New York Law Review

Tag: Corporate Franchise Tax

  • American Tel. & Tel. Co. v. State Tax Com’n, 61 A.D.2d 1 (1978): Determining “Employed” Assets and “Source” of Earnings for Corporate Franchise Tax

    American Tel. & Tel. Co. v. State Tax Com’n, 61 A.D.2d 1 (1978)

    For purposes of New York franchise tax, assets are “employed” in New York when the corporation carries on sufficient activity in New York with respect to those assets, but the “source” of earnings is determined by the location of the obligor, not the location of the recipient’s activities.

    Summary

    American Telephone and Telegraph (AT&T), a New York corporation, challenged a State Tax Commission determination that certain assets were employed within New York and certain income was derived from sources within New York, making them subject to franchise taxes. AT&T conducted financial studies and managed investments in New York for its subsidiaries operating nationwide. The court held that advances to subsidiaries and temporary cash investments were taxable assets because AT&T actively managed them in New York. However, interest and dividends receivable from subsidiaries, but not yet paid, were not taxable, nor was interest income from out-of-state obligors, as the source of that income was outside New York. The Appellate Division’s judgment was modified accordingly.

    Facts

    AT&T, a New York-incorporated transmission company, operates a communications network through subsidiary corporations across the United States. AT&T’s principal offices are in New York City, where it conducts financial studies to meet the capital requirements of its subsidiaries. AT&T raises funds by offering its own securities and temporarily invests excess funds in short-term securities. It also advances money to its subsidiaries, evidenced by interest-bearing demand notes held in New York. AT&T’s treasury department in New York manages these funds, prepares investment plans, and maintains contact with subsidiaries regarding their financial needs.

    Procedural History

    The State Tax Commission determined that advances to subsidiaries, temporary cash investments, and interest/dividends receivable were assets employed in New York, and that interest income from out-of-state subsidiaries and obligors constituted earnings from New York sources. AT&T filed an Article 78 proceeding to review this determination. The Appellate Division modified the determination, annulling the gross earnings tax applied to income from out-of-state obligors but confirming the capital stock tax. AT&T appealed the capital stock tax ruling based on a dissenting opinion, and the State appealed the annulment of the gross earnings tax determination.

    Issue(s)

    1. Whether advances to subsidiaries and temporary cash investments constitute assets “employed” in business within New York under Section 183 of the Tax Law.

    2. Whether interest and dividends receivable from, but not yet paid by, subsidiaries constitute assets “employed” in business within New York under Section 183 of the Tax Law.

    3. Whether interest income from advances to out-of-state subsidiaries and from obligations of out-of-state obligors held in the temporary cash investment account constitutes earnings from a “source” within New York under Section 184 of the Tax Law.

    Holding

    1. Yes, because AT&T carries on sufficient activity in New York with respect to the advances and investments that it can be said to employ the funds advanced in New York.

    2. No, because there is nothing in the stipulated facts to support a determination that the asset (interest and dividends receivable) was in fact used in New York.

    3. No, because moneys paid to AT&T by out-of-state obligors, subsidiary or unaffiliated, has its source in the activities of AT&T within New York.

    Court’s Reasoning

    The court reasoned that the commission’s interpretation of what constitutes assets “employed” in New York had a rational basis. The distinction between advances and investments in stock follows the Tax Law’s exclusion of stock. The court focused not on the subsidiary’s use of funds, but on whether AT&T carried on sufficient activity in New York concerning the advances. The court emphasized AT&T’s full-time staff managing investments, the dollar volume and number of transactions involved, and AT&T’s concession that financing subsidiaries was its principal activity. Regarding interest and dividends receivable, the court found no evidence that these assets were actually used or employed in New York. While these receivables might improve AT&T’s balance sheet, there was no proof they were used as collateral or impacted loan terms. Concerning the “source” of earnings, the court stated that the commonly accepted meaning of “source” refers to the location of the obligor, not where AT&T’s financial activities occur. The court distinguished the language used in section 184 from section 183. The court stated, “Only in the most metaphysical sense can it be said that moneys paid to AT&T by out-of-State obligors, subsidiary or unaffiliated, has its source in the activities of AT&T within New York.”

  • Wurlitzer Co. v. State Tax Commission, 35 N.Y.2d 100 (1974): When a Combined Tax Report Can Be Required for Parent and Subsidiary Corporations

    35 N.Y.2d 100 (1974)

    A state tax commission may require a combined tax report from a parent corporation and its subsidiary when intercompany transactions would otherwise inaccurately reflect the parent’s tax liability, even if the subsidiary is not independently doing business in the state.

    Summary

    The Wurlitzer Company, a foreign corporation doing business in New York, formed Wurlitzer Acceptance Corporation (WAC) to handle its accounts receivable. The State Tax Commission sought to combine Wurlitzer’s and WAC’s tax reports, arguing that WAC’s income was wholly derived from transactions with Wurlitzer. The Court of Appeals affirmed the Commission’s decision, holding that the tax law empowers the Commission to require a combined report when intercompany transactions distort the parent company’s tax liability, irrespective of whether the subsidiary itself does business in New York. The dissent argued that such a combination should only be allowed if the intercompany transactions are unfair.

