California imposes a corporate franchise tax geared to income.
It employs the "unitary business" principle and formula
apportionment in applying that tax to corporations doing business
both inside and outside the State. The formula used -- commonly
called the "three-factor" formula -- is based, in equal parts, on
the proportion of a unitary business' total payroll, property, and
sales that are located in the State. Appellant paperboard packaging
manufacturer is a Delaware corporation headquartered in Illinois
and doing business in California and elsewhere. It also has a
number of overseas subsidiaries incorporated in the countries in
which they operate. In calculating for the tax years in question in
this case the share of its net income that was apportionable to
California under the three-factor formula, appellant omitted all of
its subsidiaries' payroll, property, and sales. Appellee Franchise
Tax Board issued notices of additional assessments, the gravamen of
which was that appellant should have treated its overseas
subsidiaries as part of its unitary business, rather than as a
passive investment. After paying the additional assessments under
protest, appellant brought an action for a refund in California
Superior Court, which upheld the additional assessments. The
California Court of Appeal affirmed.
Held:
1. California's application of the unitary business principle to
appellant and its foreign subsidiaries was proper. Pp.
463 U. S.
175-180.
(a) The taxpayer has the burden of showing by "clear and
convincing evidence" that the state tax results in extraterritorial
values being taxed. This Court will, if reasonably possible, defer
to the judgment of state courts in deciding whether a particular
set of activities constitutes a "unitary business." The Court's
task is to determine whether the state court applied the correct
standards to the case, and, if it did, whether its judgment was
within the realm of a permissible judgment. Pp.
463 U. S.
175-176.
(b) Here, there is no merit to appellant's argument that the
Court of Appeal, in important part, analyzed the case under the
incorrect legal standard. Rather, the factors relied upon by the
court in holding that appellant and its foreign subsidiaries
constituted a unitary business --
Page 463 U. S. 160
which factors included appellant's assistance to its
subsidiaries in obtaining equipment and in filling personnel needs
that could not be met locally, the substantial role played by
appellant in loaning funds to the subsidiaries and guaranteeing
loans provided by others, the considerable interplay between
appellant and its subsidiaries in the area of corporate expansion,
the substantial technical assistance provided by appellant to the
subsidiaries, and the supervisory role played by appellant's
officers in providing general guidance to the subsidiaries -- taken
in combination, clearly demonstrate that the court reached a
conclusion "within the realm of permissible judgment." Pp.
463 U. S.
177-180.
2. California's use of the three-factor formula to apportion the
income of the unitary business consisting of appellant and its
foreign subsidiaries was fair. Appellant had the burden of proving
that the income apportioned to California was out of all
appropriate proportions to the business transacted in the State.
This burden was not met by offering various statistics that
appeared to demonstrate not only that wage rates are generally
lower in the foreign countries in which appellant's subsidiaries
operate, but also that those lower wage rates are not offset by
lower levels of productivity. It may well be that, in addition to
the foreign payroll going into the production of any given
corrugated container by a foreign subsidiary, there is a California
payroll, as well as other California factors, contributing to the
same production. The mere fact that this possibility is not
reflected in appellant's accounting does not disturb the underlying
premises of the formula apportionment method. Pp.
463 U. S.
180-184.
3. California had no obligation under the Foreign Commerce
Clause to employ the "arm's length" analysis used by the Federal
Government and most foreign nations in evaluating the tax
consequences of intercorporate relationships.
Japan Line, Ltd.
v. County of Los Angeles, 441 U. S. 434,
distinguished. Pp.
463 U. S.
184-197.
(a) The double taxation occasioned by the California scheme is
not impermissible. Due in part to the difference between a tax on
income and a tax on tangible property, California would have
trouble avoiding double taxation of corporations subject to its
franchise tax even if it adopted the "arm's length" approach.
Moreover, the California tax does not result in "inevitable" double
taxation. It would be perverse, simply for the sake of avoiding
double taxation, to require California to give up one allocation
method that sometimes results in double taxation in favor of
another allocation method that sometimes has the same result. Pp.
463 U. S.
189-193.
(b) The California tax does not violate the "one voice" standard
established in
Japan Line, supra, under which a state tax
at variance with federal policy will be struck down if it either
implicates foreign policy issues which must be left to the Federal
Government or violates a clear
Page 463 U. S. 161
federal directive. Three factors weigh strongly against the
conclusion that the tax might lead to significant foreign
retaliation. The tax does not create an automatic "asymmetry" in
international taxation, it is imposed on a domestic corporation and
not on a foreign entity, and even if foreign nations had a
legitimate interest in reducing the tax burden of domestic
corporations, appellant is amenable to be taxed in California one
way or another, and the tax it pays is more the function of
California's tax rate than of its allocation method. Moreover, the
California tax is not preempted by federal law or fatally
inconsistent with federal policy. There is no claim that the
federal tax statutes themselves provide the necessary preemptive
force. The requirement of some tax treaties that the Federal
Government adopt some form of arm's length analysis in taxing the
domestic income of multinational enterprises is generally waived as
to taxes imposed by each of the contracting nations on its own
domestic corporations. Tax treaties do not cover the taxing
activities of States. And Congress has never enacted legislation
designed to regulate state taxation of income. Pp.
463 U. S.
193-197.
117 Cal. App.
3d 988,
173 Cal. Rptr.
121, affirmed.
BRENNAN, J., delivered the opinion of the Court, in which WHITE,
MARSHALL, BLACKMUN, and REHNQUIST, JJ., joined. POWELL, J., filed a
dissenting opinion, in which BURGER, C.J., and O'CONNOR, J.,
joined,
post, p.
463 U. S. 197.
STEVENS, J., took no part in the consideration or decision of the
case.
Page 463 U. S. 162
JUSTICE BRENNAN delivered the opinion of the Court.
This is another appeal claiming that the application of a state
taxing scheme violates the Due Process and Commerce Clauses of the
Federal Constitution. California imposes a corporate franchise tax
geared to income. In common with a large number of other States, it
employs the "unitary business"
Page 463 U. S. 163
principle and formula apportionment in applying that tax to
corporations doing business both inside and outside the State.
Appellant is a Delaware corporation headquartered in Illinois and
doing business in California and elsewhere. It also has a number of
overseas subsidiaries incorporated in the countries in which they
operate. Appellee is the California authority charged with
administering the State's franchise tax. This appeal presents three
questions for review: (1) Was it improper for appellee and the
state courts to find that appellant and its overseas subsidiaries
constituted a "unitary business" for purposes of the state tax? (2)
Even if the unitary business finding was proper, do certain salient
differences among national economies render the standard
three-factor apportionment formula used by California so inaccurate
as applied to the multinational enterprise consisting of appellant
and its subsidiaries as to violate the constitutional requirement
of "fair apportionment"? (3) In any event, did California have an
obligation under the Foreign Commerce Clause, U.S.Const., Art. I, §
8, cl. 3, to employ the "arm's length" analysis used by the Federal
Government and most foreign nations in evaluating the tax
consequences of intercorporate relationships?
I
A
Various aspects of state tax systems based on the "unitary
business" principle and formula apportionment have provoked
Page 463 U. S. 164
repeated constitutional litigation in this Court.
See, e.g.,
ASARCO Inc. v. Idaho State Tax Comm'n, 458 U.
S. 307 (1982);
F. W. Woolworth Co. v. Taxation &
Revenue Dept., 458 U. S. 354
(1982);
Exxon Corp. v. Wisconsin Dept. of Revenue,
447 U. S. 207
(1980);
Mobil Oil Corp. v. Commissioner of Taxes,
445 U. S. 425
(1980);
Moorman Mfg. Co. v. Bair, 437 U.
S. 267 (1978);
General Motors Corp. v.
Washington, 377 U. S. 436
(1964);
Butler Bros. v. McColgan, 315 U.
S. 501 (1942);
Bass, Ratcliff & Gretton, Ltd. v.
State Tax Comm'n, 266 U. S. 271
(1924);
Underwood Typewriter Co. v. Chamberlain,
254 U. S. 113
(1920).
Under both the Due Process and the Commerce Clauses of the
Constitution, a State may not, when imposing an income-based tax,
"tax value earned outside its borders."
ASARCO, supra, at
458 U. S. 315.
In the case of a more-or-less integrated business enterprise
operating in more than one State, however, arriving at precise
territorial allocations of "value" is often an elusive goal, both
in theory and in practice.
See Mobil Oil Corp. v. Commissioner
of Taxes, supra, at
445 U. S. 438;
Butler Bros. v. McColgan, supra, at
315 U. S.
507-509;
Underwood Typewriter Co. v. Chamberlain,
supra, at
254 U. S. 121.
For this reason and others, we have long held that the Constitution
imposes no single formula on the States,
Wisconsin v. J. C.
Penney Co., 311 U. S. 435,
311 U. S. 445
(1940), and that the taxpayer has the "
distinct burden of
showing by "clear and cogent evidence" that [the state tax] results
in extraterritorial values being taxed. . . .'" Exxon Corp.,
supra, at 447 U. S. 221,
quoting Butler Bros. v. McColgan, supra, at 315 U. S. 507,
in turn quoting Norfolk & Western R. Co. v. North Carolina
ex rel. Maxwell, 297 U. S. 682,
297 U. S. 688
(1936).
One way of deriving locally taxable income is on the basis of
formal geographical or transactional accounting. The problem with
this method is that formal accounting is subject to manipulation
and imprecision, and often ignores or captures inadequately the
many subtle and largely unquantifiable
Page 463 U. S. 165
transfers of value that take place among the components of a
single enterprise.
See generally Mobil Oil Corp., supra,
at
445 U. S.
438-439, and sources cited. The unitary business/formula
apportionment method is a very different approach to the problem of
taxing businesses operating in more than one jurisdiction. It
rejects geographical or transactional accounting, and instead
calculates the local tax base by first defining the scope of the
"unitary business" of which the taxed enterprise's activities in
the taxing jurisdiction form one part, and then apportioning the
total income of that "unitary business" between the taxing
jurisdiction and the rest of the world on the basis of a formula
taking into account objective measures of the corporation's
activities within and without the jurisdiction. This Court long ago
upheld the constitutionality of the unitary business/formula
apportionment method, although subject to certain constraints.
See, e.g., Hans Rees' Sons, Inc. v. North Carolina ex rel.
Maxwell, 283 U. S. 123
(1931);
Bass, Ratcliff & Gretton, Ltd. v. State Tax Comm'n,
supra; Underwood Typewriter Co. v. Chamberlain, supra. The
method has now gained wide acceptance, and is, in one of its forms,
the basis for the the Uniform Division of Income for Tax Purposes
Act (Uniform Act), which has, at last count, been substantially
adopted by 23 States, including California.
