Midrex Technologies, Inc. v. N.C. Department of Revenue
| Decision Date | 07 October 2015 |
| Docket Number | 14 CVS 13996 |
| Citation | 2015 NCBC 88 |
| Parties | MIDREX TECHNOLOGIES, INC., Petitioner, v. N.C. DEPARTMENT OF REVENUE, Respondent. |
| Court | Superior Court of North Carolina |
Robinson, Bradshaw & Hinson, P.A. by Thomas P. Holderness, Esq. for Petitioner Midrex Technologies, Inc.
North Carolina Department of Justice by Tenisha S. Jacobs, Esq. for Respondent North Carolina Department of Revenue.
Gregory P. McGuire Special Superior Court Judge for Complex Business Cases.
THIS MATTER is before the Court on the Petition for Judicial Review of a Final Agency Decision in this consolidated contested tax case pursuant to N.C. Gen. Stat. §§ 150B-43 (). On July 21, 2015, the Court held a hearing on the Petition for Judicial Review.
A. PROCEDURAL AND FACTUAL BACKGROUND.[1]
1. This matter involves a dispute between Petitioner Midrex Technologies, Inc. ("Midrex" or "Petitioner") and Respondent North Carolina Department of Revenue ("Department").[2] The issue before the Court is whether Petitioner is an "excluded corporation, " as that term is defined in G.S. § 105-130.4(a)(4), and therefore entitled to apportion its in-state and out-of-state income using a single-factor apportionment formula, as opposed to the standard three-factor apportionment formula provided in G.S. § 105-130.4(i).[3]
2. Articles 3 and 4 of the North Carolina Revenue Act ("Revenue Act"), G.S. § 105-1, et. seq., impose a State franchise tax and corporate income tax, respectively. While the State franchise tax is measured by "the total amount of [a corporation's] issued and outstanding capital stock, surplus and undivided profits" (collectively "Capital Stock Base"), G.S. § 105-122(b), the corporate income tax is levied on the State net income of a C-corporation. G.S. § 105-130.3. Notwithstanding these differences, when a corporation has income from sources both within and outside the State, it must determine the portion of its Capital Stock Base and State net income that is attributable to North Carolina. See G.S. §§ 105-122(c)(1), 105-130.4, respectively. In the context of tax law, this determination is commonly referred to as "allocation" and "apportionment."
3. In North Carolina, a corporation having income from business activity which is taxable both within and without this State is required to allocate and apportion in accordance with the provisions contained in the Act. To do so, a taxpayer must first determine which portion of the taxpayer's entire net income constitutes apportionable income. G.S. § 105-130.4(a)(1) defines "apportionable income" as "all income that is apportionable under the United States Constitution." For the vast majority of corporations with business activities in and outside of North Carolina, apportionable income is calculated using a formula consisting of three factors: property, payroll and sales (collectively "Three-Factor Apportionment Formula"). G.S. §105-130.4(i). Like many other states, however, North Carolina has enacted statutes providing specialized methods of apportionment for specific industries. One such statute is G.S. §105-130.4(r), which authorizes single factor apportionment for an excluded corporation. For purposes of the Act, an excluded corporation includes any corporation:
[E]ngaged in business as a building or construction contractor, a securities dealer, or a loan company or a corporation that receives more than fifty percent (50%) of its ordinary gross income from intangible property.
4. Midrex is a corporation with its headquarters in Charlotte, North Carolina. Midrex developed a process to convert iron ore into direct reduced iron ("DRI"), a premium iron that could be used as a feed for making steel ("Midrex Process"). The Midrex Process requires the construction of a specialized plant to create DRI ("Midrex Plant"). Midrex sells Midrex Plants, which can require multiple years to design and build and cost hundreds of millions of dollars.[4] A Midrex Plant requires a vertical shaft furnace positioned in a large structural steel tower approximately 300 to 400 feet tall, a reformer, compressors, material handling equipment, water treatment equipment, and utility distribution equipment for air, water, and electricity.