    Facts

    Wurlitzer, a foreign corporation, operated in New York. It created WAC, a separate foreign corporation, to manage its accounts receivable. Wurlitzer transferred capital to WAC in the form of accounts receivable. Wurlitzer handled all account collections for a fee. WAC had no employees of its own; Wurlitzer employees performed all activities.

    Procedural History

    The State Tax Commission issued deficiency notices to Wurlitzer and WAC. Wurlitzer sought a revision or refund of the franchise tax. The Commission upheld the deficiency assessments, deciding a combined report was necessary. The Appellate Division confirmed the Commission’s determination. The case then went to the Court of Appeals.

    Issue(s)

    Whether the State Tax Commission can require a combined tax report from a parent corporation (Wurlitzer) and its subsidiary (WAC), when the subsidiary’s income derives solely from intercompany transactions, to accurately reflect the parent’s tax liability, even if the subsidiary is not independently doing business in New York.

    Holding

    Yes, because the tax law grants the Tax Commission discretion to require a combined report when intercompany transactions necessitate it to accurately reflect the parent’s tax liability, and it is not a condition precedent that the income or capital of the taxpayer be improperly or inaccurately reflected.

    Court’s Reasoning

    The Court relied on Tax Law § 211(4), which empowers the Tax Commission to require combined reports due to intercompany transactions. The court emphasized that the statute doesn’t require a showing that the taxpayer’s income or capital is already improperly or inaccurately reflected. The court observed that there was unity of management and use between WAC and Wurlitzer, and WAC’s income stemmed solely from Wurlitzer’s activities. Requiring a combined report accurately reflected the income subject to taxation. The court cited Underwood Typewriter Co. v. Chamberlain, 254 U. S. 113 stating that a tax measured on the entire net income reasonably attributable to New York State is not inherently arbitrary. The court stated, “In one sense Wurlitzer is merely the agent for collection for WAC and it is Wurlitzer’s business which produces the income.”

    The dissenting judge argued that a combined report should only be required if intercompany transactions unfairly distort the parent’s income. The dissent stated that the Commission made no finding that the intercompany transactions were unfair or conducted on unreasonable terms. The dissent argued that the purpose of the law was to prevent unfair distortion of income, not merely to address intercompany relationships. The dissent cited People ex rel. Studebaker Corp. v. Gilchrist, 244 N.Y. 114 stating that the statute postulates the existence of separate corporations, each of them conducting a business of its own.

  • Mutual Life Ins. Co. of New York v. State Tax Comm., 32 N.Y.2d 348 (1973): Taxability of Employee Insurance Benefits

    Mutual Life Ins. Co. of New York v. State Tax Comm., 32 N.Y.2d 348 (1973)

    A life insurance company’s provision of life and health insurance benefits to its employees on a nonprofit basis, as an incident of the employer-employee relationship, does not constitute the transaction of insurance business subject to a state premium tax.

    Summary

    Mutual Life Insurance Company of New York challenged a determination by the State Tax Commission that the cost of providing life and health insurance benefits to its employees was subject to a state premium tax. The company argued that these benefits, provided on a nonprofit basis, were not “premiums received” within the meaning of the state’s tax law. The New York Court of Appeals reversed the Appellate Division’s decision, holding that providing such benefits as an employer is distinct from transacting insurance business, and thus not subject to the premium tax. The court emphasized that the program was an incident of the employer-employee relationship, not a commercial insurance activity.

    Facts

    Mutual Life Insurance Company of New York provided death, illness, and disability benefits to its employees and field agents. The company allocated the cost of these benefits on a nonprofit basis, without any provision for general surplus. The majority of the expense was borne by the company as an employer, with the remainder contributed by employees through deductions from wages and commissions, also calculated on a nonprofit basis. Prior to 1963, the State Tax Commission did not consider these costs to be taxable premiums.

    Procedural History

    The State Tax Commission determined that the cost of employee insurance coverage constituted taxable premiums and levied additional assessments on Mutual Life in 1963. The Appellate Division confirmed the Tax Commission’s determination, reasoning that because the company stipulated that its plans constituted “insurance contracts,” the costs should be deemed “premiums.” Mutual Life appealed to the New York Court of Appeals.

    Issue(s)

    Whether the costs incurred by a life insurance company in providing life and health insurance benefits to its employees, on a nonprofit basis, as an incident of the employer-employee relationship, constitute “premiums received” for the privilege of exercising corporate franchises or carrying on business within the state, and thus are subject to state premium tax under Section 187 of the Tax Law.

    Holding

    No, because the provision of insurance benefits to employees on a nonprofit basis is an incident of the employer-employee relationship and not the transaction of insurance business for the purpose of exercising its corporate franchise, and therefore is not subject to the premium tax under Section 187 of the Tax Law.

