California: Certain Asset Sales Must Be Excluded from the Sales Factor
If non-routine dispositions are determined to be business income that is subject to apportionment, then should the sale (or gain) be included or excluded from the sales factor numerator and/or denominator.
By Jess Johannesen, SALT senior associate
When it comes to state income tax apportionment, many states have enacted special rules regarding the treatment of certain non-routine transactions. Whether discussing the disposition of a partnership interest, the disposition of an asset used in the production of income (such as a piece of machinery) or the disposition of an entire brand or line of business, each state separately determines if and how these non-routine dispositions should be included in the apportionment calculations. If such sales are determined to be business income that is subject to apportionment, the question becomes whether the sale (or gain) is included or excluded from the sales factor numerator and/or denominator. Recently, the California Franchise Tax Board (“FTB”) issued a Chief Counsel Ruling that addresses the sales factor treatment in connection with the sale of an entire line of business. 
The taxpayer had two lines of business prior to the sale of one of those lines of business. The first business segment manufactured, marketed and sold branded and private label products, while the second business segment manufactured, marketed and sold a separate product. California regulations provide that when a sale of a fixed asset or other property used in the regular course of business is both “substantial” and “occasional,” then such gross receipts are excluded from the sales factor.  California regulations clarify that a sale is “substantial” if excluding the sale causes a 5 percent or greater decrease in the sales factor denominator. The taxpayer noted that the exclusion of such gross receipts resulted in a decrease of the sales factor denominator of approximately 33 percent.
Under the regulations, a transaction is “occasional” if it is outside the taxpayer’s normal course of business and occurs infrequently.  This second test takes into account the taxpayer’s facts and circumstances to determine the nature of the transaction itself. In the Chief Counsel Ruling, the FTB held that the sale was occasional for two main reasons. First, there was no indication that the disposition of an entire line of business was “a regular and systematic occurrence in the corporate life of the Taxpayer,” although the taxpayer from time to time acquired and disposed of brands and their related assets themselves. Second, this was the only time that the taxpayer had disposed of an entire line of business, which included all the brands within that line. Therefore, the gross receipts from the disposition of the line of business were excluded from both the numerator and denominator of the California sales factor.
The revenue/gain received from the disposition of significant assets of a business can have a material effect on a taxpayer’s sales factor. These rules don’t just apply to sales of an entire business, but can also apply to sales of specific assets within a business, such as a manufacturing plant. Given the potential for different treatment among the states, companies should carefully consider the state income tax impact of these transactions. HA&W’s SALT team can assist in evaluating the multistate income tax impact of these transactions. In addition, we continue to monitor and report these and other state tax developments in future issues of the HA&W SALT Newsletter.
Contact Jess Johannesen, SALT senior associate, at firstname.lastname@example.org or Jeff Glickman, partner-in-charge of HA&W’s SALT practice, at email@example.com for more information.
 California Franchise Tax Board Chief Counsel Ruling No. 2015-01, 09/11/2015.
 Cal. Code Regs. §25137(c)(1)(A).
 Cal. Code Regs. §25137(c)(1)(A)(2).
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