Were sellers' product sales assigned to California when delivery terminated at an out-of-state wholesaler warehouse that later resold some goods to California customers?

Plain-English summary

California Chief Counsel Ruling 2020-02 held that affiliated sellers' shipments to a wholesaler's out-of-state consolidation warehouse were not California sales for the sellers' sales-factor numerator.

Delivery terminated at the purchaser's own warehouse. The purchaser performed more than temporary storage for onward transport: it added packaging and state-tax labels and held goods while awaiting customer orders.

Later resale of some goods to California affiliates or unrelated customers did not change the original sellers' assignment. Direct sales by the sellers to a California purchaser were expressly outside the ruling.

Distribution model addressed

The affiliated sellers filed a California combined report and sold tangible personal property.

They sold nearly all covered products to an out-of-state wholesaler and distributor and transported the goods by common carrier to its new out-of-state consolidation warehouse.

Upon shipment, the sellers relinquished title and risk of loss to the purchaser.

The sellers:

• did not know the destination of the purchaser's later resales;
• did not add accessories or modify products at the warehouse; and
• ceased involvement in the sales process after shipment to the purchaser.

Purchaser activity at the warehouse

After receiving the products, the purchaser used the consolidation warehouse to:

• provide additional packaging;
• add labels showing proof of state taxation; and
• store goods while awaiting orders from its customers.

The purchaser later resold some products to a California affiliate and unrelated California customers.

California sales-factor rule

The ruling applied California's single-sales-factor formula.

Under section 25135(a)(1), sales of tangible personal property were assigned to California when the property was delivered or shipped to a purchaser within California, regardless of f.o.b. point or other sale conditions.

The cited authorities interpreted that rule through destination and receipt rather than formal title terms alone.

Destination compared with temporary transit

McDonnell Douglas treated California pickup followed by immediate out-of-state transportation as delivery outside California under the destination rule.

Mazda Motors found California delivery where goods entered California, were stored, and had accessories added before later out-of-state shipment. Those substantive activities ended the initial shipment.

FTB Legal Ruling 95-3 similarly treated shipment as ending when a purchaser took possession at its own place of business for a purpose beyond transportation to another state.

Why the seller's sales ended outside California

The purchaser's packaging, labeling, and order-dependent storage resembled substantive warehouse activity rather than brief transit storage.

The sellers relinquished control, did not know the later resale destinations, and did not participate in product modifications.

FTB therefore treated the shipments as terminating at the out-of-state warehouse. The purchaser's later transportation to California did not reassign the sellers' sales.

The purchaser group's own California resales remained assignable to California as appropriate.

Scope limits

The ruling applied to taxable years beginning January 1, 2020 and onward on the submitted facts.

It did not cover products the affiliated sellers shipped directly to the California purchaser affiliate. Those direct California sales continued outside the requested ruling.

What this means for you

Manufacturers and multistate sellers

Where a purchaser's own out-of-state warehouse performs substantive activities and the seller's involvement ends there, later purchaser resale into California may not control the seller's sales-factor assignment.

Wholesalers and distributors

Independent packaging, labeling, storage, order fulfillment, and resale decisions can establish that the first shipment terminated at the consolidation warehouse.

Corporate tax departments

Document title and risk transfer, physical receipt, warehouse ownership, packaging and labeling, storage purpose and duration, seller knowledge, modification responsibility, direct California shipments, and each separate resale.

Common questions

Q: Were the sellers' warehouse shipments assigned to California?

A: No.

Q: Why did the out-of-state warehouse count as the destination?

A: The purchaser received the goods there and performed substantive packaging, labeling, and storage while awaiting orders.

Q: Did later California resale change the original sale?

A: No. It was a separate purchaser-side transaction.

Q: Did the ruling cover direct shipments to California?

A: No.

Q: Did passage of title alone decide the issue?

A: No. The ruling also examined physical delivery, receipt, warehouse activity, seller involvement, and the shipment's actual termination.

