Quest Diagnostics Clinical Labs., Inc. v. Barfield

• Decision Date: 09 September 2016
• Docket Number: 2015 CA 0926
• Parties: QUEST DIAGNOSTICS CLINICAL LABORATORIES, INC. v. T.A. "TIM" BARFIELD, JR., SECRETARY, DEPARTMENT OF REVENUE, STATE OF LOUISIANA; AND THE STATE OF LOUISIANA
• Court: Court of Appeal of Louisiana — District of US

QUEST DIAGNOSTICS CLINICAL LABORATORIES, INC.
v.
T.A. "TIM" BARFIELD, JR., SECRETARY, DEPARTMENT OF REVENUE,
STATE OF LOUISIANA; AND THE STATE OF LOUISIANA

2015 CA 0926

STATE OF LOUISIANA COURT OF APPEAL FIRST CIRCUIT

September 9, 2016

NOT DESIGNATED FOR PUBLICATION

On Appeal from the Louisiana Board of Tax Appeals State of Louisiana
No. 2013-8633

Judge Anthony J. Graphia, (ret.), Chairman Cade R. Cole, Vice-chairman; Charles Malone; Cynthia Hooks; and Joe Stevenson

Katheryn S. Friel
Justin B. Stone
New Orleans, LA
and
John F. Fletcher
Jackson, MS

Attorneys for Appellant
Quest Diagnostics Clinical
Laboratories, Inc.

Miranda Y. Conner
Antonio Ferachi
Brandea Averett
Debra Morris
Brian Dejean
Baton Rouge, LA

Attorneys for Appellee
Secretary of Department of Revenue
State of Louisiana

BEFORE: GUIDRY, HOLDRIDGE, AND CHUTZ, JJ.

Page 2

HOLDRIDGE, J.

Quest Diagnostic Clinical Laboratories, Inc. (Quest), a nonresident¹ corporation appeals a Louisiana Board of Tax Appeals' (Board) judgment dismissing its request for a refund for overpayments of its 2005 and 2006 income taxes.² Ultimately, the issue of Quest's entitlement to a refund turns upon whether, for the purposes of apportionment, the income it derived from the diagnostic testing of Louisiana patient specimens performed at its Houston, Texas regional laboratory³ was attributable to Texas (as Quest contends) or to Louisiana (as the Department of Revenue contends). For the reasons set forth herein, we conclude that such income was attributable to Texas. Therefore, we reverse the judgment of the Board and render judgment in favor of Quest.

FACTUAL AND PROCEDURAL HISTORY

At all times pertinent to this appeal, Quest operated a multistate network of laboratories where it performed medically-prescribed, diagnostic testing services. Quest's network primarily⁴ consisted of large "regional laboratories", which were supported by smaller "rapid response laboratories." According to Quest, most of its income was derived from the testing performed at its regional laboratories, where it employed a full staff of medical professionals who utilized "high-tech, sophisticated, and costly instruments and equipment" to perform a wide variety of diagnostic tests. In contrast, the testing performed at its rapid response laboratories was confined to a limited menu of basic tests with a quick turnaround, such as

Page 3

blood typing. Consequently, the particular type of test prescribed by a physician dictated whether a patient's specimen was sent to a regional laboratory or a rapid response laboratory.

Quest generally obtained a patient's specimen in one of three ways. A Quest employee-phlebotomist would either collect the specimen from the patient at the prescribing physician's office or clinic or at one of Quest's independent "Patient Service Centers." Alternatively, an employee of the prescribing physician or clinic would obtain the specimen from the patient and deposit it in a designated lock box for a Quest courier to retrieve. All specimens were then forwarded to the appropriate Quest laboratory for testing. Once the testing was completed, Quest medical personnel analyzed and certified the results, which were relayed to the prescribing physician.

Prior to Hurricane Katrina, Quest operated a regional laboratory in Metairie, Louisiana where it performed most of the diagnostic testing of Louisiana patient specimens. Consequently, when apportioning its income to determine its annual Louisiana income tax obligation, Quest claimed that it historically (and properly) attributed the income it derived from the testing of Louisiana patient specimens to Louisiana (where the testing services were performed). However, in 2005, Quest's business activities in Louisiana changed significantly when its Metairie regional laboratory was destroyed by Hurricane Katrina. Out of necessity, Quest began forwarding Louisiana patient specimens to its regional laboratory in Houston, Texas for testing.

In 2006, Quest rebuilt its Metairie laboratory. However, the new Metairie laboratory was not reopened as a full-service regional laboratory, as before Katrina; instead, it was reopened as a rapid response laboratory, capable of performing only a limited number of basic tests. Consequently, a large number of

Page 4

Louisiana patient specimens continued to be forwarded to the Houston regional laboratory for testing.

