Amicus curiae brief on behalf of Tax Executive Institute, Inc. in support of plaintiffs-appellants

Tax Executive, The, May-June, 2005

States are free to employ either a separate-entity or unitary apportionment approach in taxing multi-jurisdictional businesses as long as they respect constitutional restraints and consistently apply their approach. Regrettably, what the FTB has done here is adopt a "heads I win, tails you lose" approach to unitary apportionment by isolating a tax attribute (in this case the research tax credit) generated by a unitary enterprise. The FTB's attempt to gerrymander California's tax system should not stand.

B. General Motors Properly Apportioned the Research Tax Credit Consistent with California's Tax Law In Light of the Unitary Business Principle.

The Court of Appeal devotes a considerable amount of its opinion discussing the term "taxpayer," since under California's tax regime, tax liability ultimately falls on, and payment is remitted by, the individual members of a unitary group. (3) The court suggests the credit cannot be separated from the unitary group member that performed the research activities (Delco Electronics), despite the unitary business principle underlying California's tax system. The relevant question, however, is not whether California imposes a separate tax on each member of a unitary group, but how that tax is determined. (4) Thus, the issue before this Court is which corporations, under California's unitary system, are deemed to have incurred the research expense.

Under the unitary business principle, unitary group members are deemed to have shared the income and expenses of the entire group. This is the essence of the "flow of value" that exists among the members. Therefore, because each member of the unitary group is deemed to have shared a portion of the research expense, each member of the group is entitled to a proportionate share of the research credit. Indeed, R.T.C. Section 23036(g) invites just such an approach for unitary businesses:

   Unless otherwise provided, if two or more taxpayers
   share in costs that would be eligible for a tax credit
   allowed under this part, each taxpayer is eligible
   to receive the tax credit in proportion to his or her
   respective share of the costs paid or incurred.

Members of the unitary group, among which income and expenses are deemed to be shared as a matter of law, are eligible to take credits in proportion to their share of expenses. This is precisely what General Motors did in this case. When applied in a manner consistent with California's unitary tax regime, Section 23036(g) prescribes apportionment of tax credits--in the same manner that the expenses giving rise to the credits are apportioned--among members of the unitary group.

The FTB also argues that because California's research tax credit statute is based on the federal research tax credit authorized in I.R.C. Section 41, the mechanics of applying the federal credit among a group of controlled corporations justifies the FTB's approach. Their analogy to the controlled-group mechanics of Section 41 is inapposite, however, without being guided by unitary theory. Complete harmonization of the federal and California research tax credit provisions is impossible, given the fundamental distinction between the concept of a controlled group of corporations for federal taxation and the concept of a unitary group of businesses for state taxation. (5) The FTB's reliance on the federal provision's controlled-group mechanics in order to limit California's research credit is misplaced. The mechanics of the federal rule were designed to deal specifically with members of a controlled group of corporations. They were not designed to deal specifically with members of a unitary group for state tax purposes. Moreover, under R.T.C. Section 23051.5(h)(7), the incorporation of I.R.C. Section 41(f)(1) into California's statute is to be read in terms of the unitary concept because "account shall be made for differences in federal and state terminology." (6)