What does Illinois Private Letter Ruling IT 18-0005-PLR conclude about Sales Factor -Intangible Property?

Plain-English summary

The Illinois Department of Revenue ruled that a taxpayer organized as a Delaware limited partnership -- which makes its money by originating senior secured loans directly to North American middle-market companies -- counts as a "dealer" for purposes of Illinois's sales-factor sourcing rules, even though it also qualifies for a federal accounting exemption that lets it avoid mark-to-market treatment.

The taxpayer's request centered on a wrinkle in federal tax law. Under 26 U.S.C. § 475(c)(1), a taxpayer who regularly originates loans to customers in the ordinary course of business meets the definition of a "dealer in securities." Ordinarily, dealers must use mark-to-market accounting. But Treas. Reg. § 1.475(c)-1(c)(1) lets a taxpayer that engages in no more than "negligible sales" of the loans it originates opt out of dealer treatment (and out of mark-to-market accounting) unless it elects otherwise. The taxpayer here qualified for that negligible-sales exemption and asked whether it was still a "dealer" for Illinois sales-factor purposes under 35 ILCS 5/304(a)(3)(C-5)(iii)(a).

The Department held that it was. Because the dealer-sourcing rule in Illinois's statute turns on whether the taxpayer meets the Section 475 dealer definition -- not on whether it actually uses mark-to-market accounting -- a taxpayer that would be a dealer under Section 475(c)(1) but for the negligible-sales exemption is still treated as a dealer for Illinois apportionment purposes, regardless of whether it elects out of that exemption. The practical effect: the taxpayer's interest income from originated loans is sourced to Illinois under the "customer is in this State" test (35 ILCS 5/304(a)(3)(C-5)(iii)(a)), rather than under the income-producing-activity test that applies to non-dealers (subparagraph (b)). That means interest income goes into the Illinois sales-factor numerator when the borrower is an Illinois resident or has its commercial domicile in Illinois -- determined, absent actual knowledge, by the customer's billing address.

What this means for you

Lenders, loan originators, and specialty finance companies

If your business regularly originates loans to customers -- even if you qualify for the federal "negligible sales" exemption from mark-to-market accounting -- this ruling signals that the Department will likely still treat you as a "dealer" for Illinois sales-factor purposes. That shifts how your interest income is sourced: instead of looking to where your income-producing activity happens, you source income to the state of your customer's residence or commercial domicile (using the customer's billing address if you lack actual knowledge otherwise).

Accountants and tax professionals

The key technical point is that Illinois's dealer-sourcing rule under 35 ILCS 5/304(a)(3)(C-5)(iii)(a) looks to whether a taxpayer meets the Section 475(c)(1) definition of "dealer in securities," not to whether the taxpayer actually applies mark-to-market accounting under Section 475(a). A taxpayer that qualifies for the Treas. Reg. § 1.475(c)-1(c)(1) negligible-sales exemption -- and does not elect out of it -- is still a dealer for Illinois sourcing purposes "whether or not the taxpayer elects out of the exemption," per this ruling's analysis. This matters when advising clients on apportionment methodology for interest income from originated loans.

Business owners considering a similar PLR request

This ruling resolved one taxpayer's specific fact pattern (a Delaware limited partnership originating senior secured loans to U.S. middle-market companies, managed by an SEC-registered investment adviser). If your facts differ, you cannot rely on this letter as precedent -- see the reliance question below.

Common questions

Q: Does qualifying for the federal mark-to-market exemption mean a lender is NOT a dealer for Illinois tax purposes?
A: No. This ruling concludes the opposite -- a taxpayer that qualifies for the Treas. Reg. § 1.475(c)-1(c)(1) exemption from mark-to-market accounting (because it makes only "negligible sales" of originated loans) is still considered a dealer for purposes of the Illinois sales-factor sourcing rule in 35 ILCS 5/304(a)(3)(C-5)(iii)(a), whether or not it elects out of the exemption.

Q: How is interest income sourced once a taxpayer is treated as a dealer?
A: Under 35 ILCS 5/304(a)(3)(C-5)(iii)(a), interest income is sourced to Illinois if the customer is in Illinois -- meaning an individual, trust, or estate resident of Illinois, or, for other customers, a customer whose commercial domicile is in Illinois. If the dealer doesn't have actual knowledge of the customer's residence or commercial domicile, the customer is deemed to be in Illinois if their billing address (per the dealer's records) is in Illinois.

Q: Can other taxpayers rely on this ruling?
A: No. This is a Private Letter Ruling issued under 2 Ill. Adm. Code 1200.110, and the ruling text itself states it "will bind the Department only with respect to TAXPAYER." It binds the Department only as to the specific taxpayer who requested it, and only to the extent the facts that taxpayer presented were complete and accurate. The ruling also notes it "shall bind the Department for all taxable years" for that taxpayer unless there is a later change in statutory law, case law, rules, or the material facts -- but no other taxpayer, even one in an apparently similar business, may cite or rely on this letter as authority for its own return position.

