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Forced Combination: Indiana and North Carolina Attack Centralized Cash Management


Tax authorities in several states – in particular Indiana and North Carolina – are increasingly applying their discretionary authority with respect to alternative apportionment to force taxpayers to file combined corporate income tax returns with their out-of-state affiliates by targeting cash management. Such aggressive administrative action raises both statutory and constitutional questions along with practical concerns for multistate taxpayers. Recent activity in Indiana and North Carolina illustrates the growing willingness of state tax authorities to impose upon taxpayers forced combination in order to raise additional revenues. 


In a recently published Letter of Finding, LOF 02-20120008, the Indiana Department of Revenue upheld the forced combination of a corporate taxpayer with its out-of-state affiliates. The auditor made the adjustments after determining that the taxpayer and its affiliates were unitary due to, among other factors, a circular flow of funds between the related companies and that the standard apportionment formula did not accurately reflect the taxpayer's Indiana income. The taxpayer objected to the proposed assessment because the Department failed to demonstrate that no other alternative method accurately reflected the taxpayer's Indiana income as is required by statute before resorting to forced combination. The Department ruled that it need not provide any evidence beyond its proposed assessment of whether the standard apportionment formula unfairly reflects the taxpayer's Indiana income, citing the questionable decision of the Indiana Supreme Court in Indiana Department of Revenue v. Rent-A-Center East, Inc., 963 N.E.2d 463 (IN 2012).          

North Carolina

The North Carolina Department of Revenue has proposed rules related to forced combination just a few months removed from the unprecedented decision of the North Carolina Court of Appeals in Delhaize America, Inc. v. Lay, 731 S.E.2d 486 (N.C. Ct. App. Aug. 21, 2012) (upholding a large negligence penalty following forced combination when no combination guidance had been provided to taxpayers), aff'g in part and rev'g in part, Dkt. No. 06 CVS 08416 (N.C. Super. Ct. Jan. 12, 2011). The proposed rules outline the methodology and procedures for filing a combined income tax return in North Carolina. Of particular concern is that, according to the proposed rules, all instances of centralized cash management will be scrutinized by the Department for reasonable business purposes and economic effects. 

Crowell's state tax attorneys will be collecting comments from interested parties to submit to the Department of Revenue on a client-anonymous basis. Taxpayers may submit comments on the proposed regulations through November 28, 2012.

Looking Ahead

The trend among states toward forced combination brings to light two important points for tax executives to consider. First, a fresh review of corporate structure and intercompany transactions may be in order. Almost every large company has some form of cash management or flow of funds between related entities, as well as other potentially "combinable" factors that result from legitimate, non-tax business planning. Although we believe forced combination may be succesfully challenged, prudence dictates that corporations should act to minimize risk. Second, taxpayers are entitled to use alternative apportionment provisions in various states to their advantage when filing original or amended returns or to offset audit adjustments. 

For help minimizing your exposure to forced combination or to discuss whether alternative apportionment is appropriate for your company, contact one of the authors of this Alert.

IRS Circular 230 Disclosure: To comply with certain U.S. Treasury regulations, we inform you that, unless expressly stated otherwise, any U.S. federal tax advice contained in this communication, including attachments, was not intended or written to be used, and cannot be used, by any taxpayer for the purpose of avoiding any penalties that may be imposed on such taxpayer by the Internal Revenue Service. In addition, if any such tax advice is used or referred to by other parties in promoting, marketing, or recommending any partnership or other entity, investment plan, or arrangement, then (i) the advice should be construed as written in connection with the promotion or marketing by others of the transaction(s) or matter(s) addressed in this communication and (ii) the taxpayer should seek advice based on the taxpayer's particular circumstances from an independent tax advisor. To the extent that a state taxing authority has adopted rules similar to the relevant provisions of Circular 230, use of any state tax advice contained herein is similarly limited.

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For more information, please contact the professional(s) listed below, or your regular Crowell & Moring contact.

Donald M. Griswold
Partner – Washington, D.C.
Phone: +1 202.624.2730

Jeremy Abrams
Counsel – Washington, D.C.
Phone: +1 202.624.2926