B
Two aspects of the unitary business/formula apportionment method
have traditionally attracted judicial attention. These are, as one
might easily guess, the notions of "unitary business" and "formula
apportionment," respectively.
(1)
The Due Process and Commerce Clauses of the Constitution do not
allow a State to tax income arising out of interstate activities --
even on a proportional basis -- unless there is a
"'minimal connection' or 'nexus' between the interstate
activities
Page 463 U. S. 166
and the taxing State, and 'a rational relationship between the
income attributed to the State and the intrastate values of the
enterprise.'"
Exxon Corp. v. Wisconsin Dept. of Revenue, supra, at
447 U. S.
219-220, quoting
Mobil Oil Corp. v. Commissioner of
Taxes, supra, at
445 U. S. 436,
445 U. S. 437.
At the very least, this set of principles imposes the obvious and
largely self-executing limitation that a State not tax a purported
"unitary business" unless at least some part of it is conducted in
the State.
See Exxon Corp., supra, at
447 U. S. 220;
Wisconsin v. J. C. Penney Co., supra, at
311 U. S. 444.
It also requires that there be some bond of ownership or control
uniting the purported "unitary business."
See ASARCO,
supra, at
458 U. S.
316-317.
In addition, the principles we have quoted require that the
out-of-state activities of the purported "unitary business" be
related in some concrete way to the in-state activities. The
functional meaning of this requirement is that there be some
sharing or exchange of value not capable of precise identification
or measurement -- beyond the mere flow of funds arising out of a
passive investment or a distinct business operation -- which
renders formula apportionment a reasonable method of taxation.
See generally ASARCO, supra, at
458 U. S. 317;
Mobil Oil Corp., supra, at
445 U. S.
438-442. In
Underwood Typewriter Co. v. Chamberlain,
supra, we held that a State could tax on an apportioned basis
the combined income of a vertically integrated business whose
various components (manufacturing, sales, etc.) operated in
different States. In
Bass, Ratcliff & Gretton, supra,
we applied the same principle to a vertically integrated business
operating across national boundaries. In
Butler Bros. v.
McColgan, supra, we recognized that the unitary business
principle could apply, not only to vertically integrated
enterprises, but also to a series of similar enterprises operating
separately in various jurisdictions but linked by common managerial
or operational resources that produced economies of scale and
transfers of value. More recently, we have further refined the
"unitary business" concept in
Exxon Corp. v. Wisconsin
Dept. of Revenue,
Page 463 U. S. 167
447 U. S. 207
(1980), and
Mobil Oil Corp. v. Commissioner of Taxes,
445 U. S. 425
(1980), where we upheld the States' unitary business findings, and
in
ASARCO Inc. v. Idaho State Tax Comm'n, 458 U.
S. 307 (1982), and
F. W. Woolworth Co. v. Taxation
& Revenue Dept., 458 U. S. 354
(1982), in which we found such findings to have been improper.
The California statute at issue in this case, and the Uniform
Act from which most of its relevant provisions are derived, track
in large part the principles we have just discussed. In particular,
the statute distinguishes between the "business income" of a
multijurisdictional enterprise, which is apportioned by formula,
Cal.Rev. & Tax.Code Ann. §§ 25128-25136 (West 1979), and its
"nonbusiness" income, which is not. [
Footnote 1] Although the statute does not explicitly
require that income from distinct business enterprises be
apportioned separately, this requirement antedated adoption of the
Uniform Act, [
Footnote 2] and
has not been abandoned. [
Footnote
3]
A final point that needs to be made about the unitary business
concept is that it is not, so to speak, unitary: there are
variations on the theme, and any number of them are logically
consistent with the underlying principles motivating the approach.
For example, a State might decide to respect formal
Page 463 U. S. 168
corporate lines and treat the ownership of a corporate
subsidiary as
per se a passive investment. [
Footnote 4] In
Mobil Oil Corp., 445
U.S. at
445 U. S.
440-441, however, we made clear that, as a general
matter, such a
per se rule is not constitutionally
required:
"Superficially, intercorporate division might appear to be a[n]
. . . attractive basis for limiting apportionability. But the form
of business organization may have nothing to do with the underlying
unity or diversity of business enterprise."
Id. at
445 U. S. 440.
Thus, for example, California law provides:
"In the case of a corporation . . . owning or controlling,
either directly or indirectly, another corporation, or other
corporations, and in the case of a corporation . . . owned or
controlled, either directly or indirectly, by another corporation,
the Franchise Tax Board may require a consolidated report showing
the combined net income or such other facts as it deems
necessary."
Cal.Rev. & Tax.Code Ann. § 25104 (West 1979). [
Footnote 5]
Page 463 U. S. 169
Even among States that take this approach, however, only some
apply it in taxing American corporations with subsidiaries located
in foreign countries. [
Footnote
6] The difficult question we address in
463 U.
S. for reasons not implicated in Mobil, [
Footnote 7] that particular variation on the
theme is constitutionally barred.
(2)
Having determined that a certain set of activities constitute a
"unitary business," a State must then apply a formula apportioning
the income of that business within and without the State. Such an
apportionment formula must, under both the Due Process and Commerce
Clauses, be fair.
See Exxon Corp., supra, at
447 U. S. 219,
447 U. S.
227-228;
Moorman Mfg. Co., 437 U.S. at
437 U. S.
272-273;
Hans Rees' Sons, Inc., 283 U.S. at
283 U. S. 134.
The first, and again obvious, component of fairness in an
apportionment formula is what might be called internal consistency
-- that is, the formula must be such that, if applied by every
jurisdiction, it would result in no more than all of the unitary
business' income's being taxed. The second and more difficult
requirement is what might be called external consistency -- the
factor or factors used in the apportionment formula must actually
reflect a reasonable sense of how income is generated. The
Constitution does not
"invalidat[e] an apportionment formula whenever it
may
result in taxation
Page 463 U. S. 170
of some income that did not have its source in the taxing State.
. . ."
Moorman Mfg. Co., supra, at
437 U. S. 272
(emphasis added).
See Underwood Typewriter Co., 254 U.S.
at
254 U. S.
120-121. Nevertheless, we will strike down the
application of an apportionment formula if the taxpayer can
prove
"by 'clear and cogent evidence' that the income attributed to
the State is, in fact, 'out of all appropriate proportions to the
business transacted . . . in that State,' [
Hans Rees' Sons,
Inc.,] 283 U.S. at
283 U. S. 135, or has 'led
to a grossly distorted result,' [
Norfolk & Western R. Co.
v. State Tax Comm'n, 390 U. S. 317,
390 U. S.
326 (1968)]."
Moorman Mfg. Co., supra, at
437 U. S.
274.
California and the other States that have adopted the Uniform
Act use a formula -- commonly called the "three-factor" formula --
which is based, in equal parts, on the proportion of a unitary
business' total payroll, property, and sales which are located in
the taxing State.
See Cal.Tax & Rev.Code Ann. §§
25128-25136 (West 1979). We approved the three-factor formula in
Butler Bros. v. McColgan, 315 U.
S. 501 (1942). Indeed, not only has the three-factor
formula met our approval, but it has become, for reasons we discuss
in more detail
infra, at
463 U. S. 183,
something of a benchmark against which other apportionment formulas
are judged.
See Moorman Mfg. Co., supra, at
437 U. S. 282
(BLACKMUN, J., dissenting);
cf. General Motors Corp. v.
District of Columbia, 380 U. S. 553,
380 U. S. 561
(1965).
Besides being fair, an apportionment formula must, under the
Commerce Clause, also not result in discrimination against
interstate or foreign commerce.
See Mobil Oil Corp.,
supra, at
445 U. S. 444;
cf. Japan Line, Ltd. v. County of Los Angeles,
441 U. S. 434,
441 U. S.
444-448 (1979) (property tax). Aside from forbidding the
obvious types of discrimination against interstate or foreign
commerce, this principle might have been construed to require that
a state apportionment formula not differ so substantially from
methods of allocation used by other jurisdictions in which the
taxpayer is subject to taxation as to produce double taxation of
the same income
Page 463 U. S. 171
and a resultant tax burden higher than the taxpayer would incur
if its business were limited to any one jurisdiction. At least in
the interstate commerce context, however, the antidiscrimination
principle has not in practice required much in addition to the
requirement of fair apportionment. In
Moorman Mfg. Co. v. Bair,
supra, in particular, we explained that eliminating all
overlapping taxation would require this Court to establish not only
a single constitutionally mandated method of taxation, but also
rules regarding the application of that method in particular cases.
437 U.S. at
437 U. S.
278-280. Because that task was thought to be essentially
legislative, we declined to undertake it, and held that a fairly
apportioned tax would not be found invalid simply because it
differed from the prevailing approach adopted by the States. As we
discuss
infra at
463 U. S.
185-187, however, a more searching inquiry is necessary
when we are confronted with the possibility of international double
taxation.
Appellant is in the business of manufacturing custom-ordered
paperboard packaging. Its operation is vertically integrated, and
includes the production of paperboard from raw timber and
wastepaper as well as its composition into the finished products
ordered by customers. The operation is also largely domestic.
During the years at issue, in this case -- 1963, 1964, and 1965 --
appellant controlled 20 foreign subsidiaries located in four Latin
American and four European countries. Its percentage ownership of
the subsidiaries (either directly or through other subsidiaries)
ranged between 66.7% and 100%. In those instances (about half) in
which appellant did not own a 100% interest in the subsidiary, the
remainder was owned by local nationals. One of the subsidiaries was
a holding company that had no payroll, sales, or property, but did
have book income. Another was
Page 463 U. S. 172
inactive. The rest were all engaged -- in their respective local
markets -- in essentially the same business as appellant.
Most of appellant's subsidiaries were, like appellant itself,
fully integrated, although a few bought paperboard and other
intermediate products elsewhere. Sales of materials from appellant
to its subsidiaries accounted for only about 1% of the
subsidiaries' total purchases. The subsidiaries were also
relatively autonomous with respect to matters of personnel and
day-to-day management. For example, transfers of personnel from
appellant to its subsidiaries were rare, and occurred only when a
subsidiary could not fill a position locally. T here was no formal
United States training program for the subsidiaries' employees,
although groups of foreign employees occasionally visited the
United States for 2-6 week periods to familiarize themselves with
appellant's methods of operation. Appellant charged one senior
vice-president and four other officers with the task of overseeing
the operations of the subsidiaries. These officers established
general standards of professionalism, profitability, and ethical
practices, and dealt with major problems and long-term decisions;
day-to-day management of the subsidiaries, however, was left in the
hands of local executives, who were always citizens of the host
country. Although local decisions regarding capital expenditures
were subject to review by appellant, problems were generally worked
out by consensus, rather than outright domination. Appellant also
had a number of its directors and officers on the boards of
directors of the subsidiaries, but they did not generally play an
active role in management decisions. [
Footnote 8]
Page 463 U. S. 173
Nevertheless, in certain respects, the relationship between
appellant and its subsidiaries was decidedly close. For example,
approximately half of the subsidiaries' long-term debt was either
held directly or guaranteed by appellant. Appellant also provided
advice and consultation regarding manufacturing techniques,
engineering, design, architecture, insurance, and cost accounting
to a number of its subsidiaries, either by entering into technical
service agreements with them or by informal arrangement. Finally,
appellant occasionally assisted its subsidiaries in their
procurement of equipment, either by selling them used equipment of
its own or by employing its own purchasing department to act as an
agent for the subsidiaries. [
Footnote 9]
B
During the tax years at issue in this case, appellant filed
California franchise tax returns. In 1969, after conducting an
audit of appellant's returns for the years in question, appellee
issued notices of additional assessments for each of those years.