Q: What Illinois statute governs this sourcing question?
A: 35 ILCS 5/304(a)(3)(A) defines the sales factor generally, and 35 ILCS 5/304(a)(3)(C-5)(iii) provides the specific sourcing rules for interest, net gains, and other income from intangible personal property, distinguishing dealers (subparagraph (a)) from non-dealers (subparagraph (b)), whose income-producing activity is sourced by where the activity is performed.

Citations and references

Statutes and regulations:

• 35 ILCS 5/304(a)(3)(A) -- defines the sales factor as a fraction of in-state sales over total sales
• 35 ILCS 5/304(a)(3)(C-5)(iii) -- sourcing rule for interest, net gains, and other intangible-property income, distinguishing dealers from non-dealers
• 26 U.S.C. § 475(c)(1) -- federal definition of "dealer in securities"
• 26 U.S.C. § 475(a)-(b) -- mark-to-market accounting requirement and exceptions for dealers
• Treas. Reg. § 1.475(c)-1(c)(1) -- exemption from dealer status for taxpayers with no more than negligible sales of originated loans
• 2 Ill. Adm. Code 1200.110 -- private letter ruling procedure, including binding effect limited to the requesting taxpayer

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2018.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2018/it-18-0005-plr.pdf

Original ruling text

IT 18-0005-PLR 11/29/2018 SALES FACTOR -INTANGIBLE PROPERTY
Taxpayer originating loans to customers in ordinary course of business is Dealer

November 29, 2018

Re:

Request for Private Letter Ruling
TAXPAYER
FEIN: ###

Dear Xxxxx:
This is in response to your letter dated June 12, 2018 in which you request a Private Letter Ruling
on behalf of TAXPAYER. Review of your request for a Private Letter Ruling indicates that all
information described in paragraphs 1 through 8 of subsection (b) of 2 Ill. Adm. Code 1200.110 is
contained in your request. This Private Letter Ruling will bind the Department only with respect to
TAXPAYER. Issuance of this ruling is conditioned upon the understanding that TAXPAYER and/or
any related taxpayer(s) is not currently under audit or involved in litigation concerning the issues
that are the subject of this ruling request.
The facts and analysis as you have presented states as follows:
On behalf of our client, TAXPAYER (FEIN: ###), hereinafter referred to as “Taxpayer”), we
respectfully request the issuance of a private letter ruling (“PLR”) by the Illinois Department
of Revenue (“Department”) pursuant to 2 Ill Adm. Code 1200.110.
General Information

1. This PLR is not requested for hypothetical or alternatively proposed transactions; but
   rather to determine the income tax consequences of an actual transaction engaged in by
   Taxpayer, as described below.
2. Taxpayer is not currently engaged in litigation with the Department with regard to this or
   any other tax matter.
3. The Department has not previously ruled regarding this matter for Taxpayer. Neither
   Taxpayer nor TAX PRACITIONER has submitted the same or similar issue to the
   Department on behalf of Taxpayer..
4. We are aware of no authority contrary to the authorities referred to and cited below.
   Statement of Facts

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Taxpayer is a Delaware limited partnership established to provide partners with current
income and long-term capital appreciation. This is achieved primarily by originating senior
secured loans directly to North American middle market companies. The taxpayer serves as
a senior secured lender primarily to U.S. companies with less than $25 million EBITDA which
require financing to fund corporate events such as a buyout, recapitalization, ownership
transfer, sourcing of expansion and capital growth or refinancing.
Taxpayer is managed by COMPANY (hereinafter “COMPANY”). Through COMPANY’s
management, the taxpayer has access to an asset management and origination platform,
which includes a national transaction sourcing network. It is noteworthy that while the
taxpayer is not directly subject to regulation as an investment company, COMPANY is
subject to regulation by the United States Securities and Exchange Commission as a
Registered Investment Advisor.
Taxpayer is actively engaged in the business of originating and investing in senior secured
loans and is treated as such for federal income tax purposes. Accordingly, under the Internal
Revenue Code interest income earned by the taxpayer is treated as ordinary income and
included on its Form 1065. Taxpayer generates interest income in Illinois and other states
from loans secured by assets located across the United States.
By statute, Taxpayer would be considered a dealer in securities for federal income tax
purposes. However, the taxpayer qualifies for an exemption under Treas. Reg. 1.475(c)1(c). This regulation provides a taxpayer with an exception from using the mark-to-market
method of accounting. Taxpayer is trying to determine if it would still be considered a dealer
for Illinois Income Tax purposes, and thus, allowed to apportion its income under Illinois
Income Tax Act 304(a)(3)(C-5)(iii)(a).
Requested Rulings
Though Taxpayer is not a dealer for federal income tax purposes because of the regulatory
exemption under Treas. Reg. 1.475(c)-1(c), Taxpayer is otherwise a dealer as defined by
26 USC 475 and thus is considered a dealer for purposes of Illinois Income Tax Act
304(a)(3)(C-5)(iii)(a)?
Analysis
Illinois has various methods of sourcing interest income; the sourcing depends upon whether
the taxpayer is classified as a dealer within the meaning of 26 USC 475. If the taxpayer is
not a dealer, interest income is sourced to Illinois if the taxpayer’s income-producing activity
is performed in Illinois. However, if the taxpayer is a dealer, 35 ILCS 5/304(a)(3)(C-5)(iii)(a)
states:
“in the case of a taxpayer who is a dealer in the item of intangible property within the
meaning of Section 475 of the Internal Revenue Code, the income or gain is received
from a customer in this State. For purposes of this subparagraph, a customer is in

