What does Illinois General Information Letter IT 23-0007-GIL conclude about Base Income — Elimination Of?

Subject

Base Income — Elimination Of

Plain-English summary

The Illinois Department of Revenue confirmed that a group of intercompany transactions arising from an intellectual-property restructuring should be eliminated from Illinois combined taxable base income and from the combined apportionment (sales) factor, because the entity receiving the payments is treated as a full member of the taxpayer's Illinois unitary business group.

Here's what happened: a US corporate "Taxpayer" (headquartered outside Illinois, filing a unitary combined Illinois return with its subsidiaries and a federal consolidated return with its affiliated group) moved certain IP into a newly formed, wholly-owned LLC in exchange for an equity interest and three loans. Taxpayer then contributed 20% of its LLC interest to "SubCo," a subsidiary that had always been part of its unitary and federal consolidated groups. Because the LLC now had two members (Taxpayer 80%, SubCo 20%), it converted from a disregarded entity into a partnership for federal tax purposes -- and that conversion triggered federal gain recognition on the original IP transfer, since a partnership sits outside the federal consolidated group even though Taxpayer and SubCo together still owned 100% of it.

The Partnership then licensed the IP back to Taxpayer (generating royalty income to Partnership), provided IP-related services to Taxpayer under service agreements (generating service-fee income to Partnership), and received interest payments from Taxpayer on the original loans. Taxpayer asked IDOR to confirm that the royalty, the service fee, the interest, and the gain recognized on the original IP transfer should all be eliminated in computing Illinois combined base income and the combined sales factor.

The Department agreed. Under 86 Ill. Adm. Code Section 100.3380(d)(4), a partnership is treated as a member of the Illinois unitary business group "for all purposes" whenever more than 90% of its federal taxable income is allocable to members of that same group. Because Taxpayer (80% direct) and SubCo (20%, itself already in the group) together owned 100% of the Partnership -- well above the 90% threshold -- the Partnership became a full UBG member regardless of any other unitary-business factors. As a full member, Illinois combined base income is computed by treating Taxpayer, SubCo, and Partnership together as if they were a single federal consolidated group and applying the federal consolidated-return regulations, including the "matching rule" of Treas. Reg. Section 1.1502-13(a)(1), which exists to keep intercompany transactions from creating, accelerating, avoiding, or deferring consolidated taxable income. Applying that rule, the royalty, service fee, and interest between Taxpayer and Partnership must be eliminated from combined business income and excluded from the combined sales factor to avoid distorting the group's apportionment. And because the IP-transfer gain arose purely from an intercompany transaction, it will likewise not be recognized in the Illinois UBG's combined base income to the extent it is not recognized under the federal consolidated-return regulations. Practically, Partnership will file its own separate Illinois unitary partnership return, using the combined group's everywhere apportionment denominator but its own Illinois numerator.

What this means for you

Corporate tax directors managing IP holding structures

If your group moves IP into a jointly-owned LLC/partnership and that entity ends up more than 90%-owned by members of your existing Illinois unitary group, the entity is swept into the UBG "for all purposes" -- even though it must file its own separate unitary partnership return rather than joining the combined return. Plan for the royalty, service-fee, interest, and any transfer-gain items between the partnership and its corporate owners to be eliminated from combined income and from the sales factor, not treated as ordinary taxable intercompany income.

State-tax attorneys handling unitary combined reporting

The key mechanical points are that (1) the 90% test in 86 Ill. Adm. Code 100.3380(d)(4) looks at the percentage of the partnership's federal taxable income allocable to UBG members, not just voting/ownership percentages in isolation, though on these facts the two lined up; (2) once a partnership clears that threshold, the group must apply federal consolidated-return principles, including the Treas. Reg. 1.1502-13(a)(1) matching rule, to determine what gets eliminated; and (3) elimination for base-income purposes (100.5270(a)(1)) and elimination for apportionment-factor purposes (100.5270(b)(1), tied to the anti-distortion standard) are analytically distinct provisions that both point to the same result here.

