Tax Type
Corporation Income Tax
Description
Nexus; NOLD
Topic
Allocation and Apportionment
Computation of Tax
Nexus
Date Issued
08-23-2006
August 23, 2006
Re: § 58.1-1821 Application: Corporate Income Tax
Dear *****:
This will reply to your letter in which you seek correction of the audit adjustments made to the corporate income tax returns filed by your client, ***** (the "Taxpayer") for the taxable years ended December 31, 1997 and 1998. I apologize for the delay in responding to your letter.
FACTS
The Taxpayer filed consolidated Virginia corporate returns for the taxable years at issue. The Department audited the Taxpayer and numerous adjustments were made. The Taxpayer contests a number of the adjustments, each of which will be addressed separately below.
DETERMINATION
Nexus
The Taxpayer's original 1997 and 1998 Virginia consolidated corporate income tax returns included ***** ("S1"). Subsequently, amended returns were filed to remove S1 from the consolidated returns. Concurrently, the Department began an audit of the Taxpayer's returns.
The auditor found that S1 was registered with both the State Corporation Commission ("SCC") and the Department. In both cases, S1 reported a Virginia address as its physical location. In addition, S1's president resided in Virginia. Based on this information, the auditor determined that S1 had nexus with Virginia and income from Virginia sources. As a result, the auditor declined to remove S1 from the consolidated return and the final audit report. The Taxpayer contends that S1 must be removed because it lacked nexus with Virginia and had no positive apportionment factors.
Pursuant to Va. Code § 58.1-442, an affiliated group of corporations may elect to file a consolidated Virginia income tax return. Title 23 of the Virginia Administrative Code ("VAC") 10-120-322 provides that a corporation cannot be included in a consolidated return if it is: (1) exempt from Virginia income tax under Va. Code § 58.1-401, (2) exempt from Virginia income tax under Public Law (P.L.) 86-272, (3) not affiliated as defined by Va. Code § 58.1-302, (4) not subject to Virginia income tax if separate returns were to be filed, or (5) using different taxable years.
Generally, corporations organized under Virginia law and foreign corporations having income from Virginia sources are subject to Virginia tax. A corporation will have income from Virginia sources if there is sufficient business activity within Virginia to make any one or more of the applicable apportionment factors positive. See Public Document ("P.D.") 92-238 (11/16/92).
In this case, S1 reported no property or payroll in the Virginia apportionment factor for the taxable years under audit. S1 did report some sales in taxable year 1998, but the Taxpayer asserts that the receipts represent the amount of goodwill erroneously included in S1's numerator on the originally filed consolidated return. The goodwill was the result of the stock sale of an affiliated group of corporations, including S1, for which an election was made under Internal Revenue Code § 338(h)(10). Evidence has been presented that supports the Taxpayer's assertion.
Moreover, the payment of wages to S1's officer by another of the Taxpayer's subsidiaries that also employed this particular officer does not create a positive payroll factor for S1. Wages paid by one corporation cannot be included in the payroll factor of an affiliated corporation. See P.D. 90-17 (1/11/90). There is a presumption that total wages reported to Virginia for unemployment compensation purposes represent compensation paid or accrued in Virginia. See Title 23 VAC 10-120-190 C. The Virginia Unemployment Compensation Act does not provide for any type of common paymaster arrangement. Each employer is separately liable for taxes on its wages. Accordingly, a common paymaster arrangement is not recognized for purposes of determining Virginia apportionment. See P.D. 93-116 (4/29/93).
Further, Va. Code § 58.1-400 imposes income tax "on the Virginia taxable income for each taxable year of every corporation organized under the laws of the Commonwealth and every foreign corporation having income from Virginia sources." Thus, every corporation, whether incorporated in Virginia or elsewhere, having Virginia taxable income is subject to the Virginia income tax. Because the tax is imposed on the income of the corporation and not the corporation itself, a corporation, whether incorporated in Virginia or elsewhere, having no Virginia taxable income will not be subject to the tax. See P.D. 99-34 (3/24/99).
In P.D. 94-368 (12/12/94), a corporation that was registered to do business in Virginia but had not conducted business in Virginia was found not to be subject to tax in Virginia and was, therefore, ineligible to be included in a consolidated Virginia return. For the audit at issue, the mere fact that S1 reported a Virginia address on the Department's records does not subject a corporation to Virginia income tax.
Based on the foregoing, I find that S1 had no positive apportionment factor and no Virginia source income for the taxable years ended December 31, 1997 and 1998. Therefore, S1 was not eligible to be included in the Virginia consolidated corporate income tax returns filed by the Taxpayer and its affiliates.
Filing Requirement
Pursuant to Title 23 VAC 10-120-310, every foreign corporation registered with the SCC for the privilege of doing business in Virginia is required to file a return with the Department. A return is required even if a corporation has no income from Virginia sources and no Virginia income tax is due. As noted in P.D. 02-80 (05/02/02), a filing requirement does not subject a corporation to the Virginia income tax.
While S1 is not eligible to be included in the Virginia consolidated corporate income tax return filed by the Taxpayer and its affiliates, S1 is required to file separate Virginia income tax returns for the taxable years at issue because it was registered with the SCC to do business in Virginia. Such returns should be prepared and mailed to: Virginia Department of Taxation, Office of Policy and Administration, Appeals and Rulings, P.O. Box 27203, Richmond, Virginia 23261-7203, Attention: *****. The returns should be filed within 30 days from the date of this letter. If the returns are not filed, S1 will be assessed a penalty for failure to file the required income tax returns.
