Woolworth Co v. Taxation and Revenue Department of State of New Mexico

• Decision Date: 29 June 1982
• Docket Number: No. 80-1745,80-1745
• Parties: F. W. WOOLWORTH CO., Appellant v. TAXATION AND REVENUE DEPARTMENT OF the STATE OF NEW MEXICO
• Court: U.S. Supreme Court

458 U.S. 354

102 S.Ct. 3128

73 L.Ed.2d 819

F. W. WOOLWORTH CO., Appellant

v TAXATION AND REVENUE DEPARTMENT OF the STATE OF NEW MEXICO.

No. 80-1745.

Argued April 19, 1982.

Decided June 29, 1982.

Rehearing Denied Oct. 18, 1982.

See 459 U.S. 961, 103 S.Ct. 274.

Syllabus

Appellant's principal place of business and commercial domicile are in New York, but it engages in chainstore retailing throughout the United States. Under its income tax laws, New Mexico distinguishes between "business" income, which it apportions between it and other States, and "nonbusiness" income, which it generally allocates to a single State on the basis of commercial domicile. Appellant reported its dividend income from four of its foreign subsidiaries, which engage in chainstore retailing in foreign countries, as "nonbusiness" income, none of which was to be allocated to New Mexico. Similarly, appellant did not report as New Mexico "business" income a sum, commonly known as "gross-up," that it never actually received from its foreign subsidiaries but that the Federal Government (for purposes of calculating appellant's federal foreign tax credit) deemed it to have received. On audit, appellee determined that appellant should have included in its apportionable New Mexico income both the dividends and the gross-up figure. Appellant's protest was denied, but appellee's decision was reversed by the New Mexico Court of Appeals. However, the New Mexico Supreme Court in turn reversed, holding that both the dividends and the gross-up figure were apportionable New Mexico income.

Held :

1. New Mexico's tax on a portion of the dividends received by appellant from its foreign subsidiaries fails to meet established due process standards. Pp. 362-372.

(a) The linchpin of apportionability for state income taxation of an interstate enterprise is the "unitary-business principle." Appellant—as owner of all of the stock of three of its subsidiaries and a majority interest in the fourth—potentially has the authority to operate these companies as integrated divisions of a single unitary business. But the potential to operate a company as part of a unitary business is not dispositive when, as here, the dividend income from the subsidiaries in fact is derived from unrelated business activity of the subsidiaries, each of which operates a discrete business enterprise. ASARCO Inc. v. Idaho State Tax Comm'n, 307 U.S. 458, 102 S.Ct. 3103, 73 L.Ed.2d 787; Mobil Oil Corp. v. Commissioner of Taxes of Vermont, 445 U.S. 425, 100 S.Ct. 1223, 63 L.Ed.2d 510. P. 362.

(b) For due process purposes, the income attributed to a State must be rationally related to values connected with the taxing State. This

limitation is not satisfied merely because the nondomiciliary parent corporation derives some economic benefit from its ownership of stock in another corporation. Pp. 363-364.

(c) None of the factors relevant to a State's right to tax dividends from foreign subsidiaries exists in this case. The record shows that appellant's and its subsidiaries' operations such as store site selection, advertising, accounting, purchasing, warehousing, and personnel training—were not functionally integrated. And except for the type of occasional oversight—with respect to capital structure, major debt, and dividends—that any parent gives to an investment in a subsidiary, there was little or no integration of business activities or centralization of management. Thus, the subsidiaries were not a part of a "unitary business." Exxon Corp. v. Wisconsin Dept. of Revenue, 447 U.S. 207, 100 S.Ct. 2109, 65 L.Ed.2d 66, distinguished. Pp. 364-372.

2. New Mexico's efforts to tax the "gross-up" income also contravenes the Due Process Clause. The "fictitious" gross-up figure is treated for federal foreign tax credit purposes as a dividend in the same manner as a dividend actually received by the domestic corporation from a foreign corporation. In this case the foreign tax credit arose from the taxation by foreign nations of appellant's foreign subsidiaries that had no unitary business relationship with New Mexico. Pp.372-373

95 N.M. 519, 624 P.2d 28, reversed.

William L. Goldman, Washington, D. C., for appellant.

Sarah E. Bennett, Santa Fe, N. M., for appellee.

Justice POWELL delivered the opinion of the Court.

The question is whether the Due Process Clause permits New Mexico to tax a portion of dividends that appellant F. W. Woolworth Co. received from foreign subsidiaries that do no business in New Mexico. We also must decide whether New Mexico may include within Woolworth's apportionable New Mexico income a sum, commonly known as "gross-up," that Woolworth calculated in order to claim a foreign tax credit on its federal income tax.