    Court’s Reasoning

    The court reasoned that the state tax law imposes a corporate franchise fee upon insurance companies for the privilege of doing business within the state, measured by premiums “reasonably attributable to business of this State.” The court emphasized that the employee-benefit program was not the result of solicitation of business or of the petitioner’s holding itself out or doing business as a commercial insurer. The expense of the program is calculated without provision for profit, confirming that it is not part of its ordinary course of business as a franchise insurer.

    The court distinguished this arrangement from a commercial transaction, likening it to any other employer-employee relationship where insurance benefits are provided. The court stated that what constitutes a nontaxable employer-employee relationship for noninsurers is not transformed into a taxable insurance business simply because the employer happens to be licensed to conduct such a business.

    The court also noted that other jurisdictions have similarly held that an insurer’s maintenance of a benefit program for its employees, on a nonprofit basis and solely as an incident of its role as employer, does not constitute the doing of an insurance business so as to subject it to a tax. The court rejected the argument that the cost of the program is equivalent to a premium, stating: “The premium on any commercially sold insurance would necessarily include an amount attributable to profit or to a contribution to surplus, the element lacking in the petitioner’s employee benefit program.”

    Finally, the court gave significant weight to the long-standing interpretation by the Insurance Department and the Department of Taxation and Finance that the cost of insurers’ employee benefit programs was not a taxable premium. Citing Matter of Inter-County Tit. Guar. & Mtge. Co. v. State Tax Comm., 28 Y 2d 179, 182, the court noted that such a long-standing interpretation by the agencies charged with regulation of insurance companies is entitled to great weight.

  • People ex rel. Union Trust Co. v. Coleman, 126 N.Y. 433 (1891): Taxation of Corporate Franchise Based on Dividends

    People ex rel. Union Trust Co. v. Coleman, 126 N.Y. 433 (1891)

    Dividends declared from surplus funds accumulated prior to the enactment of franchise tax laws are not considered ‘dividends made or declared’ for the purpose of computing franchise taxes under those laws.

    Summary

    The New York Court of Appeals addressed whether a dividend paid from a corporation’s surplus, accumulated before the enactment of franchise tax laws, should be included when calculating the corporation’s franchise tax. The Court held that such dividends should not be included. The tax is on the corporate franchise, measured by dividends declared during the tax year. Dividends from previously accumulated surplus do not reflect the current year’s value of the franchise. Including them would be contrary to the spirit and intent of the tax law, which aims to measure the value of the privilege of doing business during the year in question.

    Facts

    The Union Trust Company had a capital of $2,000,000. On January 1, 1881, the company had a surplus of $201,942.64, accumulated from past earnings. In January 1881, the company declared a dividend of $12,500 (6.25% of its capital stock) from current earnings. In February 1881, the company also resolved to distribute $100,000 from its surplus fund to its stockholders, in anticipation of a charter extension. This $100,000 was earned before January 1, 1880.

    Procedural History

    The case originated from a dispute over the amount of franchise tax owed by the Union Trust Company. The lower court calculated the tax based on a dividend rate of 56.25% (including both the $12,500 and the $100,000 dividends). The Union Trust Company appealed. The Court of Appeals reversed the lower court’s decision, holding that the $100,000 dividend should not have been included in calculating the franchise tax.

    Issue(s)

    Whether a dividend paid out of a surplus fund, accumulated from earnings prior to the enactment of the franchise tax law, constitutes a ‘dividend made or declared’ during the relevant tax year for the purpose of calculating the franchise tax.

    Holding

    No, because the franchise tax is intended to measure the value of the corporate franchise during the year in question, and a distribution of previously accumulated earnings does not accurately reflect that value. The Court amended the judgement, excluding the $2,500 in tax associated with the $100,000 dividend from surplus.

    Court’s Reasoning

    The Court reasoned that the franchise tax is not a tax on dividends themselves or on the corporation’s property, but rather a tax on the privilege of operating as a corporation. The amount of dividends declared during the year is simply a measure of the annual value of that franchise. The court emphasized, “As dividends can be legally made only out of earnings or profits, and cannot be made out of capital, they are assumed to approximate as nearly as practicable the just measure of the tax which should be imposed upon the corporation for the enjoyment of its franchise.” The court distinguished between current earnings and previously accumulated surplus. The Court stated that including a distribution of surplus earned in prior years would be contrary to the spirit and intent of the law: “A division of property thus previously acquired could not have been within the contemplation of the framers of the act, in fixing upon the annual dividends as a measure of the value of the franchise of the corporation, and even if a dividend within the letter of the act, to construe it as a dividend for the purposes of the act would be so contrary to its spirit and intent, that such a construction is inadmissible.” The Court cited Bailey v. Railroad Co., 106 U.S. 109, where the Supreme Court held that a tax on dividends should only apply to earnings accrued after the passage of the tax law. The Court concluded that the tax should be calculated based only on the dividend of 6.25% paid from current earnings.