Simpson Inv. Co. v. STATE, DEPT. OF REVENUE

• Decision Date: 14 October 1999
• Docket Number: No. 67630-5.,67630-5.
• Citation: 3 P.3d 741,141 Wash.2d 139
• Court: Washington Supreme Court
• Parties: SIMPSON INVESTMENT COMPANY, Respondent, v. STATE of Washington, DEPARTMENT OF REVENUE, Petitioner.

3 P.3d 741

141 Wash.2d 139

SIMPSON INVESTMENT COMPANY, Respondent, v. STATE of Washington, DEPARTMENT OF REVENUE, Petitioner.

No. 67630-5.

Supreme Court of Washington, En Banc.

Argued October 14, 1999.

July 13, 2000.

Christine Gregoire, Atty. Gen., John S. Barnes, Asst. Atty. Gen., Olympia, for Petitioner.

Lane, Powell, Spears & Lubersky, George Carl Mastrodonato, Kathleen Dell Benedict, Olympia, Michael Barr King, Seattle, for Respondent.

Davis, Wright, Tremaine, Garry George Fujita, Seattle, for Amicus Curiae on Behalf of Association of Washington Businesses.

MADSEN, J.

This dispute between Simpson Investment Company (Simpson) and the State Department of Revenue (Department) presents the question of whether Simpson, a holding corporation for multiple subsidiaries, is a "financial business" for purposes of RCW 82.04.4281 (section 4281). Section 4281 provides a Business and Occupational (B & O) tax deduction for the investment income of all persons not "engaging in banking, loan, security, or other financial businesses." RCW 82.04.4281. The Department assessed B & O taxes against Simpson, claiming it was not entitled to deduct its investment income because it is a "financial business." Simpson contested this assessment in a refund action, culminating in motions for summary judgment. The Thurston County Superior Court denied Simpson's motion, granting summary judgment to the Department, and Simpson appealed. The Court of Appeals reversed, determining that Simpson is not a "financial business" and is therefore entitled to deduct its investment income in calculating its B & O tax liability. Simpson Inv. Co. v. Department of Revenue, 92 Wash. App. 905, 965 P.2d 654 (1998). We find that Simpson is a financial business and reverse the Court of Appeals.

FACTS

Simpson¹ was formed in 1985 as the parent holding company of four corporations: Simpson Timber Company and its subsidiaries; Simpson Paper Company and its subsidiaries; Simpson (formerly Western Pacific) Extruded Plastics² and its subsidiary; and Simpson Foreign Sales Company. At all relevant times, Simpson was a one-hundred-percent stockholder in each of these corporations. Collectively, Simpson's subsidiaries are engaged in timber production, forest products manufacturing, and plastic pipe manufacturing.

Simpson itself does not manufacture any tangible product. Instead, through its 172 employees,³ it provides a variety of shared services for its group of subsidiaries. These administrative and managerial services include: accounting/finance; credit; human resources; legal; management information services; public affairs; risk; tax; treasury; cash management; property management/real estate; land and timber; and corporate administration. Simpson does not charge its subsidiaries for the array of services it provides. Rather, it receives the majority of its revenue in the form of subsidiary dividends, which are not subject to B & O taxation. See RCW 82.04.4281 ("In computing tax there may be deducted from the measure of tax amounts ... derived as dividends by a parent from its subsidiary corporations.")

In addition to subsidiary dividends, Simpson derives investment income from three primary sources: interest on bank deposits, stock dividends, and profits from market hedging and futures trading.⁴ These sources of revenue made up only a small percentage of Simpson's gross income for the years at issue in this case, averaging approximately 4.26 percent. It is this "investment income," found subject to B & O tax by the Department, which lies at the heart of this dispute.

The first item of investment income is Simpson's interest income from overnight cash deposits of its subsidiaries' excess funds. This is a by-product of Simpson's "cash management" system, which was designed for the stated purpose of "fully utiliz[ing] all of the liquid resources of the Simpson group of related entities." Clerk's Papers (CP) at 94. Simpson has cash management systems in place at Seafirst Bank, Mellon Bank, and Wells Fargo Bank. Each Simpson subsidiary maintains at least one deposit, as well as one disbursement account, while Simpson maintains concentration accounts. Funds are transferred from subsidiary to subsidiary, based on their respective fiscal needs, through Simpson's concentration accounts. This enables Simpson's subsidiaries to avoid outside borrowing until the excess cash of each subsidiary is depleted. No written evidences of indebtedness memorialize these transfers.

