Dozens of cases are pending at various levels in California addressing the circumstances under which proceeds from dispositions of financial instruments, including the return of capital, should be included in the sales factor of the apportionment formula. These cases must apply the guidelines set forth in the California Supreme Court's decision in Microsoft Corp. v. Franchise Tax Board, which detailed the items on which the Franchise Tax Board ("FTB") must carry the burden of proof if it seeks to deviate from the normal statutory rule which includes all proceeds from financial instruments in the sales factor. So far, the FTB has encountered great difficulty in carrying that burden.
Following on the heels of FTB's loss in Montgomery Ward at trial in Superior Court in San Diego, the State Board of Equalization ("SBE") found against the FTB in the Appeal of Home Depot. In an unpublished SBE letter decision, the SBE found that the FTB failed to prove that Home Depot's normal "core" business can be treated differently from its Treasury function for sales-factor purposes, based solely on "qualitative" distortion. This decision can be viewed as differing significantly from FTB's published TAMs on the issue.
Despite the fact that numerous similar cases are pending at the SBE, the letter decision did not provide any detailed reasoning. Nevertheless, it is clear that the FTB cannot rely only on the fact that investment is not a taxpayer's core business in order to exclude any financial instruments receipts from the sales factor. The decision also casts a significant shadow over the FTB's recent regulation excluding all such receipts from the sales factor, at least as applied to Treasury operations located outside California. Such taxpayers should continue to evaluate whether to pursue inclusion of Treasury receipts in the sales factor on returns or in claims for refund.