Citations and references

• Cal. Rev. & Tax. Code §§ 23151, 25105(a), 25128.7, 25134, 25135(a)(1), and 21012(a)(1)
• McDonnell Douglas Corp. v. Franchise Tax Board, 26 Cal. App. 4th 1789 (1994)
• Appeal of Mazda Motors of America, Inc., 94-SBE-009 (November 29, 1994)
• FTB Legal Ruling 95-3 (July 20, 1995)

Source

• Landing page: California FTB Chief Counsel Rulings
• Official PDF: Chief Counsel Ruling 2020-02

Original ruling text

STATE OF CALIFORNIA
FRANCHISE TAX BOARD
chair Betty T. Yee| member Antonio Vazquez| member Keely Bosler

Legal Division MS A260
PO Box 1720
Rancho Cordova, CA 95741-1720
tel: 916.845.2578 fax: 916.843.0453
ftb.ca.gov

12.23.2020
Chief Counsel Ruling 2020 - 02

RE: Chief Counsel Ruling Request for * * * *; **
* ; * ** * * *, ; and *

Dear *** * ,

This letter is in response to your Chief Counsel Ruling ("CCR") request dated * ,
**. In the request, you ask for the Franchise Tax Board's ("FTB") guidance as to the assignment of sales of tangible personal property for California franchise and income tax purposes.

FACTS

* * * * (""), headquartered in *, is in the business of selling tangible personal property (interchangeable with "products"). As relevant to this ruling, * affiliates include * * , *
** * * *, , and * * * (collectively, the " * *"), all of which are also in the business of selling tangible personal property. ** and its affiliates file a combined report in California pursuant to Revenue and Taxation Code section 25105, subdivision (a).

The * * sells its products to various purchasers, including
*, ("*") outside of California and * *, ("*
*") in California. *, headquartered in , is in the business of wholesaling and distributing tangible personal property throughout the nation from various distribution centers in several states, including California. * or its wholly-owned affiliates (collectively, the " * ") operate the centers. One such affiliate is *, which operates from distribution centers in *,
*, and *.

The * * will transport nearly all the products it sells to the
* via common carrier to the new *** consolidation warehouse in

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*. 1 Upon shipment of its products to *, the * * relinquishes title and risk of loss of the products to *. Also, the *
* will not know the destination of ** resales of their products, nor will the
** be involved in adding accessories or modifying the products at
* consolidation warehouse. Upon * receiving the *
* products at its warehouse, ** will conduct the following activities, among others: provide additional packaging, add additional labeling to provide proof of state taxation, and/or store the goods while * awaits orders from its customers. As relevant herein, will resell a portion of the products purchased from the
* * to * **** and unrelated third parties in California.

ISSUE

For taxable years beginning on January 1, 2020, and onward, whether sales of tangible personal property from the * * to at the consolidation warehouse in are assigned to California for the **
*** pursuant to Revenue and Taxation Code section 25135.

HOLDING

For taxable years beginning on January 1, 2020, and onward, sales of tangible personal property from the * * to , which are delivered at the consolidation warehouse in to be prepared for resale to * * in California among other customers, are not assigned to California for the *
*.

DISCUSSION

Corporations doing business in California are subject to a corporation franchise or income tax based on net income. 2 Income is apportioned using a single sales factor formula. 3 The sales factor is a fraction, the numerator of which is the total sales in California during the taxable year, and the denominator of which is the total sales everywhere during the taxable year. 4

1 For clarification, the * * intends to transport almost 100 percent of the products sold to the * to the consolidation warehouse in under the new distribution model. However, the **
has supplied products directly to * in California in the past, and will continue to sell some products directly to * in California. As such, the
* * is requesting a ruling only in connection to the products it ships to the * consolidation warehouse in **. 2 Revenue and Taxation Code section 23151.

3 Revenue and Taxation Code section 25128.7.

4 Revenue and Taxation Code section 25134.

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Sales of tangible personal property are assigned to California if the property is "delivered or shipped to a purchaser, other than the United States government, within this state regardless of the f.o.b. point or other conditions of the sale." 5

The following legal authorities help clarify the meaning of "delivered or shipped to a purchaser…within this state" for sales factor assignment purposes. In McDonnell Douglas Corporation v. Franchise Tax Board (1994) 26 Cal.App.4th 1789 ("McDonnell Douglas"), the Court of Appeal affirmed the trial court's decision to apply the "destination rule" rather than the "place of delivery" rule, which articulated that delivery to a purchaser in California was not considered a sale within the state if the products were ultimately destined for use in another state. 6 The Court determined that delivery did not occur within California if a purchaser merely picked up the products in California for shipment to an out-of-state destination. In Appeal of Mazda Motors of America, Inc., 94-SBE-009, November 29, 1994 ("Mazda Motors"), decided after McDonnell Douglas, the Board of Equalization ("Board") held that storing and adding accessories to vehicles initially shipped to California and then subsequently shipped to another state, caused shipment to terminate and delivery to occur within this state. 7 In doing so, the Board distinguished the sales in Mazda Motors from the sales in McDonnell Douglas where the out-of-state purchaser merely picked up the products in this state and immediately transported the goods outside of the state. The Board indicated that the activities in Mazda Motors, which included, among other activities, adding accessories and storing the products in this state via an agent, were more substantive than temporary storage in the state for purposes of further shipment outside of the state.

