When a combined report is filed, is the 'principally engaged in the business of lending funds' test (for whether a corporate debt instrument is investment capital) applied to the individual lending member or to the combined group?

Plain-English summary

Deloitte & Touche asked how to determine whether an instrument is a "qualifying corporate debt instrument" -- and thus investment capital -- when a combined report is filed. Corporation A (asset management) owns Corporation B, which makes loans to third parties (often A's customers). A and B file a combined Article 9-A report. On its own, Corporation B gets more than 50% of its gross receipts from loan interest and gains; but the combined group gets less than 50%.

The key is 20 NYCRR 3-3.2(d)(1)(iv), which excludes from investment capital a debt instrument acquired by a holder that is "principally engaged in the business of lending funds" where the obligor received those funds (such an instrument is business capital, not a portfolio investment). "Principally engaged in lending funds" is defined by a 50% gross-receipts test (3-3.2(d)(2)(ii)). The question: is that test applied to the individual lending member or the whole combined group?

To the individual member. Under 20 NYCRR 6-3.2, even when a combined report is filed, each member also files a separate report and computes its own investment capital on an individual basis. So the lending test is computed for Corporation B -- the member that is in the lending business and holds the debt instrument -- which exceeds 50% on its own. Only when computing combined business capital and investment capital are the intercorporate eliminations of 20 NYCRR 3-3.8 made.

What this means for you

The lending test looks at the member, not the group

Whether a holder is "principally engaged in the business of lending funds" is tested on the individual member that made the loan and holds the instrument -- using its own gross receipts -- even inside a combined group whose overall receipts tell a different story.

Combined filing still means separate member computations

A combined report does not merge each member's investment-capital determination. Each member files a separate report and computes its own investment capital first.

Intercorporate items drop out only at the combined level

The eliminations in 20 NYCRR 3-3.8 (intercorporate stock, notes, receivables, etc.) apply when computing combined business and investment capital -- not when applying the member-level lending test.

Common questions

Q: My lending subsidiary exceeds 50% but the group doesn't -- which controls? A: The subsidiary's own figure. The lending test is applied to the individual member that holds the instrument.

Q: Does combined filing change how a member computes its investment capital? A: No. Each member still files a separate report and computes its own investment capital individually.

Q: When do intercorporate items get eliminated?
A: When computing the combined business and investment capital, under 20 NYCRR 3-3.8.

Citations and references

Statutes, regulations, and authorities:

• Tax Law section 208.5 (investment capital -- stocks, bonds and other securities not held for sale)
• 20 NYCRR 3-3.2(d)(1) (qualifying corporate debt instruments and the exclusions, including instruments held by a lender from the recipient of the funds)
• 20 NYCRR 3-3.2(d)(2)(ii) ("principally engaged in the business of lending funds" -- more than 50% of gross receipts from loan interest/gains)
• 20 NYCRR 6-3.2 (combined report on CT-3-A plus a separate CT-3 for each member)
• 20 NYCRR 3-3.8 (eliminate intercorporate stockholdings, notes, receivables and indebtedness in combined investment capital)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1995.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a95_15c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-95 (15) C
Corporation Tax
September 5, 1995

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C950306A

On March 6, 1995, a Petition for Advisory Opinion was received from Deloitte & Touche, LLP, Two World Financial Center, South Tower 8th Floor, New York, New York 10281-1426. The issue raised by Petitioner, Deloitte & Touche, LLP, is how to determine if an instrument is a "qualifying corporate debt instrument" for purposes of section 3-3.2(d)(2)(ii) of the Business Corporation Franchise Tax Regulations ("Article 9-A Regulations") when a combined report is filed. Corporation A, a New York taxpayer, is in the business of providing diversified asset management and consulting services. Corporation A owns all the stock of Corporation B, also a New York taxpayer. Corporation B makes secured and unsecured loans to third party corporations, many of whom are customers of Corporation A. Corporation A and Corporation B satisfy the unitary business and distortion requirements of sections 6-2.2 and 6-2.3, respectively, of the Article 9-A Regulations, and accordingly file their franchise tax reports on a combined basis for both New York State and New York City. On a separate company basis, Corporation B derives more than 50 percent of its gross receipts from interest and net gains from loan transactions. However, the Corporation A and Corporation B combined group derives less than 50 percent of its gross receipts from interest and net gains from loan transactions. Section 208.5 of the Tax Law provides that the term "investment capital" means investments in stocks, bonds and other securities, corporate and governmental, not held for sale to customers in the regular course of business, exclusive of subsidiary capital and stock issued by the taxpayer, provided, however, that, in the discretion of the Commissioner of Taxation and Finance, there shall be deducted from investment capital any liabilities which are directly or indirectly attributable to investment capital. Section 3-3.2(c) of the Article 9-A Regulations provides that the phrase "stocks, bonds and other securities" means, among other things, "qualifying corporate debt instruments". Section 3-3.2(d)(1) of the Article 9-A Regulations defines the term "qualifying corporate debt instruments" as all debt instruments issued by a corporation other than the following: (i) instruments issued by the taxpayer or a DISC;

