Oregon Court Rules That Banks with No Physical Presence Have Corporate Income Tax Nexus

September 26, 2018

The Oregon Supreme Court ruled that two banks without physical presence still have income tax nexus in Oregon, impacting the computation of the group’s unitary tax liability.

By Jess Johannesen, SALT Manager

In states that permit or require unitary (combined) income tax filings, the unitary group will compute one combined apportionment percentage based on the factors utilized by the state (i.e., property, payroll and/or receipts).  While the denominator of those factors will include amounts from all members of the group, the states are split in how they compute the numerator of those factors.  Some states require that the numerator of the factor include only those members of the group that have nexus with the state on a stand-alone basis, while other states include all members.[1]

Therefore, while nexus is typically not a relevant factor for determining which entities must be included in a unitary return, it is relevant in states that apply Joyce principles to the unitary return apportionment factor computation, since it will determine which entity’s in-state receipts must be included in the numerator of the receipts factor.  It is against this background that the Oregon Supreme Court issued a decision addressing the corporate income tax nexus of two banks without physical presence.[2]

Capital One Auto Finance, Inc. (“taxpayer”) provided automobile and motor vehicle financing and had nexus in Oregon.  It filed a unitary return[3] with two of its affiliate banks (“banks”).  The banks were based in Virginia and did not have any property, offices or employees in Oregon (nor did the banks register with the Oregon Secretary of State for authority to do business in the state).  Since Oregon is a “Joyce” state, the taxpayer did not include the banks’ Oregon receipts in the numerator of the Oregon receipts factor.  The state issued a notice of deficiency, claiming that the banks had nexus and that their receipts should be included in the numerator of the receipts factor.  Therefore, the issue in this case was whether the banks had nexus in Oregon without physical presence.

The banks were in the business of providing consumer finance products (i.e., credit cards, consumer loans, etc.) to customers, including Oregon residents.  The banks made substantial amounts of money from Oregon customers.  The case details that, over the course of the years at issue, the banks sent 24 million solicitations to Oregon residents, had approximately 500,000 Oregon customers each year, and charged them nearly $150 million in fees each year associated with credit cards and consumer loans.

Oregon imposes a corporate income tax on “income derived from sources within this state.”[4]  The taxpayer argued that the statutory language for income subject to Oregon’s corporate income tax ultimately requires that the banks must be physically present in Oregon.  Specifically, the taxpayer noted that the legislature provides three examples of what constitutes “income from sources within this state”:  income from property located in Oregon, income from property with a situs in Oregon, and income from activities carried on in Oregon.[5]  While the taxpayer concedes that this list is not exhaustive, it argues that the examples provide a “common characteristic” – physical presence – that should inform the meaning of “income derived from sources in the state.”

The Court disagreed, concluding that the common characteristic to all of the examples is that the source of the income is in Oregon.  The Court reasoned that the examples only imply the taxpayer’s existence as the recipient of the income, and the examples say nothing about where the taxpayer must be located.  Accordingly, the court holds that the out-of-state affiliate banks had “income derived from sources within this state” which should be subject to Oregon’s corporate income tax, and that the statutes do not require any physical presence.

This case in just one in a continuing trend of state decisions imposing income tax nexus on companies without physical presence.  Nonetheless, the context of the case also highlights the need for businesses that file in unitary “Joyce” states to review their sales factor calculations and make sure that they are not including entities without nexus in the numerator of the receipts factor.

Aprio’s SALT team has experience with unitary return and Joyce/Finnigan concepts, and we can assist to ensure that the combined apportionment factor is calculated correctly.  If the numerator of the receipts factor in Joyce states includes amounts from entities that don’t have nexus, then there may be an opportunity for a refund.  We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

Contact Jess Johannesen, SALT manager, at [email protected] or Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at [email protected] for more information.

This article was featured in the September 2018 SALT Newsletter.

[1] The former set of states are referred to as “Joyce” states, which follow the principles set forth in Appeal of Joyce, Inc., No. 66 SBE 069 (Cal. State Bd. Of Equalization, Nov. 11, 1966).  The latter set of states are referred to as “Finnigan” states, which follow the principles set forth in Appeal of Finnigan Corp., No. 88 SBE 022 (Cal. State Bd. Of Equalization, Aug. 25, 1988).  This analysis only impacts the sales factor since a company without nexus in a state would not have any property or payroll in that state, but could have sales sourced to that state.

[2] Capital One Auto Finance, Inc. v. Dept. of Revenue, 363 Or 441 (Ore. Sup. Ct., 08/09/2018).

[3] While the case and the Oregon rules refer to the return technically as a “consolidated return,” the rules regarding the composition of the group members and the computation of income is more like a unitary/combined return.  Therefore, this article will refer to the filing as a “unitary” return.

[4] Or. Rev. Stat. § 318.020(1).

[5] Or. Rev. Stat. §318.020(2).

Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding the matter.