The respective approaches and results reflected in appellant's
initial returns and in appellee's notices of additional assessments
capture the legal differences at issue in this case. [
Footnote 10]
Page 463 U. S. 174
In calculating the total unapportioned taxable income of its
unitary business, appellant included its own corporate net earnings
as derived from its federal tax form (subject to certain
adjustments not relevant here), but did not include any income of
its subsidiaries. It also deducted -- as it was authorized to do
under state law,
see supra at
463 U. S. 167,
and n. 1 -- all dividend income, nonbusiness interest income, and
gains on sales of assets not related to the unitary business. In
calculating the share of its net income which was apportionable to
California under the three-factor formula, appellant omitted all of
its subsidiaries' payroll, property, and sales. The results of
these calculations are summarized in the margin. [
Footnote 11]
The gravamen of the notices issued by appellee in 1969 was that
appellant should have treated its overseas subsidiaries as part of
its unitary business, rather than as passive investments. Including
the overseas subsidiaries in appellant's unitary business had two
primary effects: it increased the income subject to apportionment
by an amount equal to the total income of those subsidiaries (less
intersubsidiary dividends,
see n 5,
supra), and it decreased the percentage of
that income which was apportionable to California. The net
Page 463 U. S. 175
effect, however, was to increase appellant's tax liability in
each of the three years. [
Footnote 12]
Appellant paid the additional amounts under protest, and then
sued in California Superior Court for a refund, raising the issues
now before this Court. The case was tried on stipulated facts, and
the Superior Court upheld appellee's assessments. On appeal, the
California Court of Appeal affirmed,
117 Cal. App.
3d 988,
173 Cal. Rptr.
121 (1981), and the California Supreme Court refused to
exercise discretionary review. We noted probable jurisdiction. 456
U.S. 960 (1982).
III
A
We address the unitary business issue first. As previously
noted, the taxpayer always has the "distinct burden of showing by
clear and cogent evidence' that [the state tax] results in
extraterritorial values being taxed." Supra at
463 U. S. 164.
One necessary corollary of that principle is that this Court will,
if reasonably possible, defer to the judgment of state courts in
deciding whether a particular set of activities constitutes a
"unitary business." As we said in a closely related context in
Norton Co. v. Department of Revenue, 340 U.
S. 534 (1951):
"The general rule, applicable here, is that a taxpayer claiming
immunity from a tax has the burden of establishing his exemption.
"
Page 463 U. S. 176
"
This burden is never met merely by showing a fair
difference of opinion which, as an original matter, might be
decided differently. . . . Of course, in constitutional cases,
we have power to examine the whole record to arrive at an
independent judgment as to whether constitutional rights have been
invaded, but that does not mean that we will reexamine, as a court
of first instance, findings of fact supported by substantial
evidence."
Id. at
340 U. S.
537-538 (footnotes omitted; emphasis added). [
Footnote 13]
See id. at
340 U. S. 538
(concluding that, "in light of all the evidence, the [state]
judgment [on a question of whether income should be attributed to
the State] was within the realm of permissible judgment"). The
legal principles defining the constitutional limits on the unitary
business principle are now well established. The factual records in
such cases, even when the parties enter into a stipulation, tend to
be long and complex, and the line between "historical fact" and
"constitutional fact" is often fuzzy, at best.
Cf. ASARCO,
458 U.S. at
458 U. S.
326-328, nn. 22, 23. It will do the cause of legal
certainty little good if this Court turns every colorable claim
that a state court erred in a particular application of those
principles into a
de novo adjudication, whose unintended
nuances would then spawn further litigation and an avalanche of
critical comment. [
Footnote
14] Rather, our task must be to determine whether the state
court applied the correct standards to the case; and if it did,
whether its judgment "was within the realm of permissible
judgment." [
Footnote 15]
Page 463 U. S. 177
B
In this case, we are singularly unconvinced by appellant's
argument that the State Court of Appeal "in important part analyzed
this case under a different legal standard,"
F. W.
Woolworth, 458 U.S. at
458 U. S. 363,
from the one articulated by this Court. Appellant argues that the
state court here, like the state court in
F. W. Woolworth,
improperly relied on appellant's mere
potential to control
the operations of its subsidiaries as a dispositive factor in
reaching its unitary business finding. In fact, although the state
court mentioned that "major policy decisions of the subsidiaries
were subject to review by appellant," 117 Cal. App. 3d at 998, 173
Cal. Rptr. at 127, it relied principally, in discussing the
management relationship between appellant and its subsidiaries, on
the more concrete observation that
"[h]igh officials of appellant gave directions to subsidiaries
for compliance with the parent's standard of professionalism,
profitability, and ethical practices."
Id. at 998, 173 Cal. Rptr. at 127-128. [
Footnote 16]
Page 463 U. S. 178
Appellant also argues that the state court erred in endorsing an
administrative presumption that corporations engaged in the same
line of business are unitary. This presumption affected the state
court's reasoning, but only as one element among many. Moreover,
considering the limited use to which it was put, we find the
"presumption" criticized by appellant to be reasonable. Investment
in a business enterprise truly "distinct" from a corporation's main
line of business often serves the primary function of diversifying
the corporate portfolio and reducing the risks inherent in being
tied to one industry's business cycle. When a corporation invests
in a subsidiary that engages in the same line of work as itself, it
becomes much more likely that one function of the investment is to
make better use -- either through economies of scale or through
operational integration or sharing of expertise -- of the parent's
existing business-related resources. Finally, appellant urges us to
adopt a bright-line rule requiring as a prerequisite to a finding
that a mercantile or manufacturing enterprise is unitary that it be
characterized by "a substantial flow of goods." Brief for Appellant
47. We decline this invitation. The prerequisite to a
constitutionally acceptable finding of unitary business is a flow
of value, not a flow of goods. [
Footnote 17] As we reiterated in
F. W.
Woolworth,
Page 463 U. S. 179
a relevant question in the unitary business inquiry is whether
"
contributions to income [of the subsidiaries] result[ed] from
functional integration, centralization of management, and economies
of scale.'" 458 U.S. at 458 U. S. 364,
quoting Mobil, 445 U.S. at 445 U. S. 438.
"[S]ubstantial mutual interdependence," F. W. Woolworth,
supra, at 458 U. S. 371,
can arise in any number of ways; a substantial flow of goods is
clearly one but just as clearly not the only one.
C
The State Court of Appeal relied on a large number of factors in
reaching its judgment that appellant and its foreign subsidiaries
constituted a unitary business. These included appellant's
assistance to its subsidiaries in obtaining used and new equipment
and in filling personnel needs that could not be met locally, the
substantial role played by appellant in loaning funds to the
subsidiaries and guaranteeing loans provided by others, the
"considerable interplay between appellant and its foreign
subsidiaries in the area of corporate expansion," 117 Cal. App. 3d
at 997, 173 Cal. Rptr. at 127, the "substantial" technical
assistance provided by appellant to the subsidiaries,
id.
at 998-999, 173 Cal. Rptr. at 128, and the supervisory role played
by appellant's officers in providing general guidance to the
subsidiaries. In each of these respects, this case differs from
ASARCO and
F. W. Woolworth, [
Footnote 18] and clearly comes closer than those
cases did to presenting a "functionally integrated enterprise,"
Mobil, supra, at
445 U. S. 440,
which the State is entitled to tax as a single entity. We need not
decide whether any one of these factors
Page 463 U. S. 180
would be sufficient as a constitutional matter to prove the
existence of a unitary business. Taken in combination, at least,
they clearly demonstrate that the state court reached a conclusion
"within the realm of permissible judgment." [
Footnote 19]
IV
We turn now to the question of fair apportionment. Once again,
appellant has the burden of proof; it must demonstrate that there
is "
no rational relationship between the income attributed to
the State and the intrastate values of the enterprise,'" Exxon
Corp., 447 U.S. at 447 U. S. 220,
quoting Mobil, supra, at 445 U. S. 437,
by proving that the income apportioned to
Page 463 U. S. 181
California under the statute is "out of all appropriate
proportion to the business transacted by the appellant in that
State,"
Hans Rees' Sons, Inc., 283 U.S. at
283 U. S.
135.
Appellant challenges the application of California's
three-factor formula to its business on two related grounds, both
arising as a practical (although not a theoretical) matter out of
the international character of the enterprise. First, appellant
argues that its foreign subsidiaries are significantly more
profitable than it is, and that the three-factor formula, by
ignoring that fact and relying instead on indirect measures of
income such as payroll, property, and sales, systematically
distorts the true allocation of income between appellant and the
subsidiaries. The problem with this argument is obvious: the profit
figures relied on by appellant are based on precisely the sort of
formal geographical accounting whose basic theoretical weaknesses
justify resort to formula apportionment in the first place. Indeed,
we considered and rejected a very similar argument in
Mobil, pointing out that, whenever a unitary business
exists,
"separate [geographical] accounting, while it purports to
isolate portions of income received in various States, may fail to
account for contributions to income resulting from functional
integration, centralization of management, and economies of scale.
Because these factors of profitability arise from the operation of
the business as a whole, it becomes misleading to characterize the
income of the business as having a single identifiable 'source.'
Although separate geographical accounting may be useful for
internal auditing, for purposes of state taxation, it is not
constitutionally required."
445 U.S. at
445 U. S. 438
(citation omitted).
Appellant's second argument is related, and can be answered in
the same way. Appellant contends:
"The costs of production in foreign countries are generally
significantly lower than in the United States, primarily
Page 463 U. S. 182
as a result of the lower wage rates of workers in countries
other than the United States. Because wages are one of the three
factors used in formulary apportionment, the use of the formula
unfairly inflates the amount of income apportioned to United States
operations, where wages are higher."
Brief for Appellant 12. Appellant supports this argument with
various statistics that appear to demonstrate not only that wage
rates are generally lower in the foreign countries in which its
subsidiaries operate, but also that those lower wages are not
offset by lower levels of productivity. Indeed, it is able to show
that at least one foreign plant had labor costs per thousand square
feet of corrugated container that were approximately 40% of the
same costs in appellant's California plants.
