Geoffrey, Inc. v. Oklahoma Tax Com'n

• Decision Date: 23 December 2005
• Docket Number: No. 99,938.,99,938.
• Citation: 2006 OK CIV APP 27,132 P.3d 632
• Parties: GEOFFREY, INC., Appellant, v. The OKLAHOMA TAX COMMISSION, Appellee.
• Court: United States State Court of Appeals of Oklahoma. Court of Civil Appeals of Oklahoma

132 P.3d 632

2006 OK CIV APP 27

GEOFFREY, INC., Appellant, v.The OKLAHOMA TAX COMMISSION, Appellee.

No. 99,938.

Court of Civil Appeals of Oklahoma, Division No. 1.

December 23, 2005.

Certiorari Denied March 20, 2006.

As Corrected April 12, 2006.

Released for Publication by Order of the Court of Civil Appeals of Oklahoma, Division No. 1.

Appeal from the Oklahoma Tax Commission.

AFFIRMED.

Timothy M. Larason, Andrews Davis, Oklahoma City, OK, and Paul H. Frankel, Morrison & Foerster LLP, New York, NY, for Appellant.

Douglas B. Allen, General Counsel, Lyn Martin-Diehl and J.L. Miller, Assistant General Counsel, Oklahoma Tax Commission, Oklahoma City, OK, for Appellee.

OPINION

ADAMS, Presiding Judge.

¶ 1 Geoffrey, Inc. (Geoffrey), a Delaware corporation, appeals an Order of the Oklahoma Tax Commission(OTC) imposing corporate income tax on royalties Geoffrey received from the licensing of its intangible personal property during the years at issue, i.e.,1992, 1993 and 1994(tax years).Geoffrey argues such action violates the Commerce Clause¹ and the Due Process Clause² of the United States Constitution.We disagree and affirm the order.

STANDARD OF REVIEW

¶ 2The appellate courts will review the entire record made before an administrative agency acting in its adjudicatory capacity to determine whether the findings and conclusions set forth in the agency order are supported by substantial evidence.An adjudicatory order will be affirmed on appeal if the record contains substantial evidence in support of the facts upon which the decision is based and the order is otherwise free of error.Samson Hydrocarbons Co. v. Oklahoma Tax Commission,1998 OK 82, 976 P.2d 532.However, the OTC's legal rulings, like those made by a district court judge, are on review subject to an appellate court's plenary, independent and nondeferential re-examination.Blitz U.S.A., Inc. v. Oklahoma Tax Commission,2003 OK 50, 75 P.3d 883.

FACTS

¶ 3 The following facts are not in dispute.Geoffrey was formed and incorporated in 1984 in Delaware as part of a reorganization of its parent corporation, Toys `R'Us, Inc.(Toys, Inc.), which operates retail toy and children's stores in Oklahoma and other states under the "Toys `R'Us" and "Kids `R'Us" names.In exchange for Geoffrey's stock, Toys, Inc. assigned certain intangible personal property, i.e., trademarks, service marks and trade names, including the "Geoffrey Giraffe" logo (collectively, Marks), to Geoffrey.Geoffrey subsequently entered into a licensing agreement with Toys, Inc., which permitted the use of the Marks in exchange for the payment of royalty fees, equal to three percent of the licensee's net sales for use of the "Toys `R'Us" Marks and two percent of the licensee's net sales for use of the "Kids `R'Us" Marks.³Geoffrey's sole activity and source of income is the licensing of its Marks to Toys, Inc. and other affiliates/third-party licensees.Toys, Inc., Geoffrey's only licensee in Oklahoma, paid income tax to the State of Oklahoma during the tax years, however, its taxable income was reduced by the deduction of its royalty expenses paid to Geoffrey.

¶ 4 During the tax years, Geoffrey had no full-time employees, and for its one or more part-time employees, it leased office space in Delaware for $100 per month from an accounting firm with which it had contracted to perform bookkeeping and other services for Geoffrey for a $150 per month fee.Geoffrey also paid a $300,000 annual fee to Toys `R'Us-NJ, Inc., a wholly-owned subsidiary of Toys, Inc., for treasury, tax, accounting and management services, all of which were generally performed in New Jersey.Geoffrey does not own or lease real or tangible personal property, maintain an office or have any employees or officers in the state of Oklahoma.

¶ 5 Geoffrey did not file Oklahoma corporate income tax returns for the tax years at issue.By letter dated January 21, 1998, the OTC proposed to assess income tax and interest against Geoffrey in the amount of $163,189 and $90,154, respectively, for a total of $253,343.On February 19 of the same year, Geoffrey filed a formal protest objecting to the proposed assessment.After lengthy discovery, hearings were held before an Administrative Law Judge (ALJ).The ALJ recommended denial of Geoffrey's protest, and subsequently OTC issued a Final Order which adopted without modification the Findings of Fact, Conclusions of Law and Recommendations made by the ALJ.

