The first step is to determine which portion of the taxpayer's income and its distributive share of the partnership items constitute "business income" and "nonbusiness income" under Section 25120, Revenue and Taxation Code, and the regulations thereunder. The various items of nonbusiness income are then directly allocated to specific states pursuant to the provision of Section 25124 to 25127, Revenue and Taxation Code. The taxpayer's distributive share of partnership business income is apportioned by the formula set forth in subsections (f) or (g), whichever is applicable. Even in the partnership's business and the taxpayer's business are not unitary, such that subsection (g) applies, the distributive share of income allocated to the taxpayer is from a separate trade or business of the taxpayer, not nonbusiness income of the taxpayer. The determination of whether an item of income is apportionable business income or allocable nonbusiness income is made at the partnership level based on the trade or business of the partnership. Revenue and Taxation Code section 23040 is not applicable. The sum of (1) the items of nonbusiness income directly allocated to this state, plus (2) the amount of business income attributed to this state is the portion of the taxpayer's entire net income which is subject to tax.
Income arising from transactions and activity in the regular course of the partnership's trade or business constitutes business income. Thus, a corporate-partner's distributive share of partnership business income constitutes business income to the corporate-partner, but the determination of whether the partnership's activities and the activities of the corporate-partner constitutes a single trade or business or more than one trade or business turns on the facts in each case. If the partnership's activities and the taxpayer's activities constitute a unitary business under established standards, disregarding ownership requirements, the taxpayer's share of the partnership's trade or business shall be combined with the taxpayer's trade or business as constituting a single trade or business.
EXAMPLE 1:
Corporation A's distributive share of income in partnership P is 20%. Corporation A manufactures toys which are sold in the seven western states by partnership P. Corporation A's business income for the year was $1,000,000 and partnership P's business income for the same year was $800,000. The business income of Corporation A is $1,160,000 ($1,000,000 plus 20% of $800,000).
EXAMPLE 2:
Corporation A's distributive share of income in partnership P is 90%. Partnership P manufactures toys of which approximately 30% are sold by Corporation A in the seven western states. The remainder is sold to outsiders by partnership P. In addition, Corporation A also sells other lines of toys not manufactured by partnership P. Corporation A handles all financing, management, accounting, advertising, and purchasing functions for partnership P as well as for itself. Corporation A incurred a loss of $500,000 for the year but partnership P's income was $1,000,000. The business income of Corporation A is $400,000 (90% of $1,000,000 = $900,000 less the loss of $500,000).
When the activities of the partnership and the taxpayer do not constitute a unitary business under established standards, disregarding ownership requirements, the taxpayer's share of the partnership's trade or business shall be treated as a separate trade or business of the taxpayer. In such a case the taxpayer is engaged in two trades or businesses.
EXAMPLE:
Corporation A's distributive share of income in partnership P is 20%. Corporation A manufactures and sells toys in the seven western states. Partnership P operates farms within and without this state. Corporation A's income for the year is $1,000,000 and partnership P's income is $800,000 for the same year. Corporation A is engaged in two trades or businesses, and will be required to apportion its income of $1,000,000 from its own operations to this state on the basis of a three factor apportionment formula. Partnership P would attribute part of its business income of $800,000 to this state on the basis of its own three factor apportionment formula. Accordingly, Corporation A would report 20% of the partnership income apportioned to this state plus a portion of its income from its toy manufacturing business.
EXAMPLE 1:
Corporation A's interest in partnership P is 20%. Corporation A's distributive share of partnership P's income is included in business income of Corporation A to be apportioned by formula. Corporation A owns a building (original cost of $100,000) which is rented to partnership P for $12,000 per year. Corporation A must include the original cost of $100,000 for the building in its property factor. Therefore, no portion of the value of the rented property will be reflected in the property factor of Corporation A.
EXAMPLE 2:
Same facts as in Example 1 except partnership P owns the building and rents it to Corporation A. Corporation A will include $20,000 (20% of $100,000) in its property factor because of its interest in partnership P. In addition, Corporation A will take into account $9,600 ($12,000 less 20% thereof) of rental expense into its property factor in order to give weight in the property factor to the rented building used in Corporation A's operation. Thus, the value of the building to be used in the property factor of Corporation A is $96,800 ($20,000 plus 8 x $9,600).