The problem with all this evidence, however, is that it does not
by itself come close to impeaching the basic rationale behind the
three-factor formula. Appellant and its foreign subsidiaries have
been determined to be a unitary business. It therefore may well be
that, in addition to the foreign payroll going into the production
of any given corrugated container by a foreign subsidiary, there is
also California payroll, as well as other California factors,
contributing -- albeit more indirectly -- to the same production.
The mere fact that this possibility is not reflected in appellant's
accounting does not disturb the underlying premises of the formula
apportionment method.
Both geographical accounting and formula apportionment are
imperfect proxies for an ideal which is not only difficult to
achieve in practice but also difficult to describe in theory. Some
methods of formula apportionment are particularly problematic
because they focus on only a small part of the spectrum of
activities by which value is generated. Although we have generally
upheld the use of such formulas,
see, e.g., Moorman Mfg. Co. v.
Bair, 437 U. S. 267
(1978);
Underwood Typewriter Co. v. Chamberlain,
254 U. S. 113
(1920), we have on occasion found the distortive effect of
focusing
Page 463 U. S. 183
on only one factor so outrageous in a particular case as to
require reversal. In
Hans Rees' Sons, Inc. v. North Carolina ex
rel. Maxwell, supra, for example, an apportionment method
based entirely on ownership of tangible property resulted in an
attribution to North Carolina of between 66% and 85% of the
taxpayer's income over the course of a number of years, while a
separate accounting analysis purposely skewed to resolve all doubts
in favor of the State resulted in an attribution of no more than
21.7%. We struck down the application of the one-factor formula to
that particular business, holding that the method, "albeit fair on
its face, operates so as to reach profits which are in no just
sense attributable to transactions within its jurisdiction."
Id.at
283 U. S.
134.
The three-factor formula used by California has gained wide
approval precisely because payroll, property, and sales appear in
combination to reflect a very large share of the activities by
which value is generated. It is therefore able to avoid the sorts
of distortions that were present in
Hans Rees' Sons,
Inc.
Of course, even the three-factor formula is necessarily
imperfect. [
Footnote 20] But
we have seen no evidence demonstrating that
Page 463 U. S. 184
the margin of error (systematic or not) inherent in the
three-factor formula is greater than the margin of error
(systematic or not) inherent in the sort of separate accounting
urged upon us by appellant. Indeed, it would be difficult to come
to such a conclusion on the basis of the figures in this case: for
all of appellant's statistics showing allegedly enormous
distortions caused by the three-factor formula, the tables we set
out at nn.
11 12 supra, reveal that the
percentage increase in taxable income attributable to California
between the methodology employed by appellant and the methodology
employed by appellee comes to approximately 14%, a far cry from the
more than 250% difference which led us to strike down the state tax
in
Hans Rees' Sons, Inc., and a figure certainly within
the substantial margin of error inherent in any method of
attributing income among the components of a unitary business.
See also Moorman Mfg. Co., supra, at
437 U. S.
272-273;
Ford Motor Co. v. Beauchamp,
308 U. S. 331
(1939);
Underwood Typewriter Co., supra, at
254 U. S.
120-121.
V
For the reasons we have just outlined, we conclude that
California's application of the unitary business principle to
appellant and its foreign subsidiaries was proper, and that its use
of the standard three-factor formula to apportion the income of
that unitary business was fair. This proper and fair method of
taxation happens, however, to be quite different from the method
employed both by the Federal Government in taxing appellant's
business, and by each of the relevant foreign jurisdictions in
taxing the business of appellant's subsidiaries. Each of these
other taxing jurisdictions has adopted a qualified separate
accounting approach -- often referred to as the "arm's length"
approach -- to the taxation of related corporations. [
Footnote 21] Under the "arm's
length" approach,
Page 463 U. S. 185
every corporation, even if closely tied to other corporations,
is treated for most -- but decidedly not all -- purposes as if it
were an independent entity dealing at arm's length with its
affiliated corporations, and subject to taxation only by the
jurisdictions in which it operates and only for the income it
realizes on its own books.
If the unitary business consisting of appellant and its
subsidiaries were entirely domestic, the fact that different
jurisdictions applied different methods of taxation to it would
probably make little constitutional difference, for the reasons we
discuss
supra at
463 U. S.
170-171. Given that it is international, however, we
must subject this case to the additional scrutiny required by the
Foreign Commerce Clause.
See Mobil Oil Corp., 445 U.S. at
445 U. S. 446;
Japan Line, Ltd., 441 U.S. at
441 U. S. 446;
Bowman v. Chicago & N.W. R. Co., 125 U.
S. 465,
125 U. S. 482
(1888). The case most relevant to our inquiry is
Japan
Line.
A
Japan Line involved an attempt by California to impose
an apparently fairly apportioned, nondiscriminatory,
ad
valorem property tax on cargo containers which were
instrumentalities of foreign commerce and which were temporarily
located in various California ports. The same cargo containers,
however, were subject to an unapportioned property tax in their
home port of Japan. Moreover, a convention signed by the United
States and Japan made clear, at least, that neither National
Government could impose a tax on temporarily imported cargo
containers whose home port was in the other nation. We held
that,
"[w]hen a State seeks to tax the instrumentalities of foreign
commerce, two additional considerations, beyond those articulated
in [the doctrine governing the Interstate Commerce Clause], come
into play."
441 U.S. at
441 U. S. 446.
The first is the enhanced risk of multiple taxation. Although
consistent application of the fair apportionment standard can
generally mitigate, if not eliminate, double taxation in the
domestic context,
Page 463 U. S. 186
"neither this Court nor this Nation can ensure full
apportionment when one of the taxing entities is a foreign
sovereign. If an instrumentality of commerce is domiciled abroad,
the country of domicile may have the right, consistently with the
custom of nations, to impose a tax on its full value. If a State
should seek to tax the same instrumentality on an apportioned
basis, multiple taxation inevitably results. . . . Due to the
absence of an authoritative tribunal capable of ensuring that the
aggregation of taxes is computed on no more than one full value, a
state tax, even though "fairly apportioned" to reflect an
instrumentality's presence within the State, may subject foreign
commerce "
to the risk of a double tax burden to which
[domestic] commerce is not exposed, and which the commerce clause
forbids.'""
Id. at
441 U. S.
447-448, quoting
Evco v. Jones, 409 U. S.
91,
409 U. S. 94
(1972), in turn quoting
J. D. Adams Mfg. Co. v. Storen,
304 U. S. 307,
304 U. S. 311
(1938) (footnote omitted).
The second additional consideration that arises in the foreign
commerce context is the possibility that a state tax will "impair
federal uniformity in an area where federal uniformity is
essential." 441 U.S. at
441 U. S.
448.
"A state tax on instrumentalities of foreign commerce may
frustrate the achievement of federal uniformity in several ways. If
the State imposes an apportioned tax, international disputes over
reconciling apportionment formulae may arise. If a novel state tax
creates an asymmetry in the international tax structure, foreign
nations disadvantaged by the levy may retaliate against
American-owned instrumentalities present in their jurisdictions. .
. . If other States followed the taxing State's example, various
instrumentalities of commerce could be subjected to varying degrees
of multiple taxation, a result that would plainly prevent this
Nation from 'speaking with one voice' in regulating foreign
commerce."
Id. at
441 U. S.
450-451 (footnote omitted).
Page 463 U. S. 187
On the basis of the facts in
Japan Line, we concluded
that the California tax at issue was constitutionally improper
because it failed to meet either of the additional tests mandated
by the Foreign Commerce Clause.
Id. at
441 U. S.
451-454.
This case is similar to
Japan Line in a number of
important respects. First, the tax imposed here, like the tax
imposed in
Japan Line, has resulted in actual double
taxation, in the sense that some of the income taxed without
apportionment by foreign nations as attributable to appellant's
foreign subsidiaries was also taxed by California as attributable
to the State's share of the total income of the unitary business of
which those subsidiaries are a part. [
Footnote 22] Second, that double taxation stems from a
serious divergence in the taxing schemes adopted by California and
the foreign taxing authorities. Third, the taxing method adopted by
those foreign taxing authorities is consistent with accepted
international practice. Finally, our own Federal Government, to the
degree it has spoken, seems to prefer the taxing method adopted by
the international community to the taxing method adopted by
California. [
Footnote
23]
Nevertheless, there are also a number of ways in which this case
is clearly distinguishable from
Japan Line. [
Footnote 24] First,
Page 463 U. S. 188
it involves a tax on income, rather than a tax on property. We
distinguished property from income taxation in
Mobil Oil
Corp., 445 U.S. at
445 U. S.
444-446, and
Exxon Corp., 447 U.S. at
447 U. S.
228-229, suggesting that "[t]he reasons for allocation
to a single situs that often apply in the case of property taxation
carry little force" in the case of income taxation. 445 U.S. at
445 U. S. 445.
Second, the double taxation in this case, although real, is not the
"inevitabl[e]" result of the California taxing scheme.
Cf.
Japan Line, 441 U.S. at
441 U. S. 447.
In
Japan Line, we relied strongly on the fact that one
taxing jurisdiction claimed the right to tax a given value in full,
and another taxing jurisdiction claimed the right to tax the same
entity in part -- a combination resulting necessarily in double
taxation.
Id. at
441 U. S. 447,
441 U. S. 452,
441 U. S. 455.
Here, by contrast, we are faced with two distinct methods of
allocating the income of a multinational enterprise. The "arm's
length" approach divides the pie on the basis of formal accounting
principles. The formula apportionment method divides the same pie
on the basis of a mathematical generalization. Whether the
combination of the two methods results in the same income's being
taxed twice or in some portion of income not being taxed at all is
dependent solely on the facts of the individual case. [
Footnote 25] The third difference
between this case and
Japan Line is that the tax here
falls not on the foreign owners of an instrumentality of foreign
commerce, but on a corporation domiciled and headquartered in the
United States. We specifically left open in
Japan Line the
application of that case to "domestically
Page 463 U. S. 189
owned instrumentalities engaged in foreign commerce,"
id. at
441 U. S. 444,
n. 7, and -- to the extent that corporations can be analogized to
cargo containers in the first place -- this case falls clearly
within that reservation. [
Footnote 26]
In light of these considerations, our task in this case must be
to determine whether the distinctions between the present tax and
the tax at issue in
Japan Line add up to a
constitutionally significant difference. For the reasons we are
about to explain, we conclude that they do.
B
In
Japan Line, we said that
"[e]ven a slight overlapping of tax -- a problem that might be
deemed
de minimis in a domestic context -- assumes
importance when sensitive matters of foreign relations and national
sovereignty are concerned."
Id. at
441 U. S. 456
(footnote omitted). If we were to take that statement as an
absolute prohibition on state-induced double taxation in the
international context, then our analysis here would be at an end.