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this State if the customer is an individual, trust or estate who is a resident of this State
and, for all other customers, if the customer’s commercial domicile is in this State.
Unless the dealer has actual knowledge of the residence or commercial domicile of
a customer during the taxable year, the customer shall be deemed to be a customer
in this State if the billing address of the customer, as shown in the records of the
dealer, is in this State.”
In looking to federal tax law, Section 475(c)(1) of the Internal Revenue Code (“Code”)
defines a “dealer in securities” as a taxpayer who:
(A)
(B)

regularly purchases securities from or sells securities to customers in the ordinary
course of a trade or business; or
regularly offers to enter into, assume, offset, assign, or otherwise terminate positions
in securities with customers in the ordinary course of a trade or business.

In the ordinary course of business, Taxpayer originates loans directly with customers, that
is, Taxpayer makes loans by advancing cash in exchange for debt obligations of its
customers. As Taxpayer regularly originates loans to customers, Taxpayer meets the
definition of a “dealer in securities” as defined in the Code.
In general, Section 475 of the Code requires a dealer in securities to use a mark-to-market
method of accounting. By regulatory grace, however, the IRS effectively provides a taxpayer
with an exception (by not viewing the taxpayer as a dealer) from this mark-to-market
accounting if the taxpayer does not engage in more than “negligible sales” of securities it
has originated to customers. (Treas. Reg. 1.475-1(c)(1)(i)).
A taxpayer with “negligible sales” nonetheless may elect out of this regulatory exemption by
filing its return using the mark-to-market method of accounting described in Section 475(a).
(Treas. Reg. 1.475(c)-1(c)(1)(ii))
In summary, Taxpayer meets the definition of a “dealer in securities” as defined by the Code.
Taxpayer, however, qualifies for a regulatory exemption not to use the mark-to-market
method of accounting. Since taxpayer would technically meet the dealer definition under
475(c) but for the exemption, the rule allows them to elect dealer status if they want it. As a
result, it would appear Taxpayer could still be considered a dealer for Illinois income tax
purposes.
Conclusion
If the Taxpayer is not a dealer because they qualify for the exemption under Treas. Reg.
1.475(c)-1(c), the taxpayer would still be considered a dealer for purposes of IITA
304(a)(3)(C-5)(iii)(a).
We respectfully request a private letter ruling from the Department regarding this matter.
Should you disagree with this opinion, please contact me to discuss this opinion prior to

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Page 4
issuing a ruling. If you have any further questions or require any additional information,
please contact me.

RULING
Section 304(a)(3)(A) of the Illinois Income Tax Act (“IITA” ; 35 ILCS 5/304(a)(3)(A)) defines the
sales factor for taxpayers other than insurance companies, financial organizations, federally
regulated exchanges, and transportation companies, as follows:
The sales factor is a fraction, the numerator of which is the total sales of the person in this
State during the taxable year, and the denominator of which is the total sales of the person
everywhere during the taxable year.
IITA Section 304(a)(3)(C-5) provides, in part, that, for taxable years ending on or after December
31, 2008, sales, other than sales governed by paragraphs (B), (B-1), (B-2), (B-5) and (B-7), are in
this State if any of the following criteria are met:
(iii) In the case of interest, net gains (but not less than zero) and other items of income from
intangible personal property, the sale is in this State if:
(a)

in the case of a taxpayer who is a dealer in the item of intangible personal
property within the meaning of Section 475 of the Internal Revenue Code, the
income or gain is received from a customer in this State. For purposes of this
subparagraph, a customer is in this State if the customer is an individual, trust
or estate who is a resident of this State and, for all other customers, if the
customer’s commercial domicile is in this State. Unless the dealer has actual
knowledge of the residence or commercial domicile of a customer during a
taxable year, the customer shall be deemed to be a customer in this State if
the billing address of the customer, as shown in the records of the dealer, is in
this State; or

(b)

in all other cases, if the income-producing activity of the taxpayer is performed
in this State or, if the income-producing activity of the taxpayer is performed
both within and without this State, if a greater proportion of the incomeproducing activity of the taxpayer is performed within this State than any other
state, based on performance costs.

