Appeal of Morton Thiokol, Inc., 67954

• Decision Date: 10 December 1993
• Docket Number: No. 67954,67954
• Citation: 254 Kan. 23,864 P.2d 1175
• Parties: In the Matter of the Appeal of MORTON THIOKOL, INC., From an Order of the Board of Tax Appeals.
• Court: Kansas Supreme Court

Page 1175

864 P.2d 1175

254 Kan. 23

In the Matter of the Appeal of MORTON THIOKOL, INC., From an Order of the Board of Tax Appeals.

No. 67954.

Supreme Court of Kansas.

Dec. 10, 1993.

Syllabus by the Court

In an appeal by the taxpayer, Morton Thiokol, Inc., from an order of the Board of Tax Appeals affirming the assessment of additional corporate income tax against the taxpayer, the record is examined and it is held: The Board of Tax Appeals was correct in upholding (1) the use of the domestic combination method in assessing the corporate income tax liability of the taxpayer, and (2) the treatment of dividends from taxpayer's foreign subsidiary as apportionable business income. It is also held that the use of the domestic combination method and the apportionment of the taxpayer's foreign dividends to Kansas does not violate the Due Process Clause of the Fourteenth Amendment or the Commerce Clause (Art. I, § 8, cl. 3) of the United States Constitution.

Gerald J. Letourneau, of Goodell, Stratton, Edmonds & Palmer, Topeka, argued the cause and was on the brief, for appellant.

David Prager, III, of the Kansas Dept. of Revenue, argued the cause, and Mark A. Burghart, Gen. Counsel, was with him on the briefs, for appellee.

William L. Goldman, of Lee, Toomey & Kent, Chartered, Washington, DC, and Anne G. Batter, of the same firm, were on the brief, for amicus curiae Committee on State Taxation.

ALLEGRUCCI, Justice:

Morton Thiokol, Inc., (Morton Thiokol) appeals from an order of the Board of Tax Appeals (BOTA). The Kansas Department of Revenue (Revenue) assessed additional corporate income tax of $82,607 plus interest of $49,732 against Morton Thiokol for fiscal years ending June 30, 1981, through June 30, 1983. The additional tax resulted principally from (1) use of the domestic combination method of apportioning income and expenses for the multijurisdictional corporation and (2) the treatment of foreign dividends as apportionable business income. The assessment was upheld by the Kansas Director of Taxation (Director), and BOTA affirmed the Director's order. The case was transferred from the Court of Appeals on this court's motion, pursuant to K.S.A. 20-3018(c).

Morton Thiokol is a Delaware corporation, and it stipulated that it is unitary with all its domestic and foreign subsidiary corporations. The Multistate Tax Commission Corporate Income Tax Audit Procedure Guideline Manual, February 1985, defines a unitary business as follows:

"A business is considered to be a unitary business, whether it conducts its operations through one corporation or through several corporations, if and to the extent that its various components 'contribute to or are dependent upon' each other. [Citation omitted.] An indicator of such interrelationships is a 'flow of value' between the components."

In considering a multistate corporation, this court defined a unitary business as follows:

"A multi-state business is a unitary business for income tax purposes when the operations conducted in one state benefit and are benefited by the operations conducted in another state or states. If its various parts are interdependent and of mutual benefit so as to form one integral business rather than several business entities, it is unitary." Crawford Manufacturing Co. v. State Comm. of Revenue and Taxation, 180 Kan. 352, Syl. p 1, 304 P.2d 504 (1956).

Morton Thiokol has subsidiaries incorporated both in the United States (domestic) and elsewhere (foreign). Morton Thiokol's multiple corporate entities, both domestic and foreign, are parts of a single unitary enterprise. Thus, Morton Thiokol is a multijurisdictional and unitary corporation. Because it does business in Kansas, it is subject to Kansas corporate income tax.

Kansas treats the entire business of a unitary business together, and the various corporate parts of the unitary business file a combined tax return in the state. Kansas taxes an apportioned share of the entire business of a multijurisdictional unitary enterprise. That apportioned share in theory bears some relation to the value earned in the state. In other words, apportionment assigns to Kansas its share of the corporation's tax base. The formulary apportionment, of necessity, is abstract and somewhat arbitrary. There is no contention in this case, however, that some method of combined filing and apportionment should not be used. Revenue used the domestic combination method to calculate Morton Thiokol's Kansas tax liability, and the corporation advocates use of the worldwide combination method. Therein lies the root of the problem in this case.

