Oregon Rules That Dividends and Gains From the Sale of Subsidiaries Are Not Taxable

Although income from an intangible asset may meet the state’s definition of apportionable “business income,” the asset from which such income is derived must still satisfy the Constitutional requirement for apportionment by serving an operational function within the business.

By: Jess Johannesen, CPA, State and Local Tax Senior Manager at Aprio

The Oregon Tax Court (OTC) recently issued an opinion holding that Comcast Corp. (i.e., “the Taxpayer”), commercially domiciled outside Oregon, appropriately treated certain dividends and gains from the sale of stock as nonapportionable income that was not taxable by Oregon.[1]

The Oregon Department of Revenue argued, in part, that the dividends and gains at issue should be treated as apportionable income because they met the statutory definition of “business income.”[2]  However, the OTC noted that even if the dividends and gains satisfied the statutory definition of business income, the Taxpayer’s argument would prevail if it could show that the income did not generate apportionable income under the Constitutional test.

Under United States Supreme Court decisions, income is apportionable under the Constitution if either a unitary relationship exists between the entities or the asset serves an operational function as opposed to an investment function.[3] In the OTC case, all parties agreed that none of the companies at issue were engaged in a unitary business with the Taxpayer, so the OTC focused on whether the Taxpayer’s stock holdings served an operational function in its business.

The Taxpayer provides cable television, internet access and telephone services to consumers across Oregon and the rest of the United States. As a result of several mergers and acquisitions, the Taxpayer indirectly acquired minority ownership interests in Vodafone and Time Warner.

This case involves the treatment of dividends the Taxpayer received while holding shares of Vodafone and Time Warner, as well as the gain it received when it sold its stock in the two companies. And importantly, it’s a case that also can help your business better understand how and why dividends and gains from the sale of subsidiaries are not taxable, under the OTC’s ruling.

Breaking down the facts

During the time the Taxpayer held its interest in Vodafone and Time Warner, the undisputed facts in the case were as follows:

1. The Taxpayer, Vodafone and Time Warner maintained separate headquarters in separate locations;
2. None of the employees of any of these companies were involved in management or day-to day operations of the other companies;
3. The Taxpayer had no right to appoint any members of Vodafone’s or Time Warner’s boards of directors, and no members of Vodafone’s or Time Warner’s boards of directors were employees or directors of the Taxpayer;
4. The Taxpayer shared no common facilities or services with Vodafone or Time Warner; and
5. The Taxpayer never pledged its interest/stock in Vodafone or Time Warner as security for repayment of debt, or used such interest/stock as a financing vehicle to secure funds for its general business operations.

In analyzing these facts, the OTC noted the basic rule from prior U.S. Supreme Court decisions that an asset must serve an operational function (as opposed to a mere investment function) in the Taxpayer’s business to treat income derived from the asset as apportionable under the Constitution. The fact that a business may regularly buy and sell stock investments for speculative purposes does not necessarily mean that the stock serves an operational function, nor does the fact that any proceeds derived from that stock are used in the operation of the business.

The OTC provided examples from prior cases illustrating when intangible assets serve an operational function:

• A bank account representing short-term investments of the taxpayer’s working capital;
• Futures contracts that serve as a hedge against price fluctuations for raw materials or other business inputs;
• Stock (or an option to buy stock) if the purpose of buying the stock is to acquire the underlying assets of the target corporation, especially when accompanied by loans to the target; and
• A previously passive, minority interest in an unrelated company engaged in a different line of business that the taxpayer has pledged as security for a loan, using the loan proceeds to pay expenses to operate its regular business.

The OTC applied these concepts to the Taxpayer’s stock interests in Vodafone and Time Warner. Here, the Taxpayer merely held the stock in these nonunitary businesses, and the stock did not serve any operational functions comparable to the examples above. Accordingly, the OTC concluded that the dividends and gains were nonapportionable and therefore were sourced outside of Oregon.

This case serves as an important reminder to be mindful of the broader Constitutional application of apportionable vs. nonapportionable income, even when a state’s statutory rules appear to be satisfied.

Like other aspects of the tax code, these are complex matters that require expert advice. Let Aprio’s SALT team lead the way. Our professionals are experienced in reviewing these types of transactions and determining the appropriate state treatment, so that you are compliant with state tax rules and can minimize your multistate obligations where practicable.

Our SALT team constantly monitors these and other important state tax topics to help you make the best decisions for your business. Have questions about how these guidelines apply to you? Reach out to our team today and keep an eye out for further, significant developments in future issues of Aprio’s SALT Newsletter.

Contact Jess Johannesen, SALT Manager at Jess.Johannesen@aprio.com or Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at jeff.glickman@aprio.com for more information.

This article was featured in the January 2021 SALT Newsletter.

[1] Comcast Corporation and Subsidiaries v. Department of Revenue, OR TC 5265, 11/25/2020.

[2] OR Rev. Stat. §314.610(1)

[3] Allied-Signal, Inc. v. Director, Div. of Tax’n, 504 U.S. 768 (1992).