In a pair of cases involving multistate telecommunications businesses, the Oregon Supreme Court held that Oregon’s dual definitions of “business income” did not conflict, and that therefore the state’s imposition of corporate income tax on the sale of wireless assets was a reasonable interpretation of those definitions.  The taxpayers in Crystal Communications, Inc. et al. v. Oregon Dept. of Revenue and CenturyTel, Inc. v. Oregon Dept. of Revenue argued that the definitions conflicted, and that therefore only the UDITPA definition applied.  The cases turned on the existence of a liquidation exception to the functional test, an inconsistently-applied but often-litigated issue seen in several recent cases.

Both taxpayers were multistate businesses which provided wireless telecommunications services to customers in Oregon.  In 1999, Crystal sold its assets, including an FCC license and equipment, to AT&T and ceased operations.  In 2002, CenturyTel sold all of its wireless assets and discontinued its wireless operations.  In both cases, the taxpayers determined that the proceeds of the sales were nonbusiness income under relevant law, and allocated the income from the sales to their respective states of domicile.  And in both cases, the Oregon Department of Revenue determined that the proceeds were business income, and apportioned the income to Oregon.

Dialing into Oregon’s statutes

Under Oregon law, income earned by multistate businesses can be allocated under two statutes; the first applies only to financial institutions and public utilities, and the second is Oregon’s UDITPA statute.  Because the taxpayers were public utilities, the Department applied the first statute, which allowed the Department to use either the segregation method or the apportionment method (depending on whether the taxpayer is unitary) to determine apportionable business income.  Because the statute does not provide detail on how to apportion such income, the Department issued rules which provided that the terms ‘business income’ and ‘nonbusiness income’ have the same meaning as the definitions “contained [in UDITPA] and the related rules.” 

Under UDITPA’s functional test, business income means income from property “if the acquisition, the management, use or rental, and the disposition of the property constitute integral parts of the taxpayer’s regular trade or business operations.”  The related rules, however, do not provide the same definition for business income.  The rules define business income to include “gain or loss from the sale, exchange, or other disposition of real or tangible or intangible property…if the property while owned by the taxpayer was used in the taxpayer’s trade or business.”  The taxpayers conceded that their income met this second definition, but argued that the rule and the UDITPA statute it is supposed to interpret were in conflict.  When the Department applied the rule over the statute, it acted inappropriately.

Hoechst drops the taxpayers’ call

The Court noted that the alleged conflict arose from the taxpayers’ belief in a liquidation exception.  Oregon’s UDITPA statute uses the word “and,” which the taxpayers argued means all of these things must be present, not only one of these things is sufficient.  Therefore, because the disposition of all of a business’s assets cannot be integral to the taxpayer’s regular operations because, by definition, it occurs only once, the functional test provides a liquidation exception to the definition of business income.

Arguing against the liquidation exception, the Department relied on the Hoechst Celanese case from the California Supreme Court, which held that the extraordinary nature of an income-producing transaction is irrelevant.  In Hoechst, the functional test was based not only on the taxpayer’s actual acquisition, management, and disposition of property, but also on the taxpayer’s power to control the acquisition, management, and disposition of that property.

The Oregon Supreme Court clarified that the question before it was not what the UDITPA definition of business income means in a case arising under UDITPA.  Rather, the question was whether, in a case arising under the public utility apportionment statute, the department reasonably interpreted the multiple definitions in a way that gives effect to both.

The Court concluded that the Hoechst decision was a plausible interpretation of the functional test, although California “did not decide… whether there is a liquidation exception to the functional test.”  By interpreting Oregon’s UDITPA statute consistently with Hoechst, the Department reasonably gave effect to both definitions of business income, and when construed in that manner, both definitions were broad enough to reach the sale of the wireless assets.

Mixed signals from the Oregon Court?

The Court went to great efforts to emphasize that it was not ruling on whether it recognized the liquidation exception.  For example, the Court disregarded Crystal’s constitutional argument by noting that the Court had “not yet determined whether, for businesses subject to UDITPA, the functional test does or does not reach income realized during the course of liquidating a business.”

However, the Court spent a great deal of time examining the liquidation exception, and it eventually determined that the Department’s reliance on Hoechst against the liquidation exception was reasonable.  It also determined that “nothing in the wording of [the public utility apportionment statute] precludes the apportionment of gain from assets sold in the course of liquidation.”

Similarly, the Court ruled against CenturyTel by observing that the Court’s goal was to give effect to both definitions, which it could (and did) do by relying on Hoechst.  Given that holding, the Court “need not reach CenturyTel’s argument that the gain it realized does not constitute business income within the meaning of UDITPA.”  It was sufficient to hold that the gain was ‘business income’ within the meaning of the rule implementing the public utility apportionment statute.  Future taxpayers will have to sort through the static transmitted by the Court’s dual decisions.