The partnership's payroll used to produce business income, shall be included in the denominator of the taxpayer's payroll factor to the extent of the taxpayer's interest in the partnership. The amount of any such payroll applicable to this state shall also be included in the numerator of the taxpayer's payroll factor.
EXAMPLE 1:
Corporation A's interest in partnership P is 20% and its distributive share of partnership P's income is included in business income of Corporation A to be apportioned by formula. Corporation A's own payroll is $1,000,000 and the payroll of partnership P is $800,000. Corporation A's total payroll for purposes of the payroll factor is $1,160,000 ($1,000,000 plus 20% of $800,000).
EXAMPLE 1:
Corporation A's interest in partnership P is 20%, and its distributive share of partnership P's income is included in business income of Corporation A to be apportioned by formula. Corporation A's sales were $20,000,000 for the year, $5,000,000 of which were made to partnership P. Partnership P made sales of $10,000,000 during the same year, none of which were to Corporation A or other partners.
The denominator of Corporation A's sales factor is $21,000,000 determined as follows:
Sales by Corporation A............................................................................................................................................................................................................................................................. | ..........................$20,000,000 | ||
Add: Corporation A's interest (20%) in Partnership P's sales | $2,000,000 | ||
Less: Corporation A's interest (20%) in Corporation A's sales to Partnership P..................................................................................... | ..........................1,000,000 | 1,000,000 | |
Denominator of Sales Factor.................................................................................................................................................................................................................................................... | ..........................$21,000,000 |
EXAMPLE 2.
The following facts are applicable to Examples 2(a) to (c), inclusive. Corporation A's interest in partnership P is 20% and Corporation B's interest is 80%. The distributive share of partnership income is included in business income of Corporation A and Corporation B, respectively.
The sales made by Corporation A, Corporation B, and Partnership P are as follows:
Corporation A...................................................................................................................................................................................... | ..........................$20,000,000 | |
Corporation B...................................................................................................................................................................................... | ..........................60,000,000 | |
Partnership P: | ||
To Corporation A.................................................................................................................................. | ..........................$2,000,000 | |
Corporation B....................................................................................................................................... | ..........................8,000,000 | $10,000,000 |
The denominator of Corporation A's sales factor is $20,000,000 determined as follows:
Sales by Corporation A........................................................................................................................................................................ | ..........................$20,000,000 | |
Add: Corporation A's interest (20%) in Partnership P's sales........................................................ | ..........................$2,000,000 | |
Less: Partnership P's Sales Sales by Corporation A...................................................................... | ..........................2,000,000 | -0- |
Denominator of Corporation A's sales factor.................................................................................................................................... | ..........................$20,000,000 |
The denominator of Corporation B's sales factor is $60,000,000 determined as follows:
Sales by Corporation B........................................................................................................................................... | ..........................$60,000,000 | |
Add: Corporation B's interest (80%) in Partnership P's sales.......................... | ..........................$8,000,000 | |
Less: Partnership P's sales to Corporation B..................................................... | ..........................8,000,000 | -0- |
60,000,000 |
The sales made by Corporation A, Corporation B, and Partnership P are as follows:
Corporation A............................................................................... | ..........................$20,000,000 | |
Corporation B............................................................................... | ..........................60,000,000 | |
Partnership P: | ||
To Corporation A.......................... | ..........................$1,000,000 | |
To Corporation B.......................... | ..........................9,000,000 | $10,000,000 |
The denominator of Corporation A's sales factor is $21,000,000 determined as follows:
Sales by Corporation A.......................................................................................................................................... | ..........................$20,000,000 | |
Add: Corporation A's interest (20%) in Partnership P's sales.......................... | ..........................$2,000,000 | |
Less: Partnership P's sales to Corporation A.................................................... | ..........................1,000,000 | 1,000,000 |
Denominator of Corporation A's sales factor...................................................................................................... | ..........................$21,000,000 |
The denominator of Corporation B's sales factor is $60,000,000 determined as follows:
Sales by Corporation B.......................................................................................................................................................... | ..........................$60,000,000 | |
