Amerada Hess Corp. v. STATE EX REL. TAX

• Decision Date: 31 August 2005
• Docket Number: No. 20040378.,20040378.
• Citation: 704 N.W.2d 8,2005 ND 155
• Parties: AMERADA HESS CORPORATION; Tioga Gas Plant, Inc.; Solar Gas, Inc.; and AH 1980 Program, Inc., Appellants v. STATE of North Dakota, by and through its TAX COMMISSIONER, Cory Fong, Appellee.
• Court: North Dakota Supreme Court

704 N.W.2d 8

2005 ND 155

AMERADA HESS CORPORATION; Tioga Gas Plant, Inc.; Solar Gas, Inc.; and AH 1980 Program, Inc., Appellants v. STATE of North Dakota, by and through its TAX COMMISSIONER, Cory Fong, Appellee.

No. 20040378.

Supreme Court of North Dakota.

August 31, 2005.

John W. Morrison (argued), Fleck, Mather & Strutz, Bismarck, N.D., and Joseph M. Aspray (appeared), Senior Tax Counselor, Woodbridge, N.J., for appellants.

Robert W. Wirtz (argued) and Donnita A. Wald (appeared), Special Assistant Attorneys General, Bismarck, N.D., for appellee.

MARING, Justice.

[¶ 1] Amerada Hess Corporation ("Amerada"), Tioga Gas Plant, Inc. ("Tioga"), Solar Gas, Inc. ("Solar"), and AH 1980 Program, Inc. ("AH") appealed from a judgment affirming an order of the State Tax Commissioner assessing them more than $3,000,000 in additional back taxes, penalty and interest. We conclude the Commissioner did not err in his interpretation of the applicable tax statutes in assessing the additional taxes, penalty and interest. We affirm.

I

[¶ 2] Amerada and its wholly-owned subsidiaries, Tioga, Solar and AH, each conducted business in North Dakota during tax years ending December 31, 1994, through December 31, 1998. Amerada was part of a unitary business group during those tax years that elected to apportion its income under the water's edge method allowed by N.D.C.C. ch. 57-38.4. The Commissioner audited Amerada's 1994 through 1998 tax returns and issued a notice of determination on November 13, 2000, that assessed additional tax, penalty and interest in the amount of $2,385,604, $119,280, and $756,184, respectively. Amerada protested the determination and, after an informal conference held in June 2001 to attempt to resolve the parties' differences concerning the audit, the Commissioner issued a notice of reconsideration and assessment. Amerada filed an administrative complaint on November 26, 2001, challenging the Commissioner's stance on two issues the parties failed to resolve. Amerada claimed the Commissioner incorrectly concluded that the amount of foreign taxes it paid, which is treated under federal law as a dividend, may be included as a dividend for purposes of North Dakota apportionable income but may not be treated as a dividend and partially excluded under N.D.C.C. § 57-38.4-02(2), which allows a partial exclusion for "foreign dividends." Amerada also claimed the Commissioner incorrectly concluded that a taxpayer who has elected to apportion its income under the water's edge method must include both the income of an 80/20 subsidiary corporation and dividends distributed from that income in its North Dakota apportionable income because this allegedly results in improper double taxation.

[¶ 3] A hearing was held before an administrative law judge ("ALJ") on February 10, 2004. In recommended findings of fact, conclusions of law, and order, the ALJ ruled in favor of the Commissioner. The Commissioner adopted the ALJ's recommendations and assessed Amerada additional income tax of $2,298,737, penalty of $114,937, and interest of $1,001,947. Amerada and its subsidiaries appealed to the district court, which affirmed the Commissioner's decision. This appeal followed.

II

[¶ 4] Amerada and its subsidiaries argue the Commissioner erred as a matter of law in assessing additional taxes, penalty and interest for the tax years in question.

[¶ 5] Our review of a decision by an administrative agency is governed by N.D.C.C. ch. 28-32. State ex rel. Clayburgh v. American West Community Promotions, Inc., 2002 ND 98, ¶ 5, 645 N.W.2d 196. As we said in Vogel v. Workforce Safety and Ins., 2005 ND 43, ¶ 5, 693 N.W.2d 8 (quoting Elshaug v. Workforce Safety & Ins., 2003 ND 177, ¶ 12, 671 N.W.2d 784), this Court has a limited role in appeals from administrative agency decisions:

Under N.D.C.C. §§ 28-32-46 and 28-32-49, the district court, and this Court on further appeal, must affirm an administrative agency decision unless one of the following is present:

1. The order is not in accordance with the law.

2. The order is in violation of the constitutional rights of the appellant.

3. The provisions of this chapter have not been complied with in the proceedings before the agency.

4. The rules or procedure of the agency have not afforded the appellant a fair hearing.

5. The findings of fact made by the agency are not supported by a preponderance of the evidence.

6. The conclusions of law and order of the agency are not supported by its findings of fact.

7. The findings of fact made by the agency do not sufficiently address the evidence presented to the agency by the appellant.

