The Massachusetts Appellate Tax Board issued a decision on July 24 that could have a significant impact on companies with affiliated intangible holding companies (or that had affiliated intangible holding companies in the past).
In Geoffrey, Inc., v. Commissioner of Revenue (ATB Docket No. C271816), the Appellate Tax Board held that a trademark holding company, with no physical presence in Massachusetts, had substantial nexus with Massachusetts and was subject to Massachusetts corporate excise tax for tax years going back to Feb. 1, 1996. The corporate excise tax for the taxpayer in the Geoffrey case was computed using a single-sales factor apportionment formula, with the location of the taxpayer's sales determined based on the location where the affiliated licensee used the trademark. We expect the Appellate Tax Board decision in Geoffrey to be appealed. Nonetheless, we expect the Massachusetts Department of Revenue (the “Department”) to begin relying on the Geoffrey decision immediately.
This could have significant impact for companies that have not resolved their intangible holding company exposure with Massachusetts – even companies that had previously assumed that the statute of limitations protected them from any Massachusetts exposure.
The Department now has clear authority to assert nexus with intangible holding companies for periods going back to 1996. (The Department first published guidance in which it took an economic nexus position with respect to an intangible holding company in July 1996. As a consequence, the Department is unlikely to assert nexus with holding companies for periods before 1996.)
Prior to the Geoffrey decision, the Department’s principal approach for attacking intangible holding company arrangements for years before 2002 was to disallow operating company deductions for royalty payments to holding companies under a “sham transaction” theory. For periods beginning in 2002, Massachusetts has had a statutory add-back provision in effect. This add-back provision generally prevents an operating company doing business in Massachusetts from claiming a deduction for royalties paid to an affiliated intangible holding company.
In light of the Geoffrey decision, the Department is likely to begin issuing assessments against intangible holding companies for periods before 2002. Companies that had previously determined that they were “in the clear” in Massachusetts for periods before 2002 because the statute of limitations for those periods was closed, will now need to revisit that determination. Companies in this situation should consider coming forward under a voluntary disclosure agreement to limit their exposure as a result of Geoffrey. For a company still facing an ongoing audit or appeal in which the Department has taken a “sham transaction” approach, the Geoffrey decision is an unwelcome development. The Geoffrey decision will likely cause the Department to take a much harder line in settling these types of appeals. This hard line is likely to become even harder once Geoffrey has exhausted its appeal rights. For companies in this situation, this may be an opportune time to reach out to the Department to negotiate a settlement that would minimize the liability.
Some key points regarding how the Department’s policies will be affected by the Geoffrey decision have not yet been resolved. For instance:
For years beginning with 2002, it is unclear whether the Department intends to assert nexus over an intangible holding company in a situation where the operating company paying royalties to the holding company has complied with the statutory add-back. (If the Department intends to take such an approach, taxpayers will need to file amended returns as soon as possible to minimize the risk of being “whipsawed.”)
For years before 2002, it is unclear whether the Department intends to assert nexus against an intangible holding company in a situation where the Department has already entered into a negotiated settlement with the operating company, regarding the operating company’s “sham transaction” exposure.
It is unclear whether the Department intends to use the Geoffrey precedent to assert nexus against corporations other than intangible holding companies.
We are in the process of gathering additional information from the Department on these and other issues, and we expect to issue additional updates as more information on the Department’s reaction to the Geoffrey decision becomes available.
Of course, the Geoffrey decision could have an accounting, as well as an income tax, impact. Companies doing business in Massachusetts that had an affiliated intangible holding company may need to work with their outside advisors to determine the impact that the Geoffrey decision will have on their GAAP provision for Massachusetts corporate excise taxes, in light of FIN 48.