-2­
TSB-A-95 (15) C
Corporation Tax
September 5, 1995

(ii) instruments which constitute subsidiary capital in the hands of the taxpayer; (iii) instruments acquired by the taxpayer for services rendered or for the sale, rental or other transfer of property, where the obligor is the recipient of the services or property; however, where a taxpayer sells or otherwise transfers property which is investment capital in the hands of such taxpayer (e.g., stock) and receives in return a corporate obligation issued by the recipient of such property, such corporate obligation, if it is not otherwise excluded from the category of investment capital, would constitute investment capital in the hands of the taxpayer; (iv) instruments acquired for funds if: (a)

the obligor is the recipient of such funds;

(b)

the taxpayer is principally engaged in the business of lending funds; and

(c)

the obligation is acquired in the regular course of the taxpayer's business of lending

funds;
(v)
accepted drafts (such as banker's acceptances and trade acceptances) where the taxpayer is the drawer of the draft; (vi) instruments issued by a corporation which is a member of an affiliated group which includes the taxpayer; and (vii)

accounts receivable, including those held by a factor.

Section 3-3.2(d)(2)(ii) of the Article 9-A Regulations states that "[a] taxpayer is 'principally engaged in the business of lending funds', for purposes of [section 3-3.2(d) of the Article 9-A Regulations], if during the taxable year more than 50 percent of its gross receipts consist of interest from loans or net gain from the sale or redemption of notes or other evidences of indebtedness arising from loans made by the taxpayer. For purposes of the preceding sentence, receipts do not include return of principal or nonrecurring, extraordinary items." With respect to the provisions for investment capital in Article 9-A of the Tax Law, such provisions are structured so as to give presumably preferential treatment to portfolio assets. Therefore, the exclusion from investment capital contained in section 3-3.2(d)(1)(iv) of the Article 9-A Regulations was created because a taxpayer that is principally engaged in the business of lending funds that receives a debt instrument acquired from the recipient of such funds where the recipient is the obligor on the debt instrument has not made a portfolio investment in that debt instrument. Such debt instrument acquired in the regular course of the taxpayer's business of lending funds is, accordingly, properly classified as business capital rather than accorded investment capital status.

-3­
TSB-A-95 (15) C
Corporation Tax
September 5, 1995

Section 6-3.2 of the Article 9-A Regulations provides that in all cases where a combined report is required or permitted, a combined franchise tax report must be submitted on form CT-3-A and a separate franchise tax report must be filed for each corporation in the combined group on form CT-3. Therefore, pursuant to section 6-3.B of the Article 9-A Regulations, when determining whether a taxpayer is "principally engaged in the business of lending funds" where a taxpayer is a member of a combined group filing a combined report, it is appropriate to compute the gross receipts test, under section 3-3.2(d)(2)(ii) of the Article 9-A Regulations, on the basis of the individual taxpayer that is in the business of lending funds and that received the corporate debt instrument in question. Section 3-3.8 of the Article 9-A Regulations provides that in computing combined investment capital on a combined report, all intercorporate stockholdings, intercorporate bills, intercorporate notes receivable and payable, intercorporate accounts receivable and payable and other intercorporate indebtedness must be eliminated. Accordingly, pursuant to section 6-3.2 of the Article 9-A Regulations, when Corporation A and Corporation B file on a combined basis, each corporation must file a separate franchise tax report in addition to the combined report. On Corporation B's separate report, Corporation B computes its investment capital on an individual basis in accordance with section 3-3.2 of the Article 9-A Regulations. When Corporation A and Corporation B compute combined business capital and combined investment capital on the combined report, the eliminations provided in section 3-3.8 of the Article 9-A Regulations must be made.

DATED: September 5, 1995

NOTE:

s/PAUL B. COBURN
Deputy Director
Taxpayer Services Division

The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.