Multistate corporate groups restructuring IP or other assets

Watch for transactions that convert a wholly-owned disregarded LLC into a multi-member partnership for federal purposes -- that reclassification can trigger federal gain recognition even when ownership stays economically unchanged within the group. This ruling shows that Illinois will generally follow the federal consolidated-return treatment of that gain (i.e., no separate Illinois recognition beyond what's recognized federally) once the partnership qualifies as a UBG member, but the federal-law analysis of whether the gain is deferred or eliminated happens first and drives the state result.

Common questions

Q: Why did converting the LLC into a partnership cause a federal taxable gain in the first place?
A: A single-member LLC is normally disregarded for federal tax purposes, so a transfer into it isn't a taxable event. Once SubCo received a 20% interest, the LLC had two members and became a partnership. A partnership is not part of the federal consolidated group (even if 100% owned by consolidated-group members), so the original IP transfer was treated as leaving the consolidated group, triggering gain recognition.

Q: Does the Partnership file as part of Taxpayer's combined Illinois return?
A: No. Partnerships cannot join a combined corporate return. Instead, because Partnership is more than 90%-owned by UBG members, it is treated as a full UBG member and must file its own separate Illinois unitary partnership return under 86 Ill. Adm. Code Section 100.5215(b), computing its Illinois apportionable income using the combined group's everywhere denominator and its own Illinois numerator.

Q: What specifically gets eliminated?
A: The royalty Taxpayer pays Partnership for the IP license, the service fees Partnership charges Taxpayer, the interest Taxpayer pays Partnership on the original loans, and the gain from the original IP transfer (to the extent not recognized under federal consolidated-return regulations) are all eliminated from Illinois combined base income and excluded from the combined sales-factor computation.

Q: Is this ruling binding on the Department or usable by other taxpayers?
A: No. This is a General Information Letter (GIL), not a Private Letter Ruling. A GIL merely explains how existing law and regulations apply to a general fact pattern; it is not a statement of Department policy and is not binding on IDOR for any taxpayer, including the one who requested it.

Citations and references

Statutes and regulations:

• 35 ILCS 5/1501(a)(27) (definition of unitary business group)
• 35 ILCS 5/304(e) (combined apportionment method)
• 86 Ill. Adm. Code 100.3380(d)(4) (partnership treated as UBG member if more than 90% owned)
• 86 Ill. Adm. Code 100.5270(a)(1) (combined base income computed as if a federal consolidated group)
• 86 Ill. Adm. Code 100.5270(b)(1) (elimination of intercompany items to avoid apportionment distortion)
• 86 Ill. Adm. Code 100.5215(b) (separate unitary return for UBG members outside the combined return)
• 86 Ill. Adm. Code 100.9700(b) (persons required to use combined apportionment)
• Treas. Reg. 1.1502-13(a)(1) (federal consolidated-return matching rule)

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2023.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2023/it23-0007-gil.pdf

Original ruling text

IT-23-0007-GIL 06/01/2023 BASE INCOME — ELIMINATION OF
INTERCOMPANY TRANSACTIONS

Partnership is treated as a member of the unitary business group for all
purposes if the partnership is more than 90% owned by members of the
group. (This is a GIL.)

June 1, 2023

NAME/ADDRESS

Re: Illinois Income Tax — Elimination of Intercompany Transactions More Than
90%
Owned Partnership Treatment

Dear NAME:

This is in response to your letter dated February 7, 2023, in which you request
information about the elimination of intercompany transactions with a partnership
that is more than 90% owned by members of the unitary business group. The
nature of your request and the information you have provided require that we
respond with a General Information Letter (“GIL”), which is designed to provide
general information, is not a statement of Department policy, and is not binding
on the Department. See 2 Ill. Adm. Code Section 1200.120(b) and (c), which
may be found on the Department’s website at www.tax. illinois.gov.

Your letter states as follows:

We are writing to on behalf of a taxpayer (“Taxpayer”) to request a
General Information Letter under 2 Ill. Admin. Code § 1200.120. Taxpayer
is requesting a general information letter regarding the valid and proper
tax treatment of several intercompany transactions between a 100%
owned unitary partnership and Taxpayer’s combined group under 86 IIl.
Admin. Code § 100.5200. As such the Taxpayer respectfully requests that
the Illinois Department of Revenue rule on the issue presented below.

