Three Factor Multi-State Tax Compact vs. Texas One Factor Apportionment
On July 28, 2015, the Texas Third Court of Appeals in Austin set a precedent regarding the use of the Multistate Tax Compact’s apportionment method over Texas’ default apportionment method. The Appellate court ruled in favor of the state of Texas, requiring all Texas franchise tax return filers to use the statutory single-factor apportionment formula based on gross receipts. The landmark case of Graphic Packaging Corporation v. Hegar, et al., centered around the national debate of the use of the Multistate Tax Compact’s three-factor apportionment formula over Texas’ single-factor apportionment. Out-of-state corporations could have been entitled to $675 million in Texas franchise tax refunds if the business prevailed in its ability to apportion its business income under the Multistate Tax Compact’s three-factor apportionment formula. Graphic argued unsuccessfully that the Multistate Tax Compact was binding and the U.S. Constitution commerce clause precluded Texas from eliminating and effectively repealing the Compact election.
Multistate Tax Compact
The multistate tax compact is an interstate compact that uses an apportionment formula combination of in-state and out-of-state property, payroll, and sales. The tax compact is adopted on a state-by-state basis and is applicable to taxes based on net income. The Texas Third Court of Appeals ruled that the Texas franchise tax’s limited types of deductions from total revenue, does not produce net income, and therefore does not fall under the multistate tax compact’s provisions.
The taxpayer in Graphic Packaging will likely file a motion for a rehearing, and if the decision is unfavorable, move on to petition the Texas Supreme Court to review the Court of Appeals’ decision. The Texas Supreme Court may feel inclined to accept the case since there are many other franchise tax cases currently in court with similar issues.
If you have questions about this ruling or state tax minimization planning your organization, have a Barnes Dennig tax specialist reach out to you here.