September 13, 2017
Petition for Review from the Court of Appeals for the Third
District of Texas
P. Devine Justice.
taxpayer that conducts business in multiple states must
apportion its business revenue among the states in which it
does business. For the Texas franchise tax, section 171.106
of the Tax Code provides for such apportionment under a
single-factor formula, which compares the taxpayer's
gross receipts derived from its Texas business to its gross
receipts everywhere. Another provision of the Tax Code,
section 141.001, adopts the Multistate Tax Compact. This
Compact sets out a three-factor formula for apportioning
"business income" for an "income tax" and
provides that a taxpayer subject to a state income tax may
elect to apportion its income "in the manner provided by
the laws of such state" or may elect to apportion using
the Compact's three-factor formula. Tex. Tax Code §
141.001, arts. III.1, IV.9.
issue here is whether the franchise tax is an "income
tax" to which the Compact applies, thus invoking the
Compact's election and apportionment provisions. If it is
an income tax, additional issues include (1) whether Tax Code
section 171.106 nevertheless precludes a taxpayer from using
the Compact's three-factor formula, or (2) whether
Texas' membership in the Compact prevents the Texas
Legislature from requiring a taxpayer to use only the
single-factor formula when apportioning its tax base to
court of appeals did not consider the latter two issues. 471
S.W.3d 138, 147 (Tex. App.-Austin 2015). It concluded instead
that the Compact's election, and therefore its
three-factor apportionment formula, did not apply because the
franchise tax was not an income tax within the Compact's
meaning. Id. The court accordingly affirmed the
trial court's summary judgment, holding that
apportionment of the Texas franchise tax is exclusively the
province of chapter 171. Id. We agree and affirm.
Packaging Corporation sells consumer product packaging
throughout the United States, including Texas. Because
Graphic does business in Texas, it must pay a franchise tax.
This tax applies to every for-profit entity doing business or
chartered in Texas that is distinct from its owners. In
re Nestle USA, Inc., 387 S.W.3d 610, 614 (Tex. 2012).
And because Graphic conducts business in multiple states it
must also determine the portion of its total business that is
taxable in Texas. For the Texas franchise tax, Tax Code
section 171.106 provides that the taxpayer apportion its tax
base (labeled in the statute as the taxpayer's
"margin") to Texas by multiplying its total margin
by a single factor: the fraction of its total gross receipts
that are derived from its Texas business. See Tex.
Tax Code § 171.006(a) (providing a gross-receipts
fraction for apportioning a taxpayer's margin); see
also id. §§ 171.002, .103 (describing
calculation of gross receipts from taxpayer's Texas
business), .105 (describing calculation of gross receipts
from taxpayer's total business); and see id.
§§ .101, .1011-.1013 (addressing determination of
years 2008-2009, Graphic initially used section 171.106's
gross-receipts fraction to apportion its
margin. Graphic later amended those franchise tax
reports and calculated its 2010 tax, using the apportionment
formula provided in chapter 141 of the Tax Code-Texas'
codification of the Multistate Tax Compact. Graphic argued
that the franchise tax was essentially an income tax to which
chapter 141's alternative apportionment scheme could be
applied at the taxpayer's election.
Texas Comptroller disagreed. He denied the refunds and
assessed a deficiency for 2010, concluding that section
171.106's gross-receipts fraction was the exclusive
method to determine the franchise tax. Graphic subsequently
paid the assessed 2010 taxes under protest after
unsuccessfully pursuing administrative relief.
exhausting its administrative remedy, Graphic filed suit in
district court, seeking $821, 961 for tax years 2008-2010 on
the ground that it was entitled to apportion its margin using
chapter 141's three-factor apportionment
formula. The parties filed cross-motions for
partial summary judgment on the apportionment issue. The
court granted the Comptroller's motion, denied
Graphic's motion, and, after Graphic non-suited its other
claims, rendered a final judgment for the Comptroller.