Taxpayer is not currently under audit and does not have litigation pending
with the Illinois Department of Revenue (“Department”). Further, the issue
addressed in this General Information Letter is not an issue being
examined as part of a Department audit. Neither the Taxpayer nor the
Taxpayer's representatives are aware of any contrary rulings, cases,
statutes or regulations to the position requested in this letter.

FACTS

Taxpayer is a US corporation organized under the laws of a state other
than of Illinois. Taxpayer, through its subsidiaries, manufactures and sells
tangible personal property. In addition to Taxpayer’s headquarters located
outside of Illinois, the Group owns facilities throughout the US and

manufacturing facilities worldwide, as well as innovation and operations
centers. For federal income tax purposes Taxpayer is the common parent
of an affiliated group of US corporations that files a US federal
consolidated tax return (“Consolidated Group”). Taxpayer currently files a
unitary combined return with its subsidiaries in Illinois.

In order to combine separately owned intellectual property (“IP”) ina
single IP entity and to better position the Group with regard to legal and
business financial risks related to the legacy and acquired IP, Taxpayer
implemented a structure to create a separate IP entity. The separate entity
will afford the Group flexibility in case of future business restructurings in
two different ways —

(1) allowing the Group to independently license IP to a separated
business, in case of a future separation of a particular business,
and (2) providing an opportunity for the Group to monetize a portion
of the IP value by selling portions of the IP entity to external
stakeholders/parties. To effectuate the implemented plan, Taxpayer
performed the following steps (“Transaction”):

1. Taxpayer created a wholly owned limited liability company (“LLC”)
   under the laws of a state other than Illinois.

2. Taxpayer transferred certain IP to the LLC (“Transferred IP”) in
   exchange for an equity interest in the LLC and three separate loans
   pursuant to a Trademark Purchase Agreement.

3. Taxpayer contributed 20% of its interest in the LLC to its wholly
   owned subsidiary (“SubCo”), a corporation previously created
   under the laws of a state other than Illinois, that is, and has always
   been, part of the Group and the Consolidated Group.

i. The transfer results in the LLC to now be classified as a
partnership for federal income tax purposes.

ii. The creation of the partnership results in gain recognitions
for federal income tax purposes as the partnership is outside
the federal consolidated group.

iii. Taxpayer continues to own 100% of the partnership.

4. The LLC (hereinafter “Partnership”) and Taxpayer entered into a
   license agreement, whereby the Partnership licenses certain rights
   to the Transferred IP back to the Taxpayer for continued use in its
   business. See Exhibit A

In conjunction with the execution of the Transaction, Partnership will enter
into service agreements with Taxpayer (and other related entities) to
receive IP-related services, including services related to development,
enhancement, management, and protection of the Transferred IP, which
will allow Partnership to maximize the utilization and profits related to the
Transferred IP. The Transferred IP does not include goodwill or going
concern value.

Partnership will receive royalties (from Taxpayer) in the tax year, with
increases on an annual basis, into perpetuity for its license of the IP.
Partnership will also pay to Taxpayer interest related to the loans
described above. Based on the IP-related operations and estimated cash
flow, it is expected that Partnership will have sufficient business activity
and earnings to service the interest and principal of the Loans. It is
assumed that Partnership would have been able to obtain debt similar to
the loans from external sources. Separately, under the terms of the LLC
agreement, Taxpayer and SubCo will share in the profits and losses of
Partnership in proportion to their LLC interest.

ISSUE

Taxpayer would like to confirm transactions between Partnership,
Taxpayer and SubCo should be eliminated, including the net gain related
to the Transferred IP, the royalty income received by Partnership for
Taxpayer’s use of the Transferred IP, and the service income derived from
the intercompany service agreements related to the IP for the taxable
base and respective sales factor apportionment for the Illinois purposes.

APPLICABLE ILLINOIS LAW

Illinois imposes a Business Corporation Income Tax and a Personal
Property Replacement Income Tax on corporations doing business in
Illinois. 1

A. Illinois Combined Income Tax Reporting

Any person subject to Illinois income tax may be a member of a unitary
business group and required to use combined apportionment. Only
corporations who are members of a unitary business group are required to
file combined returns. Partnerships may not be included in a combined
return. However, partnerships that are substantially owned or controlled
(90% or more) by unitary corporate partners must file a separate unitary
combined partnership return.‘ If the unitary group owns less than 90% of
the partnership, then the partnership is not a complete member of the
unitary group (i.e., the partnership does not file a separate unitary return).
Instead the corporate partner includes in its apportionment factors its
share of a unitary partnership’s apportionment factors (i.e., apportionment
factors flow up).

