Could a company use an intended later restructuring or another entity's apportionment factor to reduce former Texas taxable capital?

Plain-English summary

The company had to report what actually existed at period end, not the restructuring it meant to complete later.

During a multientity real-estate restructuring, properties were left in the Texas taxpayer through the relevant accounting-period end. The taxpayer proposed three ways to obtain apportionment relief: use another entity's factor, treat the amount as a dividend, or assume the later restructuring had already occurred.

The Comptroller rejected all three. The taxable-capital component was based on the company's actual financial condition at its last accounting period ending in the year before the tax was due. One company could not use another company's apportionment formula, the facts did not establish a dividend, and the Department would not ignore the restructuring that actually occurred.

On the Comptroller's understanding that the taxpayer had 100% Texas receipts, the taxpayer was told to file using a 100% Texas apportionment factor.

What this means for you

Businesses completing restructurings near year-end

An incomplete step at the measurement date could not be corrected by reporting the transaction as management intended it to occur.

Tax professionals

Use the taxpayer's actual period-end financial condition and its own receipts. Do not borrow an affiliate's factor or assume a dividend that did not occur.

Common questions

Q: Could the taxpayer use the real-estate subsidiary's apportionment factor?
A: No.

Q: Could it treat the transaction as a dividend for sourcing purposes?
A: No, because the stated facts did not show a dividend distribution.

Q: Could Texas assume the later restructuring had already happened?
A: No.

Citations and references

• The letter cites the former franchise-tax act generally but gives no section number.

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9708344L

Original ruling text

August 29, 1997

Dear **:

On August 13, 1997 you wrote me concerning a client that created Properties to
act as a Real Estate Investment Trust. I will not restate the facts but will
simply incorporate them as set out in the letter by reference. Essentially, the
company restructured its holdings so that Properties with hotels in several
states would be owned by Holdings. Holdings in turn would be held by a New York
limited partnership ("NYLP"). A New York holding company ("NY Holdings") would
own 99% of NYLP as a limited partner and Company D would own 1% of NYLP as the
general partner. NY Holdings in turn would be owned by TEXAS. TEXAS would then
be owned directly and indirectly by a series of out of state companies. In the
process of restructuring, the various properties were placed in TEXAS and
inadvertently not moved out before the end of the period upon which the taxable
capital component of the franchise tax is based.

The taxable capital component of TEXAS is apportioned 100% to Texas.

You asked that we consider three options to overcome the company's failure to
complete the restructuring before the end of the period upon which franchise
tax is based. The first was to use Properties' Texas franchise tax
apportionment factor to apportion the contributed capital. The second would be
to treat the income received as if it received a dividend distribution from
Properties in the amount of Properties' separate company income. Regarding this
second option, you made the statement "This option would provide some
apportionment factor relief since these dividends would be sourced to the legal
domicile of NY Holdings, which is not a Texas corporation." The third option
would treat TEXAS as if the restructuring described above occurred immediately
subsequent to the initial restructuring and as if TEXAS received dividend
income.

I must reject all three options as being contrary to the statute. The taxable
capital component for an annual report is computed based on the financial
condition of the company as of its last accounting period that ends in the year
before the year in which the tax is due, not what the company intended the
financial condition to be. While this is an unfortunate situation, the act does
not allow any one of the suggested options. The act does not allow one company
to use another company's apportionment formula; and, as I understand the facts,
this was not a dividend distribution which would allow the location of taxpayer
test to be used. The third option asks us to ignore the facts of the
restructuring.

While I realize this is not the answer you hoped for, I must advise you that
your client should immediately file its franchise tax return and base its
taxable capital component on the financial condition of the company as of its
last accounting period that ends in the year before the year in which the tax
is due using the apportionment formula based on its activities, which as I
understand the facts was 100% Texas receipts.

Should you have further questions, please feel free to contact me.

Sincerely,

Wade Anderson
Director, Tax Policy

cc: Karey Barton, Manager Tax Policy
Teresa Comer, Tax Policy Franchise Tax Section