But, in fact, such an absolute rule is no more appropriate here
than it was in
Japan Line itself, where we relied on much
more than the mere fact of double taxation to strike down the state
tax at issue. Although double taxation in the foreign commerce
context deserves to receive close scrutiny, that scrutiny must take
into account the context in which the double taxation takes place
and the alternatives reasonably available to the taxing State.
In
Japan Line, the taxing State could entirely
eliminate one important source of double taxation simply by
adhering to one bright-line rule: do not tax, to any extent
whatsoever, cargo containers "that are owned, based, and registered
abroad and that are used exclusively in international commerce. . .
."
Page 463 U. S. 190
Id. at
441 U. S. 444.
To require that the State adhere to this rule was by no means
unfair, because the rule did no more than reflect consistent
international practice and express federal policy. In this case,
California could try to avoid double taxation simply by not taxing
appellant's income at all, even though a good deal of it is plainly
domestic. But no party has suggested such a rule, and its obvious
unfairness requires no elaboration. Or California could try to
avoid double taxation by adopting some version of the "arm's
length" approach. That course, however, would not by any means
guarantee an end to double taxation.
As we have already noted, the "arm's length" approach is
generally based, in the first instance, on a multicorporate
enterprise's own formal accounting. But, despite that initial
reliance, the "arm's length" approach recognizes, as much as the
formula apportionment approach, that closely related corporations
can engage in a transfer of values that is not fully reflected in
their formal ledgers. Thus, for example, 26 U.S.C. § 482
provides:
"In any case of two or more . . . businesses (whether or not
incorporated, whether or not organized in the United States, and
whether or not affiliated) owned or controlled directly or
indirectly by the same interests, the Secretary [of the Treasury]
may distribute, apportion, or allocate gross income, deductions,
credits, or allowances between or among such . . . businesses, if
he determines that such distribution, apportionment, or allocation
is necessary in order to prevent evasion of taxes or clearly to
reflect the income of any of such . . . businesses. [
Footnote 27] "
Page 463 U. S. 191
And, as one might expect, the United States Internal Revenue
Service has developed elaborate regulations in order to give
content to this general provision. Many other countries have
similar provisions. [
Footnote
28] A serious problem, however, is that, even though most
nations have adopted the "arm's length" approach in its general
outlines, the precise rules under which they reallocate income
among affiliated corporations often differ substantially, and
whenever that difference exists, the possibility of double taxation
also exists. [
Footnote 29]
Thus, even if California were to adopt some version of the "arm's
length" approach, it could not eliminate the risk of double
taxation of corporations subject to its franchise tax, and might in
some cases end up subjecting those corporations to more serious
double taxation than would occur under formula apportionment.
[
Footnote 30]
Page 463 U. S. 192
That California would have trouble avoiding double taxation even
if it adopted the "arm's length" approach is, we think, a product
of the difference between a tax on income and a tax on tangible
property.
See supra at
463 U. S.
187-188. Allocating income among various taxing
jurisdictions bears some resemblance, as we have emphasized
throughout this opinion, to slicing a shadow. In the absence of a
central coordinating authority, absolute consistency, even among
taxing authorities whose basic approach to the task is quite
similar, may just be too much to ask. [
Footnote 31] If California's
Page 463 U. S. 193
method of formula apportionment "inevitably" led to double
taxation,
see supra at
463 U. S. 188,
that might be reason enough to render it suspect. But since it does
not, it would be perverse, simply for the sake of avoiding double
taxation, to require California to give up one allocation method
that sometimes results in double taxation in favor of another
allocation method that also sometimes results in double taxation.
Cf. Moorman Mfg. Co., 437 U.S. at
437 U. S.
278-280.
It could be argued that even if the Foreign Commerce Clause does
not require California to adopt the "arm's length" approach to
foreign subsidiaries of domestic corporations, it does require that
whatever system of taxation California adopts must not result in
double taxation in any particular case. The implication of such a
rule, however, would be that even if California adopted the "arm's
length" method, it would be required to defer, not merely to a
single internationally accepted bright-line standard, as was the
case in
Japan Line, but to a variety of § 482-type
reallocation decisions made by individual foreign countries in
individual cases. Although double taxation is a constitutionally
disfavored state of affairs, particularly in the international
context,
Japan Line does not require forbearance so
extreme or so one-sided.
C
We come finally to the second inquiry suggested by
Japan
Line -- whether California's decision to adopt formula
apportionment in the international context was impermissible
because it "may impair federal uniformity in an area where federal
uniformity is essential," 441 U.S. at
441 U. S. 448,
and "prevents the Federal Government from
speaking with one
voice' in international trade," id. at 441 U. S. 453,
quoting Michelin Tire
Corp.
Page 463 U. S. 194
v. Wages, 423 U. S. 276,
423 U. S. 285
(1976). In conducting this inquiry, however, we must keep in mind
that, if a state tax merely has foreign resonances, but does not
implicate foreign affairs, we cannot infer,
"[a]bsent some explicit directive from Congress, . . . that
treatment of foreign income at the federal level mandates identical
treatment by the States."
Mobil, 445 U.S. at
445 U. S. 448.
See also Japan Line, 441 U.S. at
441 U. S. 456,
n. 20;
Michelin Tire Corp., supra, at
423 U. S. 286.
Thus, a state tax at variance with federal policy will violate the
"one voice" standard if it either implicates foreign policy issues
which must be left to the Federal Government or violates a clear
federal directive. The second of these considerations is, of
course, essentially a species of preemption analysis.
(1)
The most obvious foreign policy implication of a state tax is
the threat it might pose of offending our foreign trading partners
and leading them to retaliate against the Nation as a whole. 441
U.S. at
441 U. S. 450.
In considering this issue, however, we are faced with a distinct
problem. This Court has little competence in determining precisely
when foreign nations will be offended by particular acts, and even
less competence in deciding how to balance a particular risk of
retaliation against the sovereign right of the United States as a
whole to let the States tax as they please. The best that we can
do, in the absence of explicit action by Congress, is to attempt to
develop objective standards that reflect very general observations
about the imperatives of international trade and international
relations.
This case is not like
Mobil, in which the real issue
came down to a question of interstate, rather than foreign,
commerce. 445 U.S. at
445 U. S.
446-449. Nevertheless, three distinct factors, which we
have already discussed in one way or another, seem to us to weigh
strongly against the conclusion that the tax imposed by California
might justifiably lead to significant foreign retaliation. First,
the tax here does not
Page 463 U. S. 195
create an
automatic "asymmetry,"
Japan Line,
supra, at
441 U. S. 453,
in international taxation.
See supra at
463 U. S. 188,
463 U. S.
192-193. Second, the tax here was imposed, not on a
foreign entity as was the case in
Japan Line, but on a
domestic corporation. Although, California "counts" income arguably
attributable to foreign corporations in calculating the taxable
income of that domestic corporation, the legal incidence of the tax
falls on the domestic corporation. [
Footnote 32] Third, even if foreign nations have a
legitimate interest in reducing the tax burden of domestic
corporations, the fact remains that appellant is, without a doubt,
amenable to be taxed in California in one way or another, and that
the amount of tax it pays is much more the function of California's
tax rate than of its allocation method. Although a foreign nation
might be more offended by what it considers unorthodox treatment of
appellant than it would be if California simply raised its general
tax rate to achieve the same economic result, we can only assume
that the offense involved in either event would be attenuated at
best.
A state tax may, of course, have foreign policy implications
other than the threat of retaliation. We note, however, that, in
this case, unlike
Japan Line, the Executive Branch has
decided not to file an
amicus curiae brief in opposition
to the state tax. [
Footnote
33] The lack of such a submission is by no means
Page 463 U. S. 196
dispositive. Nevertheless, when combined with all the other
considerations we have discussed, it does suggest that the foreign
policy of the United States -- whose nuances, we must emphasize
again, are much more the province of the Executive Branch and
Congress than of this Court -- is not seriously threatened by
California's decision to apply the unitary business concept and
formula apportionment in calculating appellant's taxable
income.
(2)
When we turn to specific indications of congressional intent,
appellant's position fares no better. First, there is no claim here
that the federal tax statutes themselves provide the necessary
preemptive force. Second, although the United States is a party to
a great number of tax treaties that require the Federal Government
to adopt some form of "arm's length" analysis in taxing the
domestic income of multinational enterprises, [
Footnote 34] that requirement is generally
waived with respect to the taxes imposed by each of the contracting
nations on its own domestic corporations. [
Footnote 35] This fact, if nothing else,
confirms our view that such taxation is in reality of local, rather
than international, concern. Third, the tax treaties into which the
United States has entered do not generally cover the taxing
activities of subnational governmental units such as States,
[
Footnote 36] and in none of
the treaties does the restriction on "non-arm's length" methods of
taxation apply to the States. Moreover, the Senate has on at least
one occasion, in considering a proposed treaty, attached a
reservation declining to give its consent to a provision in the
treaty that would have extended that restriction to the States.
[
Footnote 37] Finally, it
remains true, as we said in
Mobil, that "Congress
Page 463 U. S. 197
has long debated, but has not enacted, legislation designed to
regulate state taxation of income." 445 U.S. at
445 U. S. 448.
[
Footnote 38] Thus, whether
we apply the "explicit directive" standard articulated in
Mobil or some more relaxed standard which takes into
account our residual concern about the foreign policy implications
of California's tax, we cannot conclude that the California tax at
issue here is preempted by federal law or fatally inconsistent with
federal policy.
VI
The judgment of the California Court of Appeal is
Affirmed.
JUSTICE STEVENS took no part in the consideration or decision of
this case.
[
Footnote 1]
Certain forms of nonbusiness income, such as dividends, are
allocated on the basis of the taxpayer's commercial domicile. Other
forms of nonbusiness income, such as capital gains on sales of real
property, are allocated on the basis of situs.
See
Cal.Rev. & Tax.Code Ann. §§ 25123-25127 (West 1979).
[
Footnote 2]
See generally Honolulu Oil Corp. v. Franchise Tax
Board, 60 Cal. 2d
417, 386 P.2d 40 (1963);
Superior Oil Corp. v. Franchise
Tax Board, 60 Cal. 2d
406, 386 P.2d 33 (1963).
[
Footnote 3]
See the opinion of the California Court of Appeal in
this case,
117 Cal. App.
3d 988, 990-991, 993-995,
173 Cal. Rptr.
121, 123, 124-126 (1981).
See also Cal.Rev. &
Tax.Code Ann. § 25137 (West 1979) (allowing for separate accounting
or other alternative methods of apportionment when total formula
apportionment would "not fairly represent the extent of the
taxpayer's business activity in this state").
[
Footnote 4]
We note that the Uniform Act does not speak to this question one
way or the other.