135 ILCS 5/201 (a) & (c).

2 86 Ill. Admin code § 100.9700(b).

335 ILCS 5/502(e); 86 Ill. Admin code § 100.5200.

4 86 Ill. Admin code § 100.3380(d)(4); Illinois Form Schedule UB: Instructions for Unitary Combined
Business Group Computation.

A unitary business group is “a group of persons related through common
ownership whose business activities are integrated with, dependent upon,
and contribute to each other.” ° For corporations, common ownership is
evidenced by the direct or indirect control or ownership of more than 50
percent of the outstanding voting stock of the persons carrying on the
unitary business activity.® In the case of any other entity, common
ownership means direct or indirect ownership of an interest sufficient to
exercise control over the activities of the entity. ’ Further, Illinois
regulations set forth specific factors that may illustrate that a corporation
and partnership are part of a unitary business, specifically where the
activities of the members are:

(1) in the same general line (such as manufacturing, wholesaling, retailing
of tangible personal property, insurance, transportation or finance); or
(2) are steps in a vertically structured enterprise or process (Such as
the steps involved in the production of natural resources, which might
include exploration, mining, refining, and marketing); and, in either
instance, the members are functionally integrated through the exercise
of strong centralized management (where, for example, authority over
such matters as purchasing, financing, tax compliance, product line,
personnel, marketing and capital investment is not left to each
member). 35 ILCS 5/1501 (a) (27)

B. Illinois Combined Income Tax Computation

The starting point for calculating Illinois taxable income is the federal
taxable income as applied after federal net operating loss deduction and
special deductions.® The Illinois combined base income is determined by
first computing the combined group’s combined federal taxable income
and then modifying by the combined group’s combined Illinois addition
and subtraction amounts.? Federal taxable income means separate
taxable income that would be computed by each member for purposes of
a federal consolidated return.'° When a partnership engages in a unitary
business with its corporate partners and is substantially owned or
controlled by members of the unitary business group, income from the
partnership must be included in the combined base income."' Once the
combined group’s base income is determined, combined apportionment

5 35 ILCS 5/1501(a)(27)(A)

6 Td.

TI.

8 Id.

935 ILCS 5/203(b)(1), (e)(1).

10 86 Ill. Admin. Code § 100.5270(b); Illinois Form Schedule UB: Instructions for Unitary Combined
Business Group Computation.

1! 6 Ill. Admin. Code § 100.5270(b)(1)

method is used to apportion the combined income. '* When the combined
group composed solely of members that apportion their business income
under the same rules, the combined group’s combined business income

shall be apportioned using the total Illinois factors of the combined group
and total everywhere factors of the unitary business group. '

Combined business income should be determined by treating all members
of the unitary business group as if they constitute a federal consolidated
group and by applying the federal regulations for determining consolidated
taxable income." Therefore, in computing a unitary business group’s
combined business income to be apportioned to Illinois, items of income
and deduction arising from transactions between members of the group
must be eliminated whenever necessary to avoid distortion of the
denominators used by the group in calculating apportionment factors, or of
the numerators used by the group or by ineligible members in calculating
apportionment factors.'® In the case where a partnership is a complete
member of the unitary group (i.e., more than 90% owned), intercompany
items between the partnership and its corporate partners must be
excluded from the combined base income.'® A modification may be
required for intercompany transactions within a unitary business group. *”

ANALYSIS
A. The Illinois Unitary Combined Group

In Illinois, a partnership must be included in the unitary business group if
substantially all of the interests in it are owned or controlled by members
of the same unitary business group.'® Substantial interest is met if more
than 90% of the federal taxable income of the partnership is allocable to
any member of the unitary business group or any member who would
have been included in the unitary business group if not excluded under
80/20 exclusion.'® Before the Transaction, Taxpayer files a unitary Illinois
combined income tax return with its subsidiaries including SubCo. After
the Transaction, Partnership meets the substantial interest test because
it's 100% directly and indirectly owned by common parent Taxpayer and
its wholly owned subsidiary SubCo. Therefore, Partnership will join as a
new member of the Illinois unitary business group with Taxpayer and
SubCo and file a separate unitary partnership return.

