In Hormel Foods Corp. v. Wisconsin Dep’t of Revenue, No. 07-I-17 (Mar. 29, 2010), the Wisconsin Tax Appeals Commission determined that Hormel’s subsidiary, Foods LL C, lacked economic substance and business purpose and was formed primarily for state tax savings purposes. Consequently, the Commission held that under the sham transaction doctrine, the Department of Revenue properly disallowed Hormel’s royalty deductions paid to Foods LL C.
The Commission noted that Foods LL C did not receive royalty payments from third parties and that there was a circular flow of cash from Hormel to Foods LL C back to Hormel. Unlike some holding company arrangements, Foods LL C not only owned intangible property, it also conducted the research and development associated with its intangibles. The Commission, however, placed weight on the fact that Hormel continued to control decisions related to the intellectual property and that Foods LL C had no other source of income other than the royalty payments from Hormel. Finally, the Commission’s opinion repeatedly referenced Hormel’s documentation from a Big 4 accounting firm that suggested that the structure was engineered to save state taxes.
Wisconsin has adopted combined reporting effective for tax years beginning on or after January 1, 2009. Taxpayers that have a demonstrated, non-tax business purpose related to a holding company structure may be able to distinguish themselves from the taxpayer in Hormel and avoid a similar fate.