[
Footnote 5]
See also Cal.Rev. & Tax.Code Ann. § 25105 (West
1979) (defining "ownership or control"). A necessary corollary of
the California approach, of course, is that intercorporate
dividends in a unitary business not be included in gross income,
since such inclusion would result in double counting of a portion
of the subsidiary's income (first as income attributed to the
unitary business, and second as dividend income to the parent).
See § 25106.
Some States, it should be noted, have adopted a hybrid approach.
In
Mobil itself, for example, a nondomiciliary State
invoked a unitary business justification to include an apportioned
share of certain corporate dividends in the gross income of the
taxpayer, but did not require a combined return and combined
apportionment. The Court in
Mobil held that the taxpayer's
objection to this approach had not been properly raised in the
state proceedings. 445 U.S. at
445 U. S. 441,
n. 15. JUSTICE STEVENS, however, reached the merits, stating in
part:
"Either Mobil's worldwide 'petroleum enterprise' is all part of
one unitary business, or it is not; if it is, Vermont must evaluate
the entire enterprise in a consistent manner."
Id. at
445 U. S. 461
(citation omitted).
See id. at
445 U. S. 462
(STEVENS, J., dissenting) (outlining alternative approaches
available to State);
cf. The Supreme Court, 1981 Term, 96
Harv.L.Rev. 62, 93-96 (1982).
[
Footnote 6]
See generally General Accounting Office Report to the
Chairman, House Committee on Ways and Means: Key Issues Affecting
State Taxation of Multijurisdictional Corporate Income Need
Resolving 31 (1982).
[
Footnote 7]
Mobil did, in fact, involve income from foreign
subsidiaries, but that fact was of little importance to the case
for two reasons. First, as discussed in
n 5,
supra, the State in that case included
dividends from the subsidiaries to the parent in its
calculation of the parent's apportionable taxable income, but did
not include the underlying income of the subsidiaries themselves.
Second, the taxpayer in that case conceded that the dividends could
be taxed
somewhere in the United States, so the actual
issue before the Court was merely whether a particular State could
be barred from imposing some portion of that tax.
See 445
U.S. at
445 U. S.
447.
[
Footnote 8]
There were a number of reasons for appellant's relatively
hands-off attitude toward the management of its subsidiaries.
First, it comported with the company's general management
philosophy emphasizing local responsibility and accountability; in
this respect, the treatment of the foreign subsidiaries was similar
to the organization of appellant's domestic geographical divisions.
Second, it reflected the fact that the packaging industry, like the
advertising industry to which it is closely related, is highly
sensitive to differences in consumer habits and economic
development among different nations, and therefore requires a good
dose of local expertise to be successful. Third, appellant's policy
was designed to appeal to the sensibilities of local customers and
governments.
[
Footnote 9]
There was also a certain spillover of goodwill between appellant
and it subsidiaries; that is, appellant's customers who had
overseas needs would on occasion ask appellant's sales
representatives to recommend foreign firms, and, where possible,
the representatives would refer the customers to appellant's
subsidiaries. In at least one instance, appellant became involved
in the actual negotiation of a contract between a customer and a
foreign subsidiary.
[
Footnote 10]
After the notices of additional tax, there followed a series of
further adjustments, payments, claims for refunds, and assessments,
whose combined effect was to render the figures outlined in text
more illustrative than real as descriptions of the present claims
of the parties with regard to appellant's total tax liability.
These subsequent events, however, did not concern the legal issues
raised in this case, nor did they remove either party's financial
stake in the resolution of those issues. We therefore disregard
them for the sake of simplicity.
[
Footnote 11]
bwm:
Total income Percentage Amount
of unitary attributed to attributed to
business California California Tax (5.5%)
1963 $26,870,427.00 11.041 $2,966,763.85 $163,172.01
1964 28,774,320.48 10.6422 3,062,220.73 168,422.14
1965 32,280,842.90 9.8336 3,174,368.97 174,590.29
ewm:
See Exhibit A-7 to Stipulation; Record 36, 76, 77, 79,
104, 126.
[
Footnote 12]
According to the notice, appellant's actual tax obligation were
as follows:
bwm:
Total income Percentage Amount
of unitary attributed to attributed to
business California California Tax (5.5%)
1963 $37,348,183.00 8.6886 $3,245,034.23 $178,476.88
1964 44,245,879.00 8.3135 3,673,381.15 202,310.95
1965 46,884,966.00 7.6528 3,588,012.68 197,340.70
ewm:
See Exhibit A-7 to Stipulation; Record 76, 77, 79.
[
Footnote 13]
This approach is, of course, quite different from the one we
follow in certain other constitutional contexts.
See, e.g.,
Brook v. Florida, 389 U. S. 413
(1967);
New York Times Co. v. Sullivan, 376 U.
S. 254,
376 U. S. 285
(1964).
[
Footnote 14]
It should also go without saying that not every claim that a
state court erred in making a unitary business finding will pose a
substantial federal question in the first place.
[
Footnote 15]
ASARCO and
F. W. Woolworth are consistent with
this standard of review.
ASARCO involved a claim that a
parent and certain of its partial subsidiaries, in which it held
either minority interests or bare majority interests, were part of
the same unitary business. The State Supreme Court upheld the
claim. We concluded,
relying on factual findings made by the
state court, that a unitary business finding was impermissible
because the partial subsidiaries were not realistically subject to
even minimal control by ASARCO, and were therefore passive
investments in the most basic sense of the term. 458 U.S. at
458 U. S.
320-324. We held specifically that to accept the State's
theory of the case would not only constitute a misapplication of
the unitary business concept, but would "destroy" the concept
entirely.
F. W. Woolworth was a much closer case, involving one
partially owned subsidiary and three wholly owned subsidiaries. We
examined the evidence in some detail and reversed the state court's
unitary business finding, but only after concluding that the state
court had made specific and crucial legal errors, not merely in the
conclusions it drew but in the legal standard it applied in
analyzing the case. 458 U.S. at
458 U. S.
363-364.
[
Footnote 16]
In any event, although potential control is, as we said in
F. W. Woolworth, not "
dispositive" of the unitary
business issue,
id. at
458 U. S. 362
(emphasis added), it is
relevant, both to whether or not
the components of the purported unitary business share that degree
of common ownership which is a prerequisite to a finding of
unitariness and also to whether there might exist a degree of
implicit control sufficient to render the parent and the subsidiary
an integrated enterprise.
[
Footnote 17]
As we state
supra at
463 U. S.
167-169, there is a wide range of constitutionally
acceptable variations on the unitary business theme. Thus, a
leading scholar has suggested that a "flow of goods" requirement
would provide a reasonable and workable bright-line test for
unitary business,
see Hellerstein, Recent Developments in
State Tax Apportionment and the Circumscription of Unitary
Business, 21 Nat.Tax J. 487, 501-502 (1968); Hellerstein,
Allocation and Apportionment of Dividends and the Delineation of
the Unitary Business, 14 Tax Notes 155 (Jan. 25, 1982), and some
state courts have adopted such a test,
see, e.g., Commonwealth
v. ACF Industries, Inc., 441 Pa. 129, 271 A.2d 273 (1970).
But see, e.g., McLure, Operational Interdependence Is Not
the Appropriate "Bright Line Test" of a Unitary Business -- At
Least Not Now, 18 Tax Notes 107 (Jan. 10, 1983). However sensible
such a test may be as a policy matter, however, we see no reason to
impose it on all the States as a requirement of constitutional law.
Cf. Wisconsin v. J. C. Penney Co., 311 U.
S. 435,
311 U. S. 445
(1940).
[
Footnote 18]
See n 15,
supra. See also, e.g., F. W. Woolworth, 458 U.S.
at
458 U. S. 365
("no phase of any subsidiary's business was integrated with the
parent's");
ibid. (undisputed testimony stated that each
subsidiary made business decisions independently of parent);
id. at
458 U. S. 366
("each subsidiary was responsible for obtaining its own financing
from sources other than the parent");
ibid. ("With one
possible exception, none of the subsidiaries' officers during the
year in question was a current or former employee of the parent")
(footnote omitted).
[
Footnote 19]
Two of the factors relied on by the state court deserve
particular mention. The first of these is the flow of capital
resources from appellant to its subsidiaries through loans and loan
guarantees. There is no indication that any of these capital
transactions were conducted at arm's length, and the resulting flow
of value is obvious. As we made clear in another context in
Corn Products Refining Co. v. Commissioner, 350 U. S.
46,
350 U. S. 50-53
(1955), capital transactions can serve either an investment
function or an operational function. In this case, appellant's
loans and loan guarantees were clearly part of an effort to ensure
that "[t]he overseas operations of [appellant] continue to grow and
to become a more substantial part of the company's strength and
profitability." Container Corporation of America, 1964 Annual
Report 6, reproduced in Exhibit I to Stipulation of Facts.
See
generally id. at 6-9, 11.
The second noteworthy factor is the managerial role played by
appellant in its subsidiaries' affairs. We made clear in
F. W.
Woolworth Co. that a unitary business finding could not be
based merely on "the type of occasional oversight -- with respect
to capital structure, major debt, and dividends -- that any parent
gives to an investment in a subsidiary. . . ." 458 U.S. at
458 U. S. 369.
As
Exxon illustrates, however, mere decentralization of
day-to-day management responsibility and accountability cannot
defeat a unitary business finding. 447 U.S. at
447 U. S. 224.
The difference lies in whether the management role that the parent
does play is grounded in its own operational expertise and its
overall operational strategy. In this case, the business
"guidelines" established by appellant for its subsidiaries, the
"consensus" process by which appellant's management was involved in
the subsidiaries' business decisions, and the sometimes
uncompensated technical assistance provided by appellant, all point
to precisely the sort of operational role we found lacking in
F. W. Woolworth.
[
Footnote 20]
First, the one-third-each weight given to the three factors is
essentially arbitrary. Second, payroll, property, and sales still
do not exhaust the entire set of factors arguably relevant to the
production of income. Finally, the relationship between each of the
factors and income is by no means exact. The three-factor formula,
as applied to horizontally linked enterprises, is based in part on
the very rough economic assumption that rates of return on property
and payroll -- as such rates of return would be measured by an
ideal accounting method that took all transfers of value into
account -- are roughly the same in different taxing jurisdictions.
This assumption has a powerful basis in economic theory: if true
rates of return were radically different in different
jurisdictions, one might expect a significant shift in investment
resources to take advantage of that difference. On the other hand,
the assumption has admitted weaknesses: an enterprise's willingness
to invest simultaneously in two jurisdictions with very different
true rates of return might be adequately explained by, for example,
the difficulty of shifting resources, the decreasing marginal value
of additional investment, and portfolio-balancing
considerations.
[
Footnote 21]
The "arm's length" approach is also often applied to
geographically distinct divisions of a single corporation.