In its order, BOTA quoted the following explanation of the two methods:

" 'Under [the domestic combination method], a portion of the combined taxable income of those corporations which are incorporated in the U.S. and which are part of a unitary business enterprise doing business in Kansas is included even though in some instances they actually operate in foreign countries. Dividends expatriated to domestic corporations from their unitary foreign organized subsidiaries are also required to be included in the Kansas tax base.

'Once the tax base has been determined, a three-factor formula based on property, sales, and payroll is utilized to apportion to the state that business income which is attributable to the business activity of the business enterprise within the state. However, before the income generated by a multijurisdictional business enterprise may be taxed under the apportionment provisions, the business is required to be unitary.

'A unitary business principle operating through a worldwide combination policy differs from the Kansas domestic combination policy. Under the worldwide combination policy, the total income of both the domestic companies and foreign unitary subsidiaries is apportioned using worldwide payroll, sales, and property factors in the denominator of the apportionment ratio. Under the domestic combination policy, only the federal taxable income of the domestic companies which includes only the dividend income from the unitary foreign subsidiaries is apportioned using the factors of the domestic companies within the apportionment formula.' (St. Ex. I, p. Inc-9 to Inc-11, Final Report and Recommendations, Kansas Tax Review Commission, June 1985)."

Kansas taxable income (Kansas tax base) is determined by reference to federal taxable income. K.S.A. 79-32,138(a).

In the case of Morton Thiokol, it appears that the income figure remains the same regardless of method, but the figure which is divided into it is greater with the worldwide combination method than with the domestic combination method; i.e., the numerator of the ratio remains the same but the denominator increases with the worldwide combination method. Thus, the resulting apportionment is less when the worldwide combination method is used than when the domestic combination method is used. The bottom line is that the taxes assessed are greater when the latter method is used.

The issues raised by Morton Thiokol on appeal are presented in the following way: Morton Thiokol argues that it has been denied due process by Revenue's changing tax rules and policies without issuing regulations. It argues that Revenue's treatment of foreign dividends is improper under Kraft Foods v. Iowa Dept. of Rev., 505 U.S. 71, 112 S.Ct. 2365, 120 L.Ed.2d 59 (1992). It argues that the domestic combination method is contrary to K.S.A. 79-32,141 and K.A.R. 92-12-77. And it argues that it has been denied equal protection by Revenue's differential treatment of similarly situated taxpayers.

Revenue responds as follows: Morton Thiokol must use the domestic combination method. Morton Thiokol must apportion its foreign dividend income; i.e., the foreign dividend income must be included in Morton Thiokol's taxable income. Morton Thiokol's due process, fundamental fairness, or estoppel claim does not preclude the use of the domestic combination method or apportionment of foreign dividends.

Before we consider the merits of Morton Thiokol's argument, we need to state our scope of review. K.S.A. 74-2426(c) provides that BOTA's order is subject to review in accordance with the Act for Judicial Review and Civil Enforcement of Agency Actions, K.S.A. 77-601 et seq. K.S.A. 77-621(a)(1) provides that Morton Thiokol bears the burden of proving the invalidity of the agency action. K.S.A. 77-621(c) provides that the court may grant relief only when it has made certain determinations, including that the agency erroneously interpreted or applied the law, that the agency made determinations of fact not supported by substantial evidence, that the agency engaged in an unlawful procedure or failed to follow prescribed procedure, or that the agency acted unreasonably, arbitrarily, or capriciously.

We first consider if Morton Thiokol was denied due process by Revenue's changing tax rules and policies without issuing regulations. Morton Thiokol complains that Revenue has failed to issue regulations relating to the Uniform Division of Income for Tax Purposes Act, K.S.A. 79-3271 et seq. (UDITPA). According to Revenue,

"U.D.I.T.P.A. apportions and allocates income. U.D.I.T.P.A. does not define the income base that is to be apportioned and allocated. '[T]he uniform act assumes that the existing state legislation has defined the base of the tax and that the only remaining problem is the amount of the base that should be assigned to the particular taxing jurisdiction.' " (Emphasis added.)

Morton Thiokol argues that the absence of regulations permits Revenue to change its requirements capriciously, fail to notify taxpayers of changes, and administer tax laws on a case-by-case basis. The effect Morton Thiokol complains of is being audited three times, for tax years 1973-76, 1977-80, and 1981-83, with Revenue requiring it to compute its tax in three different ways.

In this regard, the pertinent portions of BOTA's order state:

"The Appellant...