Add: Corporation B's interest (80%) in Partnership P's sales......................................... | ..........................$8,000,000 | |
Less: Intercompany sales between Partnership P and Corporation B*.......................... | ..........................8,000,000 | -0- |
Denominator of Corporation B's sales factor....................................................................................................................... | ..........................$60,000,000 |
The sales made by Corporation A, Corporation B, and Partnership P are as follows:
Corporation A.......................................................................................................................................................... | ..........................$20,000,000 | |
Corporation B........................................................................................................................................................... | ..........................80,000,000 | |
Partnership P: | ||
To Corporation A................................................................................................... | ..........................$3,000,000 | |
To Corporation B................................................................................................... | ..........................6,000,000 | |
To Corporation X................................................................................................... | ..........................1,000,000 | $10,000,000 |
The denominator of Corporation A's sales factor is $20,200,000 determined as follows:
Sales by Corporation A............................................................................................................................................................................................................................................................. | ..........................$20,000,000 | ||
Add: Corporation A's interest in Partnership P's sales to Nonpartner X Corporation (20% x $1,000,000).................................................................................................................... | ..........................200,000 | ||
Corporation A's interest in Partnership P's sales to Partners (20% x $9,000,000)....................................................................................................... | ..........................$1,800,000 | ||
Less: Intercompany sales from Partnership P to Corporation A *...................................................................................................................................... | ..........................1,800,000 | -0- | |
Denominator of Corporation A's sales factor.......................................................................................................................................................................................................................... | ..........................$20,200,000 |
The denominator of Corporation B's sales factor is $81,800,000 determined as follows:
Sales by Corporation B............................................................................................................................................................................................................................................................. | ..........................$80,000,000 | ||
Add: Corporation B's interest in Partnership P's sales to Nonpartners x Corporation (80% x $1,000,000)................................................................................................................... | ..........................800,000 | ||
Corporation B's interest in Partnership P's sales to Partners (80% x $9,000,000).......................... | ..........................$7,200,000 | ||
Less: Intercompany sales from Partnership P to Corporation B........................................................................................................................................... | ..........................6,000,000 | 1,200,000 | |
Denominator of Corporation B's sales factor.......................................................................................................................................................................................................................... | ..........................$82,000,000 |
__________
* Not to exceed taxpayer's interest in Partnership P's sales
EXAMPLE:
Corporation A's distributive share of income in partnership P is 20%. Partnership P derives income from sources within and without this state but its business is unrelated to the business of Corporation A. Partnership P has business income of $500,000 for the year of which 40% is apportioned to this state by the applicable apportionment formula of property, payroll and sales. Corporation A shall include in its measure of tax its income received from partnership P $40,000 ($500,000 x 40% x 20%).
EXAMPLE 1:
Corporation A's distributive share of income in Partnership P is 20%. The distributive share of P's business income is not an integral part of A's trade or business so as to be considered one business. Corporation A derives business income from sources within and without this state. Partnership P is engaged in business wholly within this state. Corporation A's business income for the year is $5,000,000 of which 50% is apportioned to this state. Partnership P has a loss on its operation for the same year of $500,000. Corporation A's measure of tax is $2,400,000 ($5,000,000 x 50% = $2,500,000 - $100,000 ($500,000 x 20%)).
EXAMPLE 2:
Same facts as in Example 1 except Partnership P operates its business wholly outside this state. Corporation A's measure of tax is $2,500,000 ($5,000,000 x 50%) as no portion of Partnership P's loss is attributable to this state.
Cal. Code Regs. Tit. 18, §§ 25137-1
2. Change without regulatory effect amending subsections (f), (g)(1) and (h)(2) and amending NOTE filed 12-9-2013 pursuant to section 100, title 1, California Code of Regulations (Register 2013, No. 50).
3. Amendment filed 11-20-2018; operative 1-1-2019 (Register 2018, No. 47).
Note: Authority cited: Section 19503, Revenue and Taxation Code. Reference: Section 25137, Revenue and Taxation Code.
2. Change without regulatory effect amending subsections (f), (g)(1) and (h)(2) and amending Note filed 12-9-2013 pursuant to section 100, title 1, California Code of Regulations (Register 2013, No. 50).
3. Amendment filed 11-20-2018; operative 1/1/2019 (Register 2018, No. 47).