235 ILCS 5/304(e)

8 86 Ill. Admin. Code § 100.5270(b)(1)

4 $6 IIL, Admin. Code § 100.5270(b)(1)

S Td.

'6 Illinois Form Schedule UB: Instructions for Unitary Combined Business Group Computation.
17 $6 II. Admin. Code § 100.5270(b)(1)

18 86 TI. Admin. Code § 100.3380(d)(4)

19 Td.

Any member of a unitary business group not included in the Illinois
combined return must file a separate return and compute its apportionable
business income by using the base income and apportionment factors of
the unitary combined group.° Partnership is a partnership and not
included in the Illinois combined corporation income tax return as filed by
the unitary business group.

B. Intercompany transactions between Taxpayer and Partnership
should be eliminated from Illinois combined business income and
combined apportionment

Illinois defines taxable income as taxable income as reported federally and
applies federal consolidated rules for determining combined taxable
income. To determine the combined group income, Illinois treats all
members in the unitary business group as if they were in a federal
consolidated group and applies the federal consolidated rules.! The
federal consolidated rules treat members of the consolidated group as a
single corporation and applies the “matching rule” to intercompany
transactions in order to prevent “intercompany transactions from creating,
accelerating, avoiding, or deferring consolidated taxable income (or
consolidated tax liability).”* Therefore the Partnership should be treated
as a corporation under federal consolidated rules when determining
combined income and combined apportionment. After the Transaction,
Taxpayer receives interest income and service fee income from its wholly
owned subsidiary Partnership and pays royalty expense to Partnership for
the use of Transferred IP. Such interest income, service fee income and
royalty expense should be eliminated in the computation of combined
business income. Since Partnership is not part of the federal consolidated
group, Taxpayer also records a gain in relation to the sale of IP to
Partnership on its federal consolidated income tax return. However, such
gain should be eliminated as intercompany transactions in determining
Taxpayer's combined Illinois business income since Partnership is a
member of the Illinois unitary business group.

Furthermore, the gain, royalty, service and interest income between
Taxpayer and its wholly owned subsidiary Partnership should be excluded
from the Illinois combined apportionment because they are eliminated and
to avoid distortion of the denominators used by the group in calculating
apportionment factors, or of the numerators used by the group or by
ineligible members in calculating apportionment factors.

SUMMARY

20 86 Ill. Admin. Code § 100.5215(b)

2! Td.

2 Treas. Reg. 1.1502-13(a)(1).

Based on the above analysis, transactions between Partnership and
Taxpayer, the Partnership will file a separate unitary return using the
combined group’s denominator and the separate company numerator.
Further, the Partnership should be treated as a corporation to determine
what should be eliminated in calculating its taxable income and
apportionment, including the net gain related to the Transferred IP, the
royalty income received by Partnership for Taxpayer's use of the
Transferred IP, the interest income received by Taxpayer in, and the
service income derived from the intercompany service agreements related
to the IP for the taxable base and respective sales factor apportionment
for Illinois purposes. We would appreciate if the Department would confirm
our understanding.

If you have any questions regarding the information contained herein, do
not hesitate to contact me at the contact information listed above.

RULING

Section 1501(a)(27)(A) of the Illinois Income Tax Act (“IITA”, 35 ILCS 5/101 et
seq.) defines a “unitary business group” (“UBG”) as “a group of persons related
through common ownership whose business activities are integrated with,
dependent upon and contribute to each other.” 86 Illinois Administrative Code
Section 100.9700(e) (“Ill. Adm. Code”) provides “in the case of a corporation,
common ownership means direct or indirect control or ownership of more than
50% of the corporation’s outstanding voting stock” and “[i]n the case of any other
entity, common ownership means direct or indirect ownership of an interest
sufficient to exercise control over the activities of the entity.” Additional factors to
consider in the UBG analysis include strong centralized management, general
line of business, and vertically structured enterprises. See 86 Ill. Adm. Code
Sections 100.9700(g) and (h). 86 Ill. Adm. Code Section 100.5205(c) provides
“[mJembership in a unitary business group is mandatory if the criteria for inclusion
are met, and is determined under IITA Section 1501(a)(27) and Section 100.9700
of this Part.”

