line of business and results in a cessation
of that line of business; and the company
distributes all of the proceeds to its shareholders
and does not reinvest any of the proceeds in the
- Appeal of Jim Beam Brands Co., CCH Calif. Tax Rptr.
¶ 403-215 (Cal. 2001)
- Summary nonprecedential decision in which the
sale of a unitary subsidiary's stock was held to be
business income by the State Board of
- The SBE held that there is no independent
requirement that the disposition of the stock be
an integral part of the taxpayer's trade or business
operations under the functional test.
- The SBE further noted that there is no
justification for carving out a partial liquidation
exception to the functional test, declining to
follow the North Carolina Court of Appeals
decision in Lenox.
- Blessing/White, Inc., et al. v. Zehnder, 2002 Ill.App.
Lexis 226, CCH Ill. Tax Rptr. ¶ 401-337 (Ill. 2002)
- A corporation realized nonbusiness income from
the sale of all of its assets in a complete liquidation
where the proceeds were distributed to the
shareholders and not reinvested in the business.
- The court held that a "modified" form of the
functional test should be applied when the
disposition of the assets was made pursuant to a
corporate liquidation in cessation of a business.
- Both the property and the liquidation of the
assets must be essential to the taxpayer's regular
trade or business operations.
- Canteen Corp. v. Commonwealth, 792 A.2d 14 (Pa.
- Corporate subsidiary's gain attributable to its
parent corporation's sale of stock to a third party
was business income under the functional test
where an IRC § 338(h)(10) election was made.
- The court recognized that while the sale of assets
in connection with the liquidation of a business,
whether partial or total, normally constitutes
nonbusiness income for Pennsylvania tax
purposes, this principle does not apply to a
"deemed sale" of assets under a § 338(h)(10)
- The court held that the deemed asset sale was
not a liquidation within the meaning of Laurel
Pipe Line for Pennsylvania corporate income tax
- Miscellaneous Issues and Trends
- Is Use of Proceeds a Critical Factor?
- F. W. Woolworth Co. v. Taxation & Revenue Dept.,
458 U.S. 354 (1982). The Supreme Court rejected
reliance on whether dividends were commingled
with general funds and used for general corporate
purposes in determining the apportionability of
- Allied-Signal, Inc. v. Director, Div. of Tax'n,
504 U.S. 768 (1992). The Supreme Court
concluded that the use of the proceeds was not
relevant in determining whether the gain from a
stock sale was apportionable. Rather, the relevant
inquiry is whether a unitary relationship existed
between the seller and the entity whose stock was
sold or whether the transaction served an
operational rather than investment function.
- How do Woolworth and Allied-Signal square with
the various state court decisions which have
attached significance to the use of the proceeds
in a liquidating transaction?
- Does or Should an I.R.C. § 338(h)(10) Election
Affect the Business Income Determination?
- Is There Different Treatment of Liquidations in
Separate Versus Combined States?
- Distortion in the Formula
- If a sale of a line of business generates business
income under the functional test, what factors
should be used to apportion the income? Should
there be a better matching of the gain or loss with
the factors in prior years?
- Where the gain is attributable to the increase in
value of the holdings over time, how should the
apportionment formula be adjusted?
- If the increase in value of the holdings is
attributable to external market forces unrelated
to the activities in the taxing state, how should
the formula be adjusted?
- Can UDITPA § 18 be applied to correct a
mismatching of income and factors?
- British Land (Maryland) Inc. v. Tax Appeals Tribunal
of the State of New York, 647 N.E. 2d 1280 (NY. 1995)
- Delaware corporation established that a major
portion of the gain on the sale of a Baltimore
office building could not be attributed to its New
York activities for corporate franchise tax
- Taxpayer demonstrated that the four factors
principally responsible for the appreciation in the
value of the Baltimore property(a) improved
economic climate in downtown Baltimore; (b)
sound management resulting in high occupancy
rates; (c) renovations to the building; and (d)
acquisition of the fee interestall had their
economic impact on the Baltimore property
prior to the commencement of the taxpayer's
activities in New York.
- Compare In the Matter of the Petition of Fairchild
Industries, Inc., CCH NY Tax Rptr. ¶ 403-612 (N.Y.
2000), where the New York Tax Appeals Tribunal
distinguished British Land on the facts in
connection with the sale of an out-of-state segment
of the taxpayer's unitary business. The evidence
presented indicated that the appreciation in the
value of the out-of-state assets was attributable to
the taxpayer's unitary business prior to the
shutdown of its New York operations.
- Compare Firstar where the Minnesota Supreme
Court noted that the entire appreciation in value
of the Wisconsin property occurred before Firstar
acquired its first bank holding company in
- Appeal of Scripps League Newspapers, Inc., (Cal.
- In an unpublished decision on rehearing, the SBE
concluded that UDITPA § 18 could be applied
to correct a distortion caused by the allocation
of nonbusiness income to California from a
liquidation sale of a nonunitary subsidiary.
- Eadington Fruit Company (Cal. 1978)
- Taxpayer's petition under California's
counterpart to UDITPA § 18 was granted where
its gain on the sale of a substantial portion of
business assets, located outside of California,
which was reported on the installment method,
was apportioned on the basis of the
apportionment factors in the year of sale, rather
than the year of receipt.
- The Franchise Tax Board relied on Appeal of
Donald M. Drake Company, CCH Calif. Tax Rptr.
¶ 205-598 (Cal. 1977) and the special
construction contractor apportionment formula.
- "Apportionment of installment sale income on
the basis of the factors in the year the income is
reported or received would result in such income
being apportioned by activities which had no
connection with the earning of the income."
- Why Should Business Property, Which Has
Generated Expenses and Deductions for the
Taxpayer in Prior Years, Reducing Apportionable
Business Income, Not Produce Business Income
upon its Disposition?
- Trend to Define Business Income by Reference to
- A number of states have amended their business
income definition to either delete all references
to the transactional and functional tests, or to
expand the definition to include reference to the
constitutional standards of Allied-Signal.
- Pennsylvania amended its law in 2001.
- "'Business income' means income arising from
transactions and activities in the regular course
of the taxpayer's trade or business and includes
income from tangible and intangible property if
either the acquisition, the management or the
disposition of the property constitutes an integral
part of the taxpayer's regular trade or business
operations. The income includes all income
which is apportionable under the Constitution
of the United States." 2001 Pa. Laws, HB 334,
Par. No. 2375, section 11 (June 21, 2001)
- Iowa Code Ann. Section 422.32(2)
- "It is the intent of the General Assembly to treat
as apportionable business income all income that
may be treated as apportionable business income
under the Constitution of the United States."
- With this trend, it is likely that there will be
greater development of what constitutes an
"operational function" versus an "investment
- Does the Distinction between Business and
Nonbusiness Income Have Any Continuing Validity
State & Local
Tax Page Search
© 2002, 2005
[an error occurred while processing this directive]