- Flow up of partnership income treated as allocable income and apportionment factors of the partnership would not be reflected in the corporation’s apportionment
- S. Constitution overrides statutory dictate of apportionment of almost all income
- Commonwealth can appeal to the Supreme Court of Virginia, which has discretion as to whether to take the case
Background
A corporation, exiting bankruptcy, which owned a minority interest in a partnership that owned assets that the corporation had owned prior to filing for bankruptcy was deemed to be non-unitary with the partnership. As a result, the corporation was able to allocate its income from the partnership. The case is Va., Dep't of Tax'n v. FJ Mgmt., Inc., 2024 Va App Lexis 649 (Va. Ct. App. Nov. 12, 2024).
Forvis Mazars Insight: While the case involves partnership income, it implicates the requirement in Va. Code Ann. Section 581.408(A) that the bulk of the income of most corporations is required to be apportioned. It suggests that any income of a corporation that can properly be classified as nonbusiness income can be allocated.
Restructuring Following Bankruptcy
The taxpayer, FJ Management, Inc. (“FJM”) was a Utah corporation with its headquarters in Salt Lake City. Its primary business was operating truck stops throughout the United States and Canada. It also owned oil refineries and pipelines, as well as a banking business directed at truckers, through various partnership and LLC interests.
FJM went into bankruptcy and restructured in 2008. As a result of bankruptcy, it sold its travel center business. After bankruptcy, it retained a single oil refinery, the banking business, and a minority interest in a limited liability company taxed as a partnership, Pilot Travel Centers, LLC (“PTC”) that owned truck stops. Additionally, FJM entered into a twenty-year fuel supply agreement with PTC to supply fuel from its oil refinery business. This agreement was a small part of PTC’s business; it represented less than 2% of PTC’s total fuel purchases and supplied fewer than twenty of PTC’s travel centers. Pricing under this agreement was set via spot pricing by an independent fuel-pricing service.
FJM owned a 17 percent interest in PTC, denominated as class B interests. These class B interests allowed FJM to name two members to PTC’s eleven-member board of managers. The other nine members of the board were named by the owners of the class A interests.
Tax Position and Trial
FJM originally filed its tax returns for 2013 through 2015 treating its income from PTC as apportionable and including PTC’s apportionment in its own apportionment factor. It subsequently amended these returns to treat the income as allocable non-business income and modified its apportionment to exclude the flow-up from PTC. The amended returns resulted in a refund for 2013 and 2014 and a slight increase in tax for 2015.
FJM appealed the denial of its net refund. At trial, a tax analyst for the Commonwealth of Virginia testified that responses received from FJM in a questionnaire indicated that FJM and PTC did not share functional integration, centralized management and economies of scale, all hallmarks of unitary businesses. As a result, the trial court found in favor of FJM and ordered the Department of Taxation (the “Department”) to pay the net refund required by the amended returns.
The Appellate Decision
The opinion of the Court of Appeals relies heavily on MeadWestvaco Corp. v. Ill. Dep’t of Revenue, 553 U.S. 16 (2008) in forming its analysis of the constitutionality of apportioning FJM’s income from PTC under the Due Process and Commerce Clauses of the U.S. Constitution. It deferred to the trial court’s findings that FJM was not unitary with PTC because the two entities collectively lacked functional integration, economies of scale, and centralized management.
The court dismissed the Department’s arguments under Allied-Singal, Inc. v. Director, Division of Taxation, 504 U.S. 768 (1992) that FJM’s investment in PTC served an operational, rather than an investment, function and therefore, the income was apportionable. The court cited MeadWestvaco for the proposition that the Supreme Court’s decision in Allied-Signal did not modify the concept of a unitary business to create a new ground for apportionment. Rather, it recognized that an asset may serve as a part of a unitary business even if the relationship between a payor and a payee does not rise to the level of a unitary relationship. In dismissing this argument, the court noted, “…the proper question is whether the income that FJM earned from its minority ownership interest in PTC served an operational function in FJM's own independent business activities.” The court of appeals concluded that it did not based upon the trial court’s findings.
The court also considered the Department’s argument that Va. Code Ann. Section 58.1391(B) required FJM, as a part owner of PTC, to retain the character of the income that flows through to FJM. The Department had interpreted this provision to conclude that income flowing through from a partnership is operational and properly included in apportionable income. In dismissing this argument, the court noted that the Department’s interpretations of a statute are reviewed de novo in litigation, and that in the absence of ambiguity, the Department’s interpretation of the law could not contravene the plain language of the statute.
Forvis Mazars Insight: The appellate court’s decision is a reminder of two things. Firstly, state statutes like Virginia’s that come close to mandating apportionment cannot override the constitutional limitations that may require allocation. Additionally, taxing authorities’ interpretations of statutes cannot override the plain language of the statute themselves.
How Forvis Mazars Can Help
Forvis Mazars can collaborate with you to help you understand whether the relationship between corporate entities rises to the level of a unitary business, in Virginia and elsewhere. We can also help you to consider whether corporate assets give rise to apportionable income under the appropriate constitutional standards.