Graphic appealed, and the court of appeals affirmed, holding
that chapter 141's income-apportionment provisions do not
apply to the franchise tax because it is not an "income
tax." 471 S.W.3d at 147.
Is the Texas franchise tax an income tax?
argues that the franchise tax is an "income tax"
because it satisfies chapter 141's definition of the
term. Chapter 141 defines "income tax" as
a tax imposed on or measured by net income including any tax
imposed on or measured by an amount arrived at by deducting
expenses from gross income, one or more forms of which
expenses are not specifically and directly related to
Tex. Tax Code § 141.001, art. II.4. Graphic contends
that its taxable "margin" for franchise tax
purposes under chapter 171 is essentially the same thing as
its "net income" under chapter 141. According to
Graphic, both are determined by "deducting expenses from
gross income, " one or more of which "are not
specifically and directly related to particular
transactions." Id. And because margin and net
income are synonymous, Graphic submits the court of appeals
erred in denying Graphic the use of chapter 141's
three-factor apportionment formula under the election
provided by that chapter. Id. § 141.001, arts.
171 specifically pertains to the franchise tax and provides
several alternatives for calculating a taxpayer's margin.
Tex. Tax Code §§ 171.001(a), .101. The calculation
begins with "total revenue, " a figure derived by
adding together select amounts reportable as gross income on
a federal tax return, subtracting bad debts and other items
included on the federal return, and excluding receipts
associated with various transactions. Id.
§§ 171.101(a), .1011. From total revenue, the
taxpayer deducts the largest of: (1) 30% of total revenue,
(2) $1 million, (3) the cost of goods sold, or (4) the
compensation paid including benefits, subject to a cap.
Id. §§ 171.101(a), .1012, .1013. The
result is the taxpayer's margin. Id. §
this calculation is not the tax base for all taxpayers. A
taxpayer whose total revenue does not exceed $20 million may
calculate its franchise tax using simply its total revenue.
Id. § 171.1016. Although taxpayers who use
total revenue as their tax base forego the alternative
deductions listed above, they pay a lower rate under what the
statute terms the "E-Z Computation and Rate."
tax years at issue, Graphic calculated its margin by
subtracting the cost of goods sold from total revenue.
Because those expenses included indirect costs "not
specifically or directly related to a particular transaction,
" Graphic concludes the franchise tax also constituted
an "income tax" under chapter 141, entitling it to
elect apportionment under that chapter's three-factor
formula. See Tex. Tax Code § 141, arts. II.4,
III.1 (providing taxpayers subject to an income tax an
apportionment election); id. §§
171.101(a), .1012 (providing a deduction for costs of goods
sold among other alternatives).
court of appeals disagreed, concluding that the correlation
between a taxpayer's margin and net income was
insufficient to make the franchise tax an income tax. 471
S.W.3d at 144. In fact, the court noted the anomalous
possibility that a taxpayer might have a positive margin and
thus owe franchise tax even in the absence of net income.
Id. at 144 & n.3. After examining the various
alternatives for determining the tax base for franchise tax
purposes, the court concluded that margin and net income are
not the same. Id. at 144. For example, the court
reasoned that a franchise tax based on "total
revenue" as in the case of E-Z filers or one premised on
70% of total revenue under another alternative could not
"fairly be read to mean 'net income.'"
Id. The court reasoned further that subtracting a
fixed amount, such as a $1 million deduction from total
revenue was "not the same as 'deducting expenses
from gross income.'" Id. (comparing Tex.
Tax Code §171.101 and id. § 141.001, art.
II.4). Similarly, the court found the cost-of-goods-sold and
compensation deductions too selective and limiting to
constitute the deduction of expenses from gross income.
Id. And having found the existence of significant
distinctions between a taxpayer's margin under chapter
171 and a taxpayer's net income under chapter 141, the
court held the franchise tax was not an income tax.
Id. at 147.