¶ 6 In pertinent part, OTC concluded that:

It is evident that the Commerce Clause analysis for Oklahoma income tax must be controlled not by physical presence but by the substantial nexus announced in Complete Auto Transit.The licensing of [Geoffrey's] Marks for use within Oklahoma's economic market for the purpose of generating substantial income for [Geoffrey], establishes sufficient nexus between the royalty income and the legitimate interests of the State of Oklahoma and justifies the imposition of the state income tax. (Emphasis added.)

The OTC also concluded that Geoffrey "has purposefully directed its activities toward residents of this State and availed itself of the benefits of Oklahoma's economic market . . . Therefore, [Geoffrey] possesses the minimum connection with this State required by due process."After finding that Geoffrey was a unitary business, the ALJ found that its royalty income is apportionable, rather than allocable to the state of its legal domicile, by a "modified one-factor apportionment formula" using Geoffrey's sales factor, and that the formula "is an accurate reflection of the business done in Oklahoma" by Geoffrey.Geoffrey's appeal to this court followed.

ANALYSIS

¶ 7 Geoffrey argues that it is not subject to Oklahoma corporate income tax, claiming (1) the Commerce Clause requires a "substantial nexus" through in-state physical presence, and (2) the Due Process Clause requires "minimum contacts."It denies the existence of these requirements in this case,⁴ citing as authority for both arguments, Quill Corp. v. North Dakota,504 U.S. 298, 112 S.Ct. 1904, 119 L.Ed.2d 91(1992).

¶ 8 In Quill, the U.S. Supreme Court explained that the Due Process and Commerce Clauses, although "closely related," are "analytically distinct" and reflect "different constitutional concerns."504 U.S. at 305, 112 S.Ct. at 1909.As in Quill,we consider Geoffrey's arguments separately, beginning first with the alleged violation of the Commerce Clause.

Commerce Clause

¶ 9 Geoffrey contends the Quill Court"reaffirmed the `bright line, physical presence requirement'" for taxation under the Commerce Clause established in National Bellas Hess, Inc. v. Department of Revenue of Illinois,386 U.S. 753, 87 S.Ct. 1389, 18 L.Ed.2d 505(1967) and "held that the `substantial nexus' requirement of the Commerce Clause precludes a state from compelling a mail-order vendor with no physical presence in the taxing state to collect use taxes on goods sold to in-state purchasers (`physical presence requirement')."Therefore, Geoffrey argues, the OTC order is erroneous because the "`physical presence' requirement under Quill is equally applicable to Oklahoma corporate income tax."

¶ 10We do not agree with Geoffrey's interpretation that Quill expanded the Bellas Hess bright-line, physical presence requirement for use and sales taxes to all types of taxes.Both Bellas Hess and Quill involved attempts by a state to require out-of-state mail-order vendors to collect and pay use taxes on goods purchased within the state despite the vendors having no in-state outlets or sales representatives.The Quill Court went to great lengths to clarify that "while contemporary Commerce Clause jurisprudence might not dictate the same result if the issue were to arise for the first time today," the Bellas Hess bright-line, physical presence rule is "not inconsistent" with Complete Auto Transit, Inc. v. Brady,430 U.S. 274, 97 S.Ct. 1076, 51 L.Ed.2d 326(1977), which the Quill Court described as establishing "a four-part test that continues to govern the validity of state taxes under the Commerce Clause,"504 U.S. at 310, 112 S.Ct. at 1912(Emphasis added.)The Quill Court then explained:

Under Complete Auto's four-part test, we will sustain a tax against the Commerce Clause challenge so long as the "tax [1] is applied to an activity with a substantial nexus with the taxing state, [2] is fairly apportioned, [3] does not discriminate against interstate commerce, and [4] is fairly related to the services provided by the State."Bellas Hess concerns the first of these tests and stands for the proposition that a vendor whose only contacts with the taxing State are by mail or common carrier lacks the "substantial nexus" required by the Commerce Clause.504 U.S. at 311, 112 S.Ct. at 1912(Cite omitted; emphasis added.)⁵

¶ 11 After discussing post-Complete Autocases that approvingly cited Bellas Hess,the Quill Court held that "the nexus requirements of the Due Process and Commerce Clauses are not identical," explaining that:

[t]he due process nexus analysis requires that we ask whether an individual's connections with a State are substantial enough to legitimate the State's exercise of power over him . . . In contrast, the Commerce Clause and its nexus requirement are informed not so much by concerns about fairness for the individual defendant as by structural concerns about the effects of state regulation on the national economy. . . [w]e have ruled that [the Commerce] Clause . . . bars state regulations that unduly burden interstate commerce.

The Complete Auto analysis reflects these concerns about the national economy.The second and third parts of that analysis . . . prohibit taxes that pass an unfair share of the tax burden onto interstate commerce.The first and fourth prongs . . . limit the reach of state taxing authority so as to ensure that state taxation does not unduly burden interstate commerce.504 U.S. at 312-313, 112 S.Ct....