I

Woolworth's principal place of business and commercial domicile are in New York. It engages in retail business through chains of stores located in the United States, Puerto Rico, and the Virgin Islands. It sells a wide spectrum of merchandise, including dry goods, hardware, small appliances, confections, packaged goods, and fountain items. In the fiscal year ending January 31, 1977, Woolworth's gross domestic sales totalled approximately $2.5 billion, with New Mexico sales amounting to approximately $13 million—or about 0.5% of the gross figure. App. 57a.

Woolworth owns four foreign subsidiaries of relevance to this suit. Three are wholly owned: F. W. Woolworth GmbH,

in Germany; F. W. Woolworth, Ltd., in Canada; and F. W. Woolworth, S. A. de C. V. Mexico. F. W. Woolworth Co., Ltd., is an English corporation of which Woolworth owns 52.7%, with the remainder held and traded publicly. These four corporations also engage in chainstore retailing.¹ Together they paid Woolworth approximately $39.9 million in dividends during the fiscal year in question.

New Mexico adopted a version of the Uniform Division of Income for Tax Purposes Act in 1965, N.M.Stat.Ann. §§ 7-4-1—7-4-21 (1981), and joined the Multistate Tax Compact in 1967. §§ 7-5-1 7-5-7 (1981). See ASARCO Inc. v. Idaho State Tax Comm'n, 458 U.S. 307, 311-312, 102 S.Ct. 3103, 3107, 73 L.Ed.2d 787; United States Steel Corp. v. Multistate Tax Comm'n, 434 U.S. 452, 98 S.Ct. 799, 54 L.Ed.2d 682 (1978). Consequently the State distinguishes between "business" income,² which it apportions between it and other States for tax purposes,³ and "nonbusiness" income,⁴ which it generally

allocates to a single State on the basis of commercial domicile.⁵ Woolworth reported its dividend income of $39.9 million from its German, Canadian, Mexican, and English subsidiaries as "nonbusiness" income, none of which was to be allocated to New Mexico. Woolworth also treated as "nonbusiness" income a $1.6 million gain from a hedging transaction in British pounds. This transaction was undertaken for the purpose of insuring the payment of the British subsidiary's dividend against currency fluctuations. See App. 52a-54a. Similarly, Woolworth did not report as New Mexico "business" income $25.5 million of "gross-up" that it never actually received but that the Federal Government (for purposes of calculating Woolworth's federal foreign tax credit pursuant to 26 U.S.C. §§ 78, 901(a), and 902(a)) deemed Woolworth to have received from its foreign subsidiaries.⁶

On audit, the New Mexico Taxation and Revenue Department determined that, under state law, Woolworth should have included in its apportionable New Mexico income the dividends from its four foreign subsidiaries, the foreign exchange gain, and the $25.5 million gross-up figure. These additions increased Woolworth's apportioned New Mexico income from $84,622 to $401,518. App. 69a. The Department denied Woolworth's protest,⁷ but this decision was

reversed on appeal by the New Mexico Court of Appeals. F. W. Woolworth Co. v. Bureau of Revenue, 95 N.M. 542, 624 P.2d 51 (1979).

As a matter of state law, the Court of Appeals excluded from apportionable New Mexico income Woolworth's receipt of the dividends at issue. The court stated that "[t]here is no indication that the income from Woolworth's long-standing investments [in its subsidiaries] was used either in taxpayer's unitary domestic business or in its business conducted in New Mexico. . . ." Id., at 545, 624 P.2d, at 54. With respect to the gross-up issue, the Court of Appeals said that the State's "rigid insistence" on inclusion of this amount "is a refusal to recognize an obviously fictitious income figure, made artificial by the federal reporting requirements for a specific purpose. . . ." Id., at 543-544, 624 P.2d, at 52-53. The court said that " '[g]ross-up' in fact represents income to taxpayer's foreign subsidiaries [that] is paid out in taxes to foreign governments," id., at 544, 624 P.2d, at 53, and not income in fact to the parent. The court thus likewise excluded this sum from Woolworth's apportionable New Mexico income.⁸

The New Mexico Supreme Court reversed over one dissent. 95 N.M. 519, 624 P.2d 28 (1981). On the question whether Woolworth's receipt of dividends from its subsidiaries constituted apportionable New Mexico income, the court observed that, "[r]egrettably, it needs to be said that the State did a very poor job of inquiring into and developing the facts in this case." Id., at 524, 624 P.2d, at 33. The court nonetheless found substantial evidence to support the findings that the subsidiaries' dividend payments met the State's statutory test for inclusion in Woolworth's apportionable New Mexico income. On the constitutional issue, the court identified the "key question" after our decision in Mobil Oil

Corp. v. Commissioner of Taxes of Vermont, 445 U.S. 425, 100 S.Ct. 1223, 63 L.Ed.2d 510 (1980), as "whether those dividends were income earned in a unitary business." 95 N.M., at 528, 624 P.2d, at 37. The court stated:

"The [dividend] income [from Woolworth's subsidiaries] is obviously related to the mutual activities of the parent and its affiliates. The control over the subsidiaries, the interdependence, the...