Comptroller, of course, agrees that the franchise tax is not
an income tax but adds that the most direct resolution of the
issue lies in an uncodified provision included in the 2006
act that restructured the franchise tax. There, the
Legislature stated: "The franchise tax imposed
by Chapter 171, Tax Code, as amended by this Act, is not
an income tax and Pub. L. No. 86-272 does not apply to
the tax." Act of May 2, 2006, 79th Leg., 3d C.S., ch.1,
§ 21, 2006 Tex. Gen. Laws 1, 38 (emphasis added). The
Comptroller submits that in providing by law that the
franchise tax "is not an income tax, " the
Legislature could not have meant for the tax to meet a
definition of "income tax" in the very code it was
amending. See, e.g., In re Bridgestone Americas Tire
Operations, LLC, 459 S.W.3d 565, 572 (Tex. 2015)
(quoting Acker v. Tex. Water Comm'n, 790 S.W.2d
299, 301 (Tex. 1990) ("We presume the Legislature
enacted the statute 'with complete knowledge of the
existing law and with reference to it.'")).
course the Legislature's stated intent not to create an
income tax cannot alter the facts. If the franchise tax is
indeed a tax on net income as chapter 141 defines income tax,
the Legislature's disclaimer is for naught. But some
ambiguity exists here. While deductions for the cost of goods
or wages are perhaps sufficiently close to chapter 141's
income tax definition, other deductions that permit a fixed
amount or percentage to be subtracted from total revenue are,
as the court of appeals observed, "not the same as
'deducting expenses from gross income.'" 147
S.W.3d at 144. And certainly chapter 141's income tax
definition says nothing about a franchise tax based solely on
a taxpayer's total revenue. Tex. Tax Code § 141.001,
court of appeals, Graphic argued that the choice was a binary
one, contending "that 'a tax on business
activity' must be either an 'income tax' or a
'gross receipts tax' as those terms are defined in
chapter 141." 471 S.W.3d at 146. Graphic urged that the
franchise tax was clearly not a gross receipts tax, as
defined, and therefore must be an income tax. See
Tex. Tax Code § 141.001, art. II.6 (defining a gross
receipts tax). The court of appeals disagreed with
Graphic's premise that the franchise tax had to be either
a "gross receipts tax" or an "income tax,
" concluding that the tax did not fall within the
chapter's definition of either term. 471 S.W.3d at 146.
Instead, the court noted that the chapter "expressly
recognizes and defines other types of taxes, including
defining 'tax' to include 'any other tax which
has a multistate impact.'" Id. (citing Tex.
Tax Code § 141.001, art. II.4-.9). The Comptroller
similarly submits that the franchise tax is neither an
"income tax" nor a "gross receipts tax"
but rather a hybrid of both, rendering chapter 141's
apportionment scheme inapplicable. See Tex. Tax Code
§ 141.001, art. III.3 ("Nothing in this article
relates to the reporting or payment of any tax other than an
income tax."); see also Cynthia M. Ohlenforst,
The New Texas Margin Tax: More Than a Marginal Change to
Texas Taxation, 60 Tax Law. 959, 959 (2007) (describing
the franchise tax as "an entirely new tax that combines
elements of a gross receipts tax with elements of a net
income tax"); John A. Biek, Alternativ e Formulary
Apportionment Under the Multistate Tax Compact, 16 J.
Passthrough Entities 41, 46 (2013) (observing that the margin
tax might not be determined to be an income tax because it
"is computed on a modified revenue tax base").
were we to agree with Graphic that its franchise tax for the
years in question amounted to the same thing as chapter
141's income tax (an issue we do not decide), Graphic
must still establish that the Legislature did not, or could
not, make chapter 171's single-factor apportionment
formula the exclusive means for apportioning the Texas
franchise tax. We turn then to the issues the court of
appeals did not consider: (1) whether Tax Code section
171.106 precludes a taxpayer from using the Compact's
three-factor formula, and (2) whether Texas' membership
in the Compact prevents the Legislature from requiring the
taxpayer to use only the single-factor formula to apportion
the franchise tax.
Does Tax Code § 171.106 preclude a taxpayer from using
the Compact's three-factor ...