Section 475 of the Internal Revenue Code (IRC) prescribes use of the mark-to-market accounting
method for dealers in securities. Section 475(c)(1) defines a “dealer in securities” to mean a
taxpayer who:
(A)

regularly purchases securities from or sells securities to customers in the ordinary
course of a trade or business; or

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(B)

regularly offers to enter into, assume, offset, assign or otherwise terminate positions
in securities with customers in the ordinary course of a trade or business.

Section 475(a) requires that a dealer in securities apply the mark-to-market method of accounting.
Section 475(b) allows for exceptions to mark-to-market accounting for dealers, providing that
subsection (a) shall not apply to certain securities held by a dealer including:
(B)(i) any security described in subsection (c)(2)(C) which is acquired (including originated)
by the taxpayer in the ordinary course of a trade or business of the taxpayer and which is
not held for sale, and (ii) any obligation to acquire a security described in clause (i) if such
obligation is entered into in the ordinary course of such trade or business and is not held for
sale.
Pursuant to these provisions, Treas. Reg. § 1.475(c)-1(c)(1) provides for the following exemption
from dealer status:
A taxpayer that regularly purchases securities from customers in the ordinary course of a
trade or business (including regularly making loans to customers in the ordinary course of a
trade or business of making loans) but engages in no more than negligible sales of the
securities so acquired is not a dealer in securities within the meaning of section 475(c)(1)
unless the taxpayer elects to be so treated or, for purposes of section 471, the taxpayer
accounts for any security (as defined in section 475(c)(2)) as inventory.
Under IITA Section 304(a)(3)(C-5)(iii), whether interest, net gains, and other items of income from
intangible personal property are assigned to Illinois for sales factor purposes depends on whether
the taxpayer “is a dealer in the item of intangible personal property within the meaning of Section
475 of the Internal Revenue Code.” If the taxpayer is a dealer within the meaning of IRC Section
475, the gross receipts are assigned to Illinois if the customer is in Illinois. If the taxpayer is not a
dealer within the meaning of IRC Section 475, the gross receipts are assigned to Illinois under
Section 304(a)(3)(C-5)(iii)(b) if the income-producing activity is in Illinois. For this purpose, a
taxpayer is a dealer with respect to an item of intangible personal property if the taxpayer is actually
a dealer with respect to the item under IRC Section 475, or would be a dealer with respect to the
item under IRC Section 475 if the item were a security as defined in IRC Section 475(c)(2).
Your letter represents that the Taxpayer derives interest income by making loans to customers in
the ordinary course of its trade or business. You represent that the Taxpayer is not a dealer in
securities within the meaning of IRC Section 475(c)(1) by virtue of the exemption allowed under
Treas. Reg. § 1.475(c)-1(c)(1) to taxpayers who make only negligible sales of loans that they
originate and who do not elect out of the exemption. The particular sourcing rule under IITA Section
304(a)(3)(C-5)(iii) to be applied should not depend on whether a taxpayer does or does not elect
out of the dealer exemption available under Treas. Reg. 1.475(c)-1(c)(1). In either case, the
taxpayer earns interest by making loans to customers in the ordinary course of its trade or business.
Accordingly, for purposes of IITA Section 304(a)(3)(C-5)(iii), a taxpayer who is eligible for the
exemption under Treas. Reg. 1.475(c)-1(c)(1) is considered a dealer in securities with respect to
loans it originates to customers whether or not the taxpayer elects out of the exemption. In this
case, then, Taxpayer must include the interest income from loans made to its customers in the

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numerator of its Illinois sales factor under IITA Section 304(a)(3)(C-5(iii)(a) if the customer is a
resident of Illinois or its commercial domicile is in this State.
This ruling shall bind the Department as provided herein. The facts upon which this ruling is based
are subject to review by the Department during the course of any audit, investigation or hearing
and this ruling shall bind the Department only if the material facts as recited and incorporated in
this ruling are correct and complete. This ruling shall bind the Department for all taxable years,
except as limited pursuant to 2 Ill. Adm. Code 1200.110(d) and (e). This ruling will cease to bind
the Department if there is a pertinent change in statutory law, case law, rules or in the material facts
recited in this ruling.
Sincerely,

Brian L. Stocker
Chairman, PLR Committee (Income Tax)