United States

Maryland: Circuit Court Upholds Assertion of Nexus Based on Corporate Parent’s Maryland Activities

Nov 09, 2015
From KPMG TaxWatch

Loading the player...

A Maryland Circuit Court recently affirmed a tax court decision holding that an out-of-state taxpayer had sufficient contacts with Maryland to require it to file returns and pay income taxes for the 1996 to 2003 tax years. The tax court’s opinion was largely governed by the 2014 Gore case in which Maryland’s highest court held that two subsidiaries of a company that did business, in part, in Maryland, had Maryland nexus because they lacked an existence separate and apart from the parent. The taxpayer at issue was formed to centralize the ownership of intellectual property related to a number of food brands. The taxpayer managed, controlled, promoted, and marketed its brand names and trademarks, and earned royalties from licensing its intellectual property to unrelated and related parties. It was not disputed that the taxpayer had no physical presence in Maryland and all of its activities related managing its intellectual property were performed out-of-state. The Comptroller’s basis for the assessment was that the taxpayer lacked an existence apart from the parent and that it was formed, in part, to shift income out of the reach of the Maryland taxing authorities. The taxpayer, not surprisingly, challenged the assessment arguing that it had “real and substantial economic substance” outside Maryland.

Maryland courts have held that nexus can be established when a parent company’s business in Maryland is what produces the income of a subsidiary. When analyzing the issue, the tax court noted that the existence of a unitary business being conducted in Maryland is not sufficient to confer nexus on an out-of-state unitary group member. However, when analyzing whether a taxpayer has economic substance separate from its parent, courts examine a number of factors—including those that indicate the existence of a unitary business. The tax court noted that from its formation the taxpayer had been, and continued to be, dependent on the parent for funding, support, officers and directors, etc. and that the taxpayer could not function without the parent’s corporate personnel, support services, and office space. The tax court concluded that the taxpayer’s income was produced from the parent’s Maryland business activity and therefore the taxpayer had Maryland nexus. Because the taxpayer had no Maryland property, payroll or sales, the tax court upheld the Comptroller’s use of a blended apportionment formula that was derived from five corporate affiliates that filed Maryland income tax returns. However, the court did agree to waive penalties and interest for reasonable cause, as it believed the taxpayer had a reasonable basis for challenging the law and acted in good faith.

On appeal, the taxpayer argued that the tax court erred when it upheld the Comptroller’s assessment because it failed to address, among other things, whether it had economic substance. Notably, the taxpayer asserted that it was an economically viable entity that should be distinguished from a phantom holding company subsisting solely off income provided by its parent. In the taxpayer’s view, the court erred when it failed to first analyze whether the taxpayer had substance. The taxpayer also argued that its trademarks and trade names were never technically used in Maryland, and therefore, no activity within Maryland generated income for the taxpayer. The circuit court, without much analysis, determined that the fact pattern was sufficiently similar to that in Gore and that the decision of the tax court was appropriate. The circuit court next reversed the tax court’s determination that all interest should be waived, holding that the taxpayer owed interest for the period after the issuance of the Gore decision on March 24, 2014. Please contact Mike Riscili at 717-260-4719 with questions on in the matter of ConAgra Brands, Inc.

For more information about TWIST or to view archived episodes, please visit our TWIST homepage.

 Subscribe to TWIST via iTunes, or  Subscribe via RSS.

To receive TWIST e-mails each Monday morning, make sure that state, local and indirect is checked off as one of your topics of interest on the KPMG TaxWatch registration site.

The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.