[
Footnote 22]
The stipulation of facts indicates that the tax returns filed by
appellant's subsidiaries in their foreign domiciles took into
account
"only the applicable income and deductions incurred by the
subsidiary or subsidiaries in that country and not . . . the income
and deductions of [appellant] or the subsidiaries operating in
other countries."
App. 72. This does not conclusively demonstrate the existence of
double taxation, because appellant has not produced its foreign tax
returns and it is entirely possible that deductions, exemptions, or
adjustments in those returns eliminated whatever overlap in taxable
income resulted from the application of the California
apportionment method. Nevertheless, appellee does not seriously
dispute the existence of actual double taxation as we have defined
it, Brief for Appellee 114-121,
but cf. Tr. of Oral Arg.
28-29, and we assume its existence for the purposes of our
analysis.
Cf. Japan Line, 441 U.S. at
441 U. S. 452,
n. 17.
[
Footnote 23]
But see infra at
463 U. S.
196-197 (discussing whether state scheme is preempted by
federal law).
[
Footnote 24]
Note that we deliberately emphasized in
Japan Line the
narrowness of the question presented:
"whether instrumentalities of commerce that are owned, based,
and registered abroad and that are used exclusively in
international commerce, may be subjected to apportioned
ad
valorem property taxation by a State."
441 U.S. at
441 U. S.
444.
[
Footnote 25]
Indeed, in
Chicago Bridge & Iron Co. v. Caterpillar
Tractor Co., No. 81-349, which was argued last Term and
carried over to this Term, application of worldwide combined
apportionment resulted in a refund to the taxpayer from the amount
he had paid under a tax return that included neither foreign income
nor foreign apportionment factors.
[
Footnote 26]
We have no need to address in this opinion the constitutionality
of combined apportionment with respect to state taxation of
domestic corporations with foreign parents or foreign corporations
with either foreign parents or foreign subsidiaries.
See
also n.
32
infra.
[
Footnote 27]
Cf. Treasury Department's Model Income Tax Treaty of
June 16, 1981, Art. 9, reprinted in CCH Tax Treaties � 158 (1981)
(hereinafter Model Treaty) ("Where . . . an enterprise of a
Contracting State participates directly or indirectly in the
management, control or capital of an enterprise of the other
Contracting State . . . and . . . conditions are made or imposed
between the two enterprises in their commercial or financial
relations which differ from those which would be made between
independent enterprises, then any profits which, but for those
conditions would have accrued to one of the enterprises, but by
reason of those conditions have not so accrued, may be included in
the profits of that enterprise and taxed accordingly"); J. Bischel,
Income Tax Treaties 219 (1978) (hereinafter Bischel).
[
Footnote 28]
See generally G. Harley, International Division of the
Income Tax Base of Multinational Enterprise 143-160 (1981)
(hereinafter Harley); Madere, International Pricing: Allocation
Guidelines and Relief from Double Taxation, 10 Tex.Int'l L.J. 108,
111-120 (1975).
[
Footnote 29]
See Surrey, Reflections on the Allocation of Income and
Expenses Among National Tax Jurisdictions, 10 L. & Policy Int'l
Bus. 409 (1978); Bischel 459-461, 464-466; B. Bittker & J.
Eustice, Federal Income Taxation of Corporations and Shareholders �
15.06 (4th ed.1979); Harley 143-160.
[
Footnote 30]
Another problem arises out of the treatment of intercorporate
dividends. Under formula apportionment as practiced by California,
intercorporate dividends attributable to the unitary business are,
like many other intercorporate transactions, considered essentially
irrelevant, and are not included in taxable income.
See
n 5,
supra. If the
"arm's length" method were entirely consistent, it would tax
intercorporate dividends when they occur, just as all other
investment income is taxed. (In which State that dividend could be
taxed is not particularly important, since the issue here is
international, rather than interstate, double taxation.
See
Mobil, 445 U.S. at
445 U. S.
447-448.) It could also be argued that this would not,
strictly speaking, result in double taxation, since the income
taxed would be income "of" the parent, rather than income "of" the
subsidiary. The effect, however, would often be to penalize an
enterprise simply because it has adopted a particular corporate
structure. In practice, therefore, most jurisdictions allow for tax
credits or outright exemptions for intercorporate dividends among
closely tied corporations, and provision for such credits or
exemptions is often included in tax treaties.
See
generally Model Treaty, Art. 23; Bischel 2. No suggestion has
been made here that appellant's dividends from its subsidiaries
would have to be exempt entirely from domestic state taxation. And
the grant of a credit, which is the approach taken by federal law,
see 26 U.S.C. § 901
et seq., does not, in fact,
entirely eliminate effective double taxation: the same income is
still taxed twice, although the credit insures that the total tax
is no greater than that which would be paid under the higher of the
two tax rates involved. Moreover, once the Federal Government has
allowed a credit for foreign taxes on a particular intercorporate
dividend, we are not persuaded why, as a logical matter, a State
would have to grant another credit of its own, since the federal
credit would have already vindicated the goal of not subjecting the
taxpayer to a higher tax burden that it would have to bear if its
subsidiary's income were not taxed abroad.
[
Footnote 31]
At the federal level, double taxation is sometimes mitigated by
provisions in tax treaties providing for intergovernmental
negotiations to resolve differences in the approaches of the
respective taxing authorities.
See generally Model Treaty,
Art. 25; 2 New York University, Proceedings of the Fortieth Annual
Institute on Federal Taxation § 31.03[2] (1982) (hereinafter N.Y.U.
Institute). But
cf. Owens, United States Income Tax
Treaties: Their Role in Relieving Double Taxation, 17 Rutgers
L.Rev. 428, 443-444 (1963) (role of such provisions procedural,
rather than substantive). California, however, is in no position to
negotiate with foreign governments, and neither the tax treaties
nor federal law provides a mechanism by which the Federal
Government could negotiate double taxation arising out of state tax
systems. In any event, such negotiations do not always occur, and,
when they do occur, they do not always succeed.
[
Footnote 32]
We recognize that the fact that the legal incidence of a tax
falls on a corporation whose formal corporate domicile is domestic
might be less significant in the case of a domestic corporation
that was owned by foreign interests. We need not decide here
whether such a case would require us to alter our analysis.
[
Footnote 33]
The Solicitor General did submit a memorandum opposing worldwide
formula apportionment by a State in
Chicago Bridge & Iron
Co. v. Caterpillar Tractor Co., No. 81-349, a case that was
argued last Term, and carried over to this Term. Although there is
no need for us to speculate as to the reasons for the Solicitor
General's decision not to submit a similar memorandum or brief in
this case,
cf. Brief for National Governors' Association
et al. as
Amici Curiae 6-7, there has been no
indication that the position taken by the Government in
Chicago
Bridge & Iron Co. still represents its views, or that we
should regard the brief in that case as applying to this case.
[
Footnote 34]
See generally Model Treaty, Art. 7(2); Bischel 33-38,
459-461.
[
Footnote 35]
See Model Treaty, Art. 1(3); Bischel 718; N.Y. U.
Institute § 31.04[3].
[
Footnote 36]
See Bischel 7.
[
Footnote 37]
See 124 Cong.Rec. 18400, 19076 (1978).
[
Footnote 38]
There is now pending one such bill of which we are aware.
See H.R. 2918, 98th Cong., 1st Sess. (1983).
JUSTICE POWELL, with whom THE CHIEF JUSTICE and JUSTICE O'CONNOR
join, dissenting.
The Court's opinion addresses the several questions presented in
this case with commendable thoroughness. In my view, however, the
California tax clearly violates the Foreign Commerce Clause -- just
as did the tax in
Japan Line, Ltd. v. County of Los
Angeles, 41 U. S. 434
(1979). I therefore do not consider whether appellant and its
foreign subsidiaries constitute a "unitary business" or whether the
State's apportionment formula is fair.
With respect to the Foreign Commerce Clause issue, the Court
candidly concedes: (i) "double taxation is a constitutionally
disfavored state of affairs, particularly in the international
context,"
ante at
463 U. S. 193; (ii) "like the tax imposed in
Japan
Line, [California's tax] has resulted in actual double
taxation,"
ante at
463 U. S. 187;
and therefore (iii) this tax "deserves
Page 463 U. S. 198
to receive close scrutiny,"
ante at
463 U. S. 189.
The Court also concedes that "[t]his case is similar to
Japan
Line in a number of important respects,"
ante at
463 U. S. 187,
and that the Federal Government "seems to prefer the [
arm's
length'] taxing method adopted by the international community,"
ibid. The Court identifies several distinctions between
this case and Japan Line, however, and sustains the
validity of the California tax despite the inevitable double
taxation and the incompatibility with the method of taxation
accepted by the international community.
In reaching its result, the Court fails to apply "close
scrutiny" in a manner that meets the requirements of that exacting
standard of review. Although the facts of
Japan Line
differ in some respects, they are identical on the critical
questions of double taxation and federal uniformity. The principles
enunciated in that case should be controlling here: a state tax is
unconstitutional if it either "creates a substantial risk of
international multiple taxation" or "prevents the Federal
Government from
speaking with one voice when regulating
commercial relations with foreign governments.'" 441 U.S. at
441 U. S.
451.
I
It is undisputed that the California tax not only "creates a
substantial risk of international multiple taxation," but also "has
resulted in actual double taxation" in this case.
See ante
at
463 U. S. 187.
As the Court explains, this double taxation occurs because
California has adopted a taxing system that "serious[ly]
diverge[s]" from the internationally accepted taxing methods
adopted by foreign taxing authorities.
Ibid. The Court
nevertheless upholds the tax on the ground that California would
not necessarily reduce double taxation by conforming to the
accepted international practice. [
Footnote 2/1]
Ante at
Page 463 U. S. 199
463 U. S.
190-193. This argument fails to recognize the
fundamental difference between the current double taxation and the
risk that would remain under an "arm's length" system. I conclude
that the California tax violates the first principle enunciated in
Japan Line.
At present, double taxation exists because California uses an
allocation method that is different in its basic assumptions from
the method used by all of the countries in which appellant's
subsidiaries operate. The State's formula has no necessary
relationship to the amount of income earned in a given jurisdiction
as calculated under the "arm's length" method. On the contrary, the
formula allocates a higher proportion of income to jurisdictions
where wage rates, property values, and sales prices are higher.
See J. Hellerstein & W. Hellerstein, State and Local
Taxation 538-539 (4th ed.1978). To the extent that California is
such a jurisdiction, the formula inherently leads to double
taxation.
Appellant's case is a good illustration of the problem. The
overwhelming majority of its overseas income is earned by its Latin
American subsidiaries.