IITA Section 304(e) provides:

Where 2 or more persons are engaged in a unitary business as described
in subsection (a)(27) of Section 1501, a part of which is conducted in this
State by one or more members of the group, the business income
attributable to this State by any such member or members shall be
apportioned by means of the combined apportionment method.

86 Ill. Adm. Code Section 100.5215 provides for the filing of separate unitary
returns under IITA Section 304(e), and specifically provides in Section
100.5215(a) “not every member of a unitary business group is eligible to join in
the filing of a combined return....”. Pursuant to Section 100.5215(b):

Each member of a unitary business group who is subject to Illinois income
tax and who properly does not join in the filing of a combined return must
file a separate return, and compute its business income apportionable to
Illinois by computing the base income of the unitary business group in
accordance with Section 100.5270(a)(1) and by multiplying the business
income included in the base income by an apportionment fraction
computed by using the Illinois apportionment factor or factors applicable to
the return filer under IITA Section 304 and the everywhere factor or factors
of the entire unitary business group.

The computation of combined net income and tax pursuant to IITA Section
304(e) is further explained in 86 Ill. Adm. Code Section 100.5270. Combined
base income is “determined by treating all members of the unitary business
group (including ineligible members) as if they constituted a federal consolidated
group and by applying the federal regulations for determining consolidated
taxable income, ...... ” 86 Ill. Adm. Code Section 100.5270(a)(1). Combined
business income shall be apportioned to Illinois as provided in 86 III. Adm. Code
Section 100.5270(b)(1):

In the case of a combined group composed solely of members that
apportion their business income under the same subsection of IITA
Section 304 (that is, insurance companies apportioning business income
under IITA Section 304(b), financial organizations apportioning business
income under IITA Section 304(c), federally regulated exchanges
apportioning business income under IITA Section 304(c-1), transportation
companies apportioning business income under IITA Section 304(d), and
all other businesses apportioning business income under IITA Section
304(a)), the combined group’s combined business income shall be
apportioned using the total Illinois factors of the combined group and total
everywhere factors of the unitary business group. In the case of a
combined group that includes members that apportion their business
income under different subsections of IITA Section 304, the combined
group’s combined business income is apportioned as provided in Section
100.3600. Items of income and deduction arising from transactions
between members of the unitary business groups shall be eliminated
whenever necessary to avoid distortion of the denominators used by the
unitary business group in calculating apportionment factors, or of the
numerators used by the combined group or by ineligible members of the
group in calculating apportionment factors.

86 Ill. Adm. Code Section 100.9700(b) provides:
b) Persons Required to Use Combined Apportionment

Any person subject to Illinois income taxation may be a member of
a unitary business group and required to use combined

apportionment under IITA Section 304(e). Only corporations (other
than subchapter S corporations) who are members of a unitary
business group are required to file combined returns under IITA
Section 502(e). For the treatment of certain partners and
partnerships engaged in a unitary business, see Section
100.3380(d). Every member of a unitary business group who is
neither a corporation required to join in a combined return nor a
partnership excluded from combined apportionment under Section
100.3380 shall determine the Illinois portion of its business income
pursuant to IITA Section 304(e) by computing the combined
business income of the unitary business group in the manner
prescribed in Section 100.5270(a), and apportioning that unitary
business income to Illinois using the combined everywhere
apportionment factors of the unitary business group and that
person’s own Illinois apportionment factors. If one or more other
members of the unitary business group have taxable years different
from the taxable year of the taxpayer filing the return, that taxpayer
shall compute the combined business income of the group for its
taxable year by including the incomes of the members using a
different taxable year in the manner prescribed by Section
100.5265.

A partnership is “excluded from combined apportionment under Section
100.3380” when the special rules for the apportionment of business income
under 86 Ill. Adm. Code Section 100.3380(d)(1) and (2) apply to the partnership.