In response to the McDonnell Douglas and Mazda Motor cases, the FTB issued Legal Ruling 95-3, which provides in relevant part that if a purchaser takes possession in a state for a purpose other than transportation to another state, the purchaser is considered "within the state" for purposes of Revenue and Taxation Code section 25135.8 Also, for a sale to be a California sale under Revenue and Taxation Code section 25135, subdivision (a), both the fact of delivery or shipment within this state and receipt by a purchaser within this state are required. 9 Additionally, the ruling explains that one way property may be delivered or shipped to a purchaser within this state is through the purchaser receiving property at its own place of business within the state. 10

5 Revenue and Taxation Code section 25135(a)(1).

6 In McDonnell Douglas, the taxpayer manufactured commercial and military aircraft and aircraft parts in California and transferred physical possession of the aircrafts to the purchaser's employees in this state. The purchaser's employees then arranged for transportation of the aircraft outside of California. 7 In Mazda Motors, some of the products entered the United States through two ports in California and were placed in storage facilities maintained by the taxpayer at the ports in California. 8 FTB Legal Ruling No. 95-3 (July 20, 1995), pp. 6-7.

9 FTB Legal Ruling No. 95-3 (July 20, 1995), p. 3.

10 FTB Legal Ruling No. 95-3 (July 20, 1995), p. 3.

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Situation 3 in Legal Ruling 95-3 provides the closest analogy to the facts presented in this ruling:

The purchaser takes title and physically receives the machinery in California, and uses its own truck to transport the machinery to another state. [Then] the purchaser transports the machinery to its own place of business in State A, and a few days later transports the machinery to another of its places of business in State B using its own transportation vehicle. 11

For sales factor assignment purposes, the outcome for Situation 3 is:

Because the purchaser took possession of the machinery at its place of business in State A, the machinery is considered shipped to a purchaser in State A. The shipment and sale is considered terminated in that state, and the subsequent transportation of the machinery to State B has no effect on the application of the sales factor.12

In this case, the * * will cease to be involved in the sales process once they ship their products to . The * * will not know the destination of their products resold by *, nor will the * * be involved in any modification of the products conducted at ** consolidation warehouse. Once * receives the products from the * *,
* will utilize the consolidated warehouse beyond that of temporary storage for purposes of immediate transport outside of by: providing additional packaging, adding additional labeling to provide proof of state taxation, and/or storing the goods while * awaits orders from its customers. Thereafter, will ship or deliver the products to its customers. Thus, * activities at its consolidated warehouse are similar to Situation 3 in Legal Ruling 95-3 and Mazda Motors. As a result, these sales terminate in
and do not constitute mere temporary storage for purposes of shipment outside of the state. Any subsequent transportation by of the products purchased from the
* * to its affiliates and unrelated third parties in California does not alter the state to which the sales should be assigned. For the ** , the sales are not assigned to California for sales factor assignment purposes. For the
* , the resales of those same products to **** and unrelated third parties in California, will be assigned to California as appropriate.

CONCLUSION

Sales of tangible personal property by the * * to , which are delivered to * consolidation warehouse in terminate in , and thereby, are not includable in the California sales factor numerator of the **

11 FTB Legal Ruling No. 95-3, p. 6.

12 FTB Legal Ruling No. 95-3, p. 6.

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*. This ruling does not apply to any direct sales by the ** to
**** in California.

Please be advised that the tax consequences expressed in this CCR are applicable only to the named taxpayers and are based upon and limited to the facts you have submitted. In the event of a change in relevant legislation, or judicial or administrative case law, a change in federal interpretation of federal law in cases where our opinion is based upon such an interpretation, or a change in the material facts or circumstances relating to your request upon which this opinion is based, this opinion may no longer be applicable. It is your responsibility to be aware of these changes, should they occur.

This letter is a legal ruling by the FTB's Chief Counsel within the meaning of paragraph (1) of subdivision (a) of section 21012 of the Revenue and Taxation Code. Please attach a copy of this letter and your request to the appropriate return(s) (if any) when filed or in response to any notices or inquiries which might be issued.

Very truly yours,

Laura Taing
Tax Counsel