Each subsidiary account maintains a daily target balance of zero. At the end of each day all excess funds are "swept" into Simpson's concentration accounts and invested in interest bearing overnight deposit accounts. The interest earned is then included in the beginning daily balance of each concentration account. It is unclear what ultimately happens with this interest income, but it is clear that there is no pro rata redistribution of funds.

The second item of investment income is Simpson's stock dividends. Simpson owns approximately one hundred shares of stock in each of its publicly traded competitors. This stock is purchased as a means of tracking its competitors' businesses and obtaining financial information that is available to shareholders. After financial information is collected it is placed in an industry database, maintained by Simpson, in order to assess Simpson's performance against competitors and help in the setting of financial rating objectives.

If a stock splits or pays out dividends, Simpson may be left with more than one hundred shares of a given stock. When the number of shares has increased to a point where it is practical, Simpson has, from "time-to-time," sold excess shares to bring the balance down to one hundred. CP at 98. According to Simpson, this stock portfolio was acquired "strictly with the objective of gaining competitive financial and other public information about these competitor companies." Id.

Two notable exceptions exist to Simpson's general practice. From sometime prior to 1988 until 1993, Simpson owned 226,500⁵ shares of Longview Fibre stock, worth approximately $1,228,460. This investment returned an average annual dividend of $117,780. In 1993, Simpson sold all but 100 shares of this stock. Simpson also owned 86,507 shares of Palmer G. Lewis stock, worth $879,850.40. All of this stock was sold in 1988. Simpson concedes that these positions were "purchased ... for investment purposes." CP at 98.

Simpson also receives investment income from market hedging and futures trading. Lumber and plywood commodity price hedging was in operation at Simpson until April of 1990 for the stated purpose of "reduc[ing] the price volatility inherent in the sale of lumber and plywood commodity items." CP at 111. The price hedge was accomplished by selling contracts for the future delivery of lumber on the Chicago Mercantile Exchange when those prices exceeded the Corporate Plan Forecast or were higher than regular customers were willing to pay at the time. When the expiration for the futures contract approached, the contract was closed-out and an equal volume of lumber was sold to Simpson's normal customers at the market price. If commodity prices had fallen since the date of the original futures contract sale, there would be a profit from the futures contract.

If market prices had risen since the sale of the futures contract, a loss would be recorded in the Futures Trading account when the contract was closed, but the lumber prices received from Simpson's customers would be higher than expected several months earlier. The gains and losses from the futures contracts were accumulated in one ledger account for financial control purposes. The amount was used to adjust average sales per thousand feet in quarterly or annual comparisons.

Based on the above sources of investment income, the Department assessed Simpson B & O taxes and interest in the amount of $137,420 for the period of January 1, 1988, through December 31, 1991. These amounts were assessed under the "service and other activities" tax classification and were a tax on interest, dividends, and other investment income. CP at 35. This assessment was based on a Department finding that Simpson is a "financial business" for purposes of section 4281 and therefore not entitled to deduct its investment income in computing its B & O tax liability. Simpson, under protest, paid this assessment in full on March 1, 1995.

For the period between January 1, 1992, and May 31, 1996, Simpson paid an additional $45,307 in B & O taxes under the "service and other activities" or "financial business services" classifications.⁶ CP at 35-36. These taxes, for the years 1992 on, were paid by Simpson, beginning on July 12, 1995, in order to avoid the possible imposition of penalties or interest, see RCW 82.32.090 and RCW 82.32.050, and permitting Simpson to file a refund action in superior court. RCW 82.32.180. Even though Simpson paid the assessed taxes for this period, it continued to protest the Department's assessment.

Simpson contested the Department's assessment and sought relief through a series of administrative appeals beginning in 1993. In each appeal, Simpson's claimed entitlement to a section 4281 deduction was rejected. On March 19, 1996, the date of Simpson's final appeal, the Interpretations and Appeals Division of the Department of Revenue issued Determination 96-046, making a specific finding that Simpson is a "financial business" and therefore not entitled to deduct its investment income under section 4281. CP at 64.

Simpson then turned to the courts, bringing a refund action in Thurston County Superior Court on July 1, 1996. Simpson sought summary judgment in a motion filed on August 1, 1996, claiming it was not a "financial business." CP at 8, 17-23. On May 6, 1997, the Thurston County Superior Court denied Simpson's motion and granted summary judgment to the Department, finding that Simpson is a "financial...