86 Ill. Adm. Code Section 100.3800(d)(4) provides for an exception to the
alternative apportionment methods prescribed in 86 Ill. Adm. Code Sections
100.3380(d)(1) and (2):

If substantially all of the interests in a partnership (other than a publicly-
traded partnership under IRC section 7704) are owned or controlled by
members of the same unitary business group as the partnership, the
partnership shall be treated as a member of the unitary business group for
all purposes, and, for purposes of applying IITA Section 305(a) to any
nonresident partner who is not a member of the same unitary business
group, the business income of the partnership apportioned to this State
shall be determined using the combined apportionment method prescribed
by IITA Section 304(e). For purposes of this subsection (d), substantially
all of the interests in a partnership are owned or controlled by members of
the same unitary business group if more than 90% of the federal taxable
income of the partnership is allocable to one or more of the following
persons:

A) any member of the unitary business group;

B) any person who would be a member of the unitary business group
if not for the fact that 80% or more of that person’s business
activities are conducted outside the United States;

C) any person who would be a member of the unitary business group
except for the fact that the person and the partnership apportion
their business incomes under different subsections of IITA Section
304 and, therefore, for taxable years ending prior to December 31,
2017, would be excluded from a unitary business group in which
the partnership is a member; or

D) any person who would be disallowed a deduction for losses by IRC
section 267(b), (c) and (f)(1) by virtue of being related to any
person described in subsection (d)(4)(A), (B) or (C), as well as any
partnership in which a person described in subsection (d)(4)(A), (B)
or (C) is a partner.

Therefore, the statutory apportionment method under IITA Section 304(e) applies
in instances where more than 90% of the partnership interest is owned by other
UBG members.

Your inquiry is to whether intercompany transactions between members of the
unitary group will be eliminated under 86 Ill. Adm. Code Section 100.5270(b)(1)
which provides “[i]tems of income and deduction arising from transactions
between members of the unitary business groups shall be eliminated whenever
necessary to avoid distortion of the denominators used by the unitary business
group in calculating apportionment factors, or of the numerators used by the
combined group or by ineligible members of the group in calculating
apportionment factors.” Specifically, your letter inquires whether service fee
income, interest income, royalty expense, and the gain from the sale of
intellectual property (IP) to Partnership should be eliminated among the various
entities.

Intercompany eliminations are required only if distortion occurs. You indicate in
your letter that SubCo, a wholly owned subsidiary of Taxpayer, “is, and has
always been, part of’ Taxpayer’s combined group. Taxpayer maintains 80%
direct ownership in Partnership and 20% indirect ownership in Partnership
through SubCo. As substantially all of the interests in Partnership (90% or more)
are owned or controlled by members of the same UBG as the Partnership, then
Partnership is treated as a member of the UBG for all purposes pursuant to 86 Ill.
Adm. Code Section 100.3380(d)(4) regardless of the other unitary tests.

Under 86 Ill. Adm. Code Section 100.5215, the members of the UBG that are not
part of the combined group will compute their combined base income by applying
the rules of Section 100.5270. If Taxpayer and Partnership are proper members
of a UBG, then 86 Ill. Adm. Code Section 100.5270(a)(1) requires the combined

10

group members to compute their federal taxable income by treating all members
of the UBG (including ineligible members) if they were members of a federal
consolidated group and apply the federal consolidated return regulations.

As Partnership is to be treated as a member of the UBG under 86 III. Adm. Code
Section 100.3380(d)(4), then all members will be entitled to the intercompany
eliminations of the service fee income, interest income, and royalty expense as
provided by 86 Ill. Adm. Code Section 100.5270(b)(1) to avoid distortions in the
apportionment factor. Failure to eliminate from the sales factor a transfer
between members of a UBG would alter the sales factor of the group. If the gain
in relation to the sale of IP to the Partnership is not recognized under the federal
consolidated return regulations, then the gain will not be recognized in computing
the combined base income of the UBG members.

As stated above, this is a GIL. A GIL does not constitute a statement of
Department policy that applies, interprets or prescribes the tax laws, and it is not
binding on the Department.

Sincerely,

Jennifer Uhles
Associate Counsel (Income Tax)

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Exhibit A- Abbreviated Ending Structure

Taxpayer (US)
|
[80%]
SubCo (US) License
Agreement
[20%]

Note Payable

Partnership

(US)

Expected Intercompany Transactions

e = Interest from Partnership to Taxpayer
e Service fee from Partnership to

Taxpayer

e Royalty from Taxpayer to Partnership

12