8. The conclusions of law and order of the agency do not sufficiently explain the agency's rationale for not adopting any contrary recommendations by a hearing officer or an administrative law judge.

We exercise restraint in deciding whether an agency's findings of fact are supported by a preponderance of the evidence, and we do not make independent findings or substitute our judgment for that of the agency. Barnes v. Workforce Safety and Ins., 2003 ND 141, ¶ 9, 668 N.W.2d 290. "We decide only whether a reasoning mind reasonably could have decided the agency's findings were proven by the weight of the evidence from the entire record." Id. "Questions of law, including the interpretation of a statute, are fully reviewable on appeal from an administrative decision." Id.

A

[¶ 6] Amerada and its wholly-owned subsidiaries, Tioga, Solar and AH (collectively "Amerada"), contend the Commissioner erred in refusing to allow partial exclusion of I.R.C. § 78 dividends they received because they assert those dividends constitute "foreign dividends" for purposes of N.D.C.C. § 57-38.4-02(2). Some background is helpful to understand the parties' positions.

[¶ 7] Because Amerada conducted business both within and without North Dakota during the pertinent tax years, it must apportion its business income under a three-factor formula set forth in the Uniform Division of Income for Tax Purposes Act ("UDITPA"), N.D.C.C. ch. 57-38.1. Under this formula, to determine the portion of business income attributed to North Dakota, a corporate taxpayer's "income is multiplied by a fraction representing the arithmetic average of the ratios of sales, payroll, and property values within the state to those of the corporation as a whole." Minnesota Mining and Mfg. Co. v. Conrad, 418 N.W.2d 276, 277 (N.D.1987). An interrelated part of UDITPA formula apportionment is the unitary business principle, which is applied to "`a group of functionally integrated corporate units which are so interrelated and interdependent that it becomes relatively impossible for one State to determine the net income generated by a particular corporation's activities within the State and therefore allocable to that State for purposes of taxation.'" Id. at 277 (quoting Caterpillar Tractor Co. v. Lenckos, 84 Ill.2d 102, 49 Ill.Dec. 329, 417 N.E.2d 1343, 1351 (1981)). The unitary business method takes the combined overall worldwide income of the corporate taxpayer and all of its foreign and domestic subsidiaries and "apportions it among the states in which the enterprise carries on its business on the theory that activities in each of the states where an enterprise operates contribute to its overall profit." Minnesota Mining, 418 N.W.2d at 277. After eliminating intercorporate dividends or other transfers of funds among the members of the worldwide unitary business group, the adjusted amount is multiplied by the UDITPA apportionment formula to reflect the income that is taxable in North Dakota. Id. See also N.D.C.C. § 57-38.4-01(9) (defining worldwide combined report as "a combined report with respect to a unitary affiliated group irrespective of the country or countries in which any member of the affiliated group is incorporated or conducts business activity").

[¶ 8] Although the Commissioner since 1973 has required worldwide unitary apportionment, the legislature in 1987 enacted N.D.C.C. ch. 57-38.4, which allows a corporation required to file a worldwide unitary combined report to elect to apportion its income using the "water's edge" method. Minnesota Mining, 418 N.W.2d at 278 n. 2. In general, the water's edge method attempts to limit the reach of unitary income taxation to the borders of the United States. Id. Under the water's edge method, the water's edge group is limited to a list of entities described in N.D.C.C. § 57-38.4-01(8).

[¶ 9] Amerada's federal taxable income is relevant in calculating its state tax liability because, under North Dakota law, federal taxable income is the simplified starting point for computing state income tax. Hamich, Inc. v. State, 1997 ND 110, ¶ 16, 564 N.W.2d 640. The relevant federal tax laws concerning Amerada's first issue involve the foreign dividend "gross-up." In International Minerals and Chem. Corp. v. Heitkamp, 417 N.W.2d 791, 794 (N.D.1987), this Court explained the foreign dividend gross-up rules:

In computing its federal income tax liability, a corporate taxpayer which pays income tax to a foreign country may either deduct the tax paid to the foreign country under I.R.C. § 164(a)(3) or credit that amount under I.R.C. § 901 against its tax liability. While § 901 provides a credit for foreign taxes a corporation actually paid, I.R.C. § 902 additionally allows a domestic corporation, owning at least ten percent of the voting stock of a foreign subsidiary from which it receives a dividend, a derivative credit for the foreign income taxes paid by its foreign subsidiary on its accumulated profits. In effect, under § 902 the domestic corporation is "deemed" to have paid a portion of the foreign taxes actually paid or accrued by the foreign subsidiary. See B. Bittker and J. Eustice, Federal Income Taxation of Corporations and Shareholders ¶ 17.11 (4th ed.1979); 34 Am.Jur.2d Federal Taxation ¶ 8412 (1987).

If a corporate taxpayer elects to take the § 902 "deemed paid" foreign tax

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