While undergoing a subsequent audit, Quest discovered that it had overpaid its Louisiana income taxes for the tax periods ending on December 31, 2005 and December 31, 2006. According to Quest, when apportioning its income, it had erroneously continued to attribute all of the income derived from its post-Katrina diagnostic testing of Louisiana patient specimens to Louisiana, when, in fact, a substantial amount of that testing had been performed in Texas. Therefore, Quest filed amended Louisiana corporate income tax returns for the years 2005 and 2006, seeking refunds of $118,476.00 and $73,214.00, respectively (collectively "refund request" or "refund"). In its amended returns, Quest attributed to Louisiana all of the income it had derived from the testing services performed at both the "old" and "new" Metairie laboratories. However, with respect to the income it derived from the testing of Louisiana patient specimens performed at its Houston regional laboratory, Quest now attributed only a portion of that income to Louisiana --to account for the specimen collection services⁵ it performed in Louisiana relative to those tests-- and attributed the remainder to Texas, where the diagnostic testing of those specimens was performed. It is this latter income, attributed to Texas that is in dispute ("disputed income").

The Department of Revenue (Department) effectively denied Quest's refund request by failing to take any action on its amended returns. Quest then appealed to the Board, filing a petition for refund alleging it had overpaid its 2005 and 2006 income tax obligations in error. See La. R.S. 47:1625.⁶ According to Quest, it had

Page 5

failed to adjust its internal income sourcing methods to address the changes in its business following Hurricane Katrina, and therefore, when apportioning its income in its original tax returns, it had erroneously attributed to Louisiana income that it should have attributed to Texas. The Department disputed Quest's right to a refund asserting that Quest had properly apportioned its income in its original tax returns.

Both parties agreed that Quest's entitlement to a refund was controlled by Louisiana's apportionment formula statute, La. R.S. 47:287.95. It was undisputed that Quest, a unitary, multistate business, was required to apportion a percentage of its income to Louisiana utilizing the appropriate formula in La. R.S. 47:287.95 in order to determine its annual Louisiana corporate income tax liability.⁷ See La. R.S. 47:287.94(B). Louisiana Revised Statute 47:287.95 sets forth specific formulas to determine the appropriate apportionment percentage "for air, pipeline, other transportation businesses, and certain service enterprises," as well as a general formula "for manufacturing, merchandising[,] and any other business for which a formula is not specifically prescribed." 61 LAC Pt I, § 1134.

Similar to most other states' apportionment formulas, the various formulas in La. R.S. 47:287.95 involve ratios based on three factors -- payroll, revenue,⁸ and property. In simple terms, the payroll factor is the ratio of the taxpayer's in-state payroll to its payroll everywhere; the property factor is the ratio of the taxpayer's

Page 6

in-state property to its property everywhere; and, the revenue factor is the ratio of taxpayer's in-state revenues to its revenues everywhere. See John A. Swain, Reforming the State Corporate Income Tax: A Market State Approach to the Sourcing of Service Receipts, 83 Tul. L. Rev. 285, 288, 292 (2008). The formulary factors are intended to generally reflect the activity of a business within the state. Id.

While the Department and Quest agreed that La. R.S. 47:287.95 was controlling, they disagreed as to its proper interpretation and application. Specifically, they disputed: (1) whether Quest was required to apportion its income under the specific formula set forth in La. R.S. 47:287.95(D) or the general formula in La. R.S. 47:287.95 (F); and, (2) whether the disputed income was to be attributed to Louisiana in the numerator of the appropriate formula's revenue factor ratio.

With respect to the first issue, Quest maintained that it was a service business in which the use of property was not a substantial income-producing factor. Therefore, Quest contended that it was required to apportion its income using the two-factor formula (payroll and revenue) in La. R.S. 47:287.95(D), which provides:

Service enterprises. The Louisiana apportionment percent of any taxpayer whose net apportionable income is derived primarily from a service business in which the use of property is not a substantial income-producing factor shall be the arithmetical average of two ratios, as follows:

(1) The ratio of the amount paid by the taxpayer for salaries, wages, and other compensation for personal services rendered in Louisiana to the total amount paid by the taxpayer for salaries, wages, and other compensation for personal services in connection with the production of the net apportionable income.

(2) The ratio of the gross apportionable income of the taxpayer from Louisiana sources to the total gross apportionable income of the taxpayer.

Page 7

For the purposes of this Subsection, the gross apportionable income from Louisiana sources shall include the revenue from services performed in this state, and any other gross income derived entirely from sources within this state. [Emphasis added.]

Conversely, the Department argued that Quest's use of property, particularly its "high-tech, sophisticated, and costly [testing] instruments and equipment," was a substantial income-producing factor in its...