Net Operating Loss Deductions
During 1997, the Taxpayer acquired an affiliated group of corporations (the "VA Group") that had previously filed combined Virginia corporate income tax returns. As a result, the group filed a 1997 short year combined return. Both ***** ("S2") and ***** ("S3") were members of this affiliated group at the time the Taxpayer acquired the VA Group. The Department's auditor disallowed the carryforward of a net operating loss deduction ("NOLD") by S2 and S3. The Taxpayer contends that both S2 and S3 had NOLDs eligible to be included in the Taxpayer's Virginia consolidated income tax return for the years at issue
In general, Virginia income tax laws do not address the NOLD. Nonetheless, Va. Code § 58.1-301 provides, with certain exceptions, that terminology and references used in Title 58.1 of the Code of Virginia have the same meaning as provided in the Internal Revenue Code ("I.R.C."), unless a different meaning is clearly required. Because the starting point in computing Virginia taxable income is federal taxable income, Virginia allows a NOLD to the extent that it is allowable in computing federal taxable income. For the taxable years at issue, I.R.C. § 172 specifies that a NOLD can be carried to the two taxable years prior to and the 20 taxable years subsequent to the taxable year in which the loss is incurred.
Under Virginia combined return accounting, each member's taxable income is computed as if it were filing a separate return. If a member incurs a net operating loss on a separate return basis for a taxable year, no NOLD carried from another taxable year is allowed. See Title 23 VAC 10-120-325 D. Consequently, members of a group filing a combined Virginia return would be subject to federal limitations for carrying forward NOLDs into a consolidated return.
Generally, net operating losses reported on a separate return can be carried over to and used on a consolidated return. Treas. Reg. § 1.1502-21(c), however, provides that the net operating loss of a member of an affiliated group arising in a "separate return limitation year" ("SRLY") may not exceed the amount of consolidated taxable income contributed by the loss-sustaining member for that taxable year. A SRLY is generally a separate return year in which a subsidiary is not a member of the group.
S2 had been acquired by the VA Group in 1995. Prior to this acquisition, S2 had filed separate Virginia returns and carried forward a NOLD into the VA Group. S2 continued to report losses after becoming a member of VA Group. For the short taxable year ended December 31, 1997, however, S2 reported positive FTI. Accordingly, S2 would be entitled to a NOLD, subject to the SRLY limitation, for the taxable year ended December 31, 1997.
S3 incurred a net operating loss for the 1997 short taxable year resulting from the acquisition of the VA Group by the Taxpayer. S3 carried the NOLD back to its prior two taxable years, but a balance remained to be carried forward. S3 also incurred a net operating loss for the taxable ended December 31, 1997. S3 reported positive FTI for the taxable year ended December 31, 1998, which exceeded the loss incurred in the prior taxable year.
Because S3's contribution to the affiliated group's consolidated taxable income for 1998 exceeds its cumulative consolidated net operating loss sustained in prior consolidated return years, the NOLD may be used to the extent S3's 1998 FTI exceeds its loss for the taxable year ended December 31, 1997. The NOLD would be further limited by any net Virginia NOLD modification resulting from the combined return.
Payroll Factor
The auditor adjusted the payroll factor of ***** ("S4") to reflect compensation amounts reported to the Virginia Employment Commission ("VEC"). The Taxpayer contends that the inclusion of these amounts overstates the payroll factor. S4 reported substantially less payroll on the Virginia consolidated income
tax returns for the taxable years at issue.
As previously mentioned, there is a presumption that total wages reported to Virginia for unemployment compensation purposes represent compensation paid or accrued in Virginia. See Title 23 VAC 10-120-190. Because the compensation was reported to VEC by S4, the auditor properly adjusted the numerator of the payroll factor.
Based on the evidence available, it appears the S4 may have served as a common paymaster for a number of other subsidiaries. The Virginia Unemployment Compensation Act (Va. Code § 60.2-100 et. seq.) does not provide for any type of common paymaster arrangement. Each employer is separately liable for taxes on its wages. Accordingly, a common paymaster arrangement is not recognized for purposes of determining Virginia apportionment.
The Department's longstanding policy prohibits wages paid by a parent corporation from being included in the payroll factor of a subsidiary, despite bookkeeping allocations by the parent corporation to the subsidiary for a portion of the expense. See P.D. 90-17 (1/11/90). As such, the Taxpayer will need to show that, either the amounts reported to VEC were incorrect or that the compensation is otherwise included in the consolidated payroll factor.
Computational Errors
The Taxpayer has provided information concerning computational errors in the sales factor made by the auditor for the 1998 taxable year. The documentation provided has been reviewed and the necessary adjustments have been made.
Estimated Payment
The Taxpayer has provided documentation proving that a portion of an overpayment of tax for the 1997 taxable year was erroneously credited to the 1998 taxable year. The Taxpayer requests that overpayment be credited to the 1997 taxable year. The Department has made the necessary adjustment.
CONCLUSION
A revised audit report is enclosed, reflecting the adjustments required as a result of this determination. A refund with appropriate interest will be issued shortly.
The Code of Virginia sections, regulations, and public documents cited are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions regarding this determination, you may contact ***** in the Department's Office of Policy and Administration, Appeals and Rulings, at *****.
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- Sincerely,
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- Janie E. Bowen
Tax Commissioner
- Janie E. Bowen
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AR/54970B
Rulings of the Tax Commissioner