5. During the tax years at issue in this case, Midrex designed and sold Midrex Plants in Trinidad and Tobago, Russia, Malaysia, Pakistan, Argentina, Oman, the United States, Saudi Arabia, and Qatar. The sale of a Midrex Plant includes a number of components and services. To provide these services, and to ultimately deliver a Midrex Plant, Midrex operates in three primary business segments: (a) Engineering Services and Procurement Services; (b) Midrex Plant Sales; and (c) After Market Sales.[5]
6. Midrex's engineering services play a significant, if not primary, role in the construction and operation of a Midrex Plant. This work involves designing the various equipment and structures that compose the Midrex Plant. This design work can take one to two years and is largely performed at Midrex's headquarters by Midrex employees holding job titles such as "Refractory Specialists, " "Equipment Specialists, " "Mechanical Engineers, " and "Mechanical Designers." During this stage, Midrex also provides to its clients procurement and logistical services relating to the acquisition and transportation of equipment for Midrex Plants.
7. Midrex enters into written contracts for the sale of a Midrex Plant.[6] The contract to design and manufacture a Midrex Plant generally consists of two separate agreements: a "Purchase of Equipment and Services" agreement, and a "Technical Field Advisory Services" agreement (hereinafter, these agreements will be referred to collectively as the "Plant Sale Contract"). The Plant Sale Contracts include technical specifications for the Midrex Plant, payment terms, and warranty provisions. These contracts also detail the scope of work to be performed by each party to the contract.
8. Under these Plant Sale Contracts, a party other than Midrex, usually the client purchasing the Midrex Plant, bears the responsibility for the actual physical erection and installation of the Midrex Plant. The client generally is required to supply the raw materials and utilities, hire the necessary labor, and provide overall coordination of the project. The Purchase of Equipment and Services agreement contains various provisions regarding the respective scopes of work being undertaken by Midrex and its client. This agreement states that "[Midrex] will provide those engineering services for the Project as specifically set forth in Section 21 – Scope Matrix" and "will provide the Equipment as specifically set forth in Section 21 – Scope Matrix."[7] The Purchase of Equipment and Services agreement states that "Nu-Iron will provide certain basic and detailed engineering, equipment and materials, and construction of all equipment and materials for the Project generally as listed in Section 21 – Scope Matrix" and "[w]ith the exception of the Equipment and engineering to be provided by [Midrex] pursuant to this agreement, Nu-Iron will engineer, provide, erect and assemble all equipment and materials that are required for the complete operating Plant."[8] This agreement also provides that the "Client will provide overall coordination of the project, including construction schedule control, selection and/or administration of firms and civil design, civil works, PLANT erection, and design and installation of infrastructure required to make a complete, functional plant."[9]
9. Midrex's responsibilities with respect to the advisory services include providing technical advice regarding the erection and fabrication of, and installation of equipment in, the Midrex Plant.[10] The Technical Field Advisory Services agreement states that "MIDREX will provide specific technical advise (sic) during the PLANT construction primarily as it relates to the process, beginning with the civil works, and including all erection and fabrication at the PLANT SITE of the EQUIPMENT and materials."[11] The agreement provides that Midrex's field advisory services include "interpretation and explanation of drawings . . . specifications and other technical data, "advice to the CLIENT or his CONTRACTOR(S) in developing and updating a construction sequence for the orderly assembly and erection of the PLANT, " and "field inspection of the material, equipment, and workmanship."[12] The Technical Field Advisory Services agreement also places responsibility on Midrex for commissioning and start-up of the Midrex Plant.[13] The Technical Field Advisory Services agreement reiterates that ultimate responsibility for supervision of all work performed remains on the client.[14]
10. The "Section 21 – Scope Matrix" lists hundreds of individual tasks and processes associated with designing, constructing, and commissioning the Midrex Plant, and assigns responsibility for each task. As one would expect, the vast majority of tasks assigned to Midrex fall under engineering and erection advice, particularly with regard to installation of plant equipment.[15] On the other hand, the client maintains responsibility for virtually all "erection execution" tasks.[16]
11. A number of Midrex personnel are on-site during the construction of a Midrex Plant. Among the personnel typically sent to perform field work are erection managers, production managers, lead operations managers, mechanical supervisors, mechanical operations coordinators, material coordinators, piping supervisors, and others.[17] Once on site, these individuals assist the general contractor, who was retained by the owner, in scheduling and sequencing construction, determining manpower requirements, providing quality control, directing and supervising the installation of Midrex's equipment, and...
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