See App. 112. Since wage rates,
property values, and sales prices are much lower in Latin America
than they are in California, the State's apportionment formula
systematically allocates a much lower proportion of this income to
Latin America than does the internationally accepted "arm's length"
method. [
Footnote 2/2]
Correspondingly,
Page 463 U. S. 200
the formula allocates a higher proportion of the income to
California, where it is subject to state tax. As long as the three
factors remain higher in California, it is inevitable that the
State will tax income under its formula that already has been taxed
by another country under accepted international practice.
In the tax years in question, for example, over 27% of
appellant's worldwide income was earned in Latin America and taxed
by Latin American countries under the "arm's length" method.
See ibid. Latin American wages, however, represented under
6% of the worldwide total; Latin American property was about 20% of
the worldwide total; and Latin American sales were less than 14% of
the worldwide total.
See id. at 109-111. As a result,
roughly 13% of appellant's worldwide income -- less than half of
the "arm's length" total -- was allocated to Latin America under
California's formula. In other words, over half of the income of
appellant's largest group of subsidiaries was allocated elsewhere
under the State's formula. In accordance with international
practice, all of this income had been taxed in Latin America, but
the California system would allow the income to be taxed a second
time in California and other jurisdictions. This problem of double
taxation cannot be eliminated without either California or the
international community changing its basic tax practices.
If California adopted the "arm's length" method, double taxation
could still exist through differences in application. [
Footnote 2/3] California and Colombia, for
example, might apply different accounting principles to a given
intracorporate transfer. But these types of differences, although
presently tolerated under international practice, are not inherent
in the "arm's
Page 463 U. S. 201
length" system. Moreover, there is no reason to suppose that
they will consistently favor one jurisdiction over another. And as
international practice becomes more refined, such differences are
more likely to be resolved and double taxation eliminated.
In sum, the risk of double taxation can arise in two ways. Under
the present system, it arises because California has rejected
accepted international practice in favor of a tax structure that is
fundamentally different in its basic assumptions. Under a uniform
system, double taxation also could arise because different
jurisdictions -- despite their agreement on basic principles -- may
differ in their application of the system. But these two risks are
fundamentally different. Under the former, double taxation is
inevitable. It cannot be avoided without changing the system
itself. Under the latter, any double taxation that exists is the
result of disagreements in application. Such disagreements may be
unavoidable in view of the need to make individual judgments, but
problems of this kind are more likely to be resolved by
international negotiation.
On its face, the present double taxation violates the Foreign
Commerce Clause. I would not reject, as the Court does, the
solution to this constitutional violation simply because an
international system based on the principle of uniformity would not
necessarily be uniform in all of the details of its operation.
II
The Court acknowledges that its decision is contrary to the
Federal Government's "prefer[ence for] the taxing method adopted by
the international community."
Ante at
463 U. S. 187.
It also states the appropriate standard for assessing the State's
rejection of this preference:
"a state tax at variance with federal policy will violate the
'one voice' standard if it
either implicates foreign
policy issues which must be left to the Federal Government or
violates a clear federal directive."
Ante at
463 U.S.
194 (emphasis in original). The Court concludes, however,
that the California tax does not prevent the Federal
Page 463 U. S. 202
Government from speaking with one voice, because it perceives
relevant factual distinctions between this case and
Japan
Line. I conclude that the California taxing plan violates the
second principle enunciated in
Japan Line, despite these
factual distinctions, because it seriously "implicates foreign
policy issues which must be left to the Federal Government."
The Court first contends that "the tax here does not create an
automatic asymmetry.'" Ante at 463 U.S. 194-195 (emphasis in original)
(quoting Japan Line, 441 U.S. at 441 U. S.
453). This seems to mean only that the California tax
does not result in double taxation in every case. But the
fundamental inconsistency between the two methods of apportionment
means that double taxation is inevitable. Since California is a
jurisdiction where wage rates, property values, and sales prices
are relatively high, double taxation is the logical expectation in
a large proportion of the cases. Moreover, we recognized in
Japan Line that
"[e]ven a slight overlapping of tax -- a problem that might be
deemed
de minimis in a domestic context -- assumes
importance when sensitive matters of foreign relations and national
sovereignty are concerned."
Id. at
441 U. S.
456.
The Court also relies on the fact that the taxpayer here
technically is a domestic corporation.
See ante at
463 U. S. 195.
I have several problems with this argument. Although appellant may
be the taxpayer in a technical sense, it is unquestioned that
California is taxing the income of the foreign subsidiaries. Even
if foreign governments are indifferent about the overall tax burden
of an American corporation, they have legitimate grounds to
complain when a heavier tax is calculated on the basis of the
income of corporations domiciled in their countries. If nothing
else, such a tax has the effect of discouraging American investment
in their countries.
The Court's argument is even more difficult to accept when one
considers the dilemma it creates for cases involving foreign
corporations. If California attempts to tax the American
Page 463 U. S. 203
subsidiary of an overseas company on the basis of the parent's
worldwide income, with the result that double taxation occurs, I
see no acceptable solution to the problem created. Most of the
Court's analysis is inapplicable to such a case. There can be
little doubt that the parent's government would be offended by the
State's action, and that international disputes, or even
retaliation against American corporations, might be expected.
[
Footnote 2/4] It thus seems
inevitable that the tax would have to be found unconstitutional --
at least to the extent it is applied to foreign companies. But in
my view, invalidating the tax only to this limited extent also
would be unacceptable. It would leave California free to
discriminate against a Delaware corporation in favor of an overseas
corporation. I would not permit such discrimination [
Footnote 2/5]without explicit congressional
authorization.
The Court further suggests that California could impose the same
tax burden on appellant under the "arm's length" system simply by
raising the general tax rate.
See ante at
463 U. S. 195.
Although this may be true in theory, the argument ignores the
political restraints that make such a course infeasible. If
appellant's tax rate were increased, the State
Page 463 U. S. 204
would be forced to raise the rate for all corporations.
[
Footnote 2/6] If California wishes
to follow this course, I see no constitutional objection. But it
must be accomplished through the political process in which
corporations doing business in California are free to voice their
objections.
Finally, the Court attaches some weight to the fact that "the
Executive Branch has decided not to file an
amicus curiae
brief in opposition to the state tax."
Ibid. The Court, in
a footnote, dismisses the Solicitor General's memorandum in
Chicago Bridge & Iron Co. v. Caterpillar Tractor Co.,
No. 81-349, despite the fact that it is directly on point and the
case is currently pending before the Court.
See ante at
463 U. S. 195,
n. 33. In this memorandum, the Solicitor General makes it clear
beyond question what the Executive Branch believes:
"imposition of [a state tax] on the apportioned combined
worldwide business income of a unitary group of related
corporations, including foreign corporations, impairs federal
uniformity in an area where such uniformity is essential. [
Footnote 2/7]"
Memorandum for United States as
Amicus Curiae in
Chicago Bridge & Iron Co. v. Caterpillar Tractor Co.,
O.T. 1982, No. 81-349, p. 2. I recognize that the Government may
change its position from time to time, but I see no reason to
ignore its view in one case currently pending before the Court when
considering another case that raises exactly the same issue. The
Solicitor General has not withdrawn his memorandum, nor has he
supplemented it with anything taking a contrary position. As long
as
Chicago Bridge & Iron remains before us, we must
conclude that the Government's views are accurately reflected in
the Solicitor General's memorandum in that pending case.
Page 463 U. S. 205
In sum, none of the distinctions on which the Court relies is
convincing. California imposes a tax that is flatly inconsistent
with federal policy. It prevents the Federal Government from
speaking with one voice in a field that should be left to the
Federal Government. [
Footnote 2/8]
This is an intrusion on national policy in foreign affairs that is
not permitted by the Constitution.
III
In
Japan Line, we identified two constraints that a
state tax on an international business must satisfy to comply with
the Foreign Commerce Clause. We explicitly declared that "[i]f a
state tax contravenes either of these precepts, it is
unconstitutional." 441 U.S. at
441 U. S. 451.
In my view, the California tax before us today violates
both requirements. I would declare it
unconstitutional.
[
Footnote 2/1]
The Court also appears to attach some weight to its view that
California is unable "simply [to] adher[e] to one bright-line rule"
to eliminate double taxation.
See ante at
463 U. S. 189.
From California's perspective, however, a bright-line rule that
avoids Foreign Commerce Clause problems clearly exists. The State
simply could base its apportionment calculations on appellant's
United States income as reported on its federal return. This sum is
calculated by the "arm's length" method, and is thus consistent
with international practice and federal policy. Double taxation is
avoided to the extent possible by international negotiation
conducted by the Federal Government. California need not concern
itself with the details of the international allocation, but could
apportion the American income using its three-factor formula.
[
Footnote 2/2]
Although there are a few foreign countries where wage rates,
property values, and sales prices are higher than they are in
California, appellant's principal subsidiaries did not operate in
such countries.
[
Footnote 2/3]
Similarly, there could be double taxation if the entire
international community adopted California's method of formula
apportionment. Different jurisdictions might apply different
accounting principles to determine wages, property values, and
sales. Indeed, any system that calls for the exercise of any
judgment leaves the possibility for some double taxation.
[
Footnote 2/4]
This is well illustrated by the protests that the Federal
Government already has received from our principal trading
partners. Several of these are reprinted or discussed in the papers
now before the Court.
See, e.g., App. to Brief for
Committee on Unitary Tax as
Amicus Curiae 7 (Canada);
id. at 9 (France);
id. at 13-16 (United Kingdom);
id. at 17-19 (European Economic Community); App. to Brief
for International Bankers Association in California
et al.
as
Amici Curiae in
Chicago Bridge & Iron Co. v.
Caterpillar Tractor Co., O.T. 1982, No. 81-349, pp. 4-5
(Japan); Memorandum for United States as
Amicus Curiae in
Chicago Bridge & Iron Co. v. Caterpillar Tractor Co.,
O.T. 1982, No. 81-349, p. 3 ("[A] number of foreign governments
have complained -- both officially and unofficially -- that the
apportioned combined method . . . creates an irritant in their
commercial relations with the United States. Retaliatory taxation
may ensue. . . ."); App. to
id. at 2a-3a (United Kingdom);
id. at 8a-9a (Canada).
[
Footnote 2/5]
California is, of course, free to tax its own corporations more
heavily than it taxes out-of-state corporations.
[
Footnote 2/6]
The State could not raise the tax rate for appellant alone, or
even for corporations engaged in foreign commerce, without facing
constitutional challenges under the Equal Protection or the
Commerce Clause.
[
Footnote 2/7]
Chicago Bridge & Iron, it might be noted, is a case
in which the state tax is imposed on an American parent
corporation.
[
Footnote 2/8]
The Court relies on the absence of a "clear federal directive."
See ante at
463 U.S.
194,
463 U. S.
196-197. In light of the Government's position, as
stated in the Solicitor General's memorandum,
see supra at
463 U. S. 204,
the absence of a more formal statement of its view is entitled to
little weight.