Case Title: Dupee v. Tracy

Citation: 1999-Ohio-382

Docket Number: 19980255

State: ohio

Court: Ohio Supreme Court

Date: 1999-04-28T00:00:00Z

Document:
DUPEE ET AL., APPELLANTS, v. TRACY, TAX COMMR., APPELLEE. 
[Cite as Dupee v. Tracy (1999), ___ Ohio St.3d ___.] 
Taxation — Income tax — Distributive share income nonresident shareholders of 
an Ohio S corporation receive and report as part of their federal adjusted 
gross income is subject to Ohio personal income tax. 
(No. 98-255 — Submitted February 10, 1999 — Decided April 28, 1999.) 
APPEAL from the Board of Tax Appeals, No. 96-K-300. 
 
Appellants, David B. Dupee and Katherine O. Dupee, contest the Board of 
Tax Appeals’ ruling which denied their claims for Ohio income tax refunds for the 
years 1989, 1990, and 1991.  The stipulated facts reveal that during the tax years in 
question, appellants were Florida residents who were shareholders of and received 
salaries from an Ohio corporation, Olsten of Cincinnati, Inc. (“Olsten”).  Olsten 
operated under a subchapter “S corporation” election, and for each tax year, the 
corporation filed form IT-1120-S “Notice of S Corporation Status” with the Ohio 
Department of Taxation. 
 
In filing their federal and Ohio tax returns, appellants included their 
distributive shares of Olsten income in their federal and Ohio adjusted gross 
income.  Appellants also apportioned their distributive share of Olsten’s income to 
Ohio on their original Ohio tax returns.  However, appellants subsequently claimed 
that they were entitled to a nonresident credit and filed refund claims to exclude all 
of the Olsten distributive share income from Ohio income taxation.  The 
commissioner disallowed the refund claims. 
 
Appellants appealed the commissioner’s Final Determination to the Board of 
Tax Appeals (“BTA”).  The BTA affirmed the commissioner’s order, holding that 
since Olsten was designated an S corporation, the income the corporation generates 
is considered to be earned or received by appellants and is treated as personal 
income to appellants. 
 
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The cause is now before this court upon an appeal as of right. 
__________________ 
 
Katz, Teller, Brant & Hild and William F. Russo, for appellants. 
 
Betty D. Montgomery, Attorney General, and Robert C. Maier, Assistant 
Attorney General, for appellee. 
__________________ 
 
FRANCIS E. SWEENEY, SR., J.  In this case, we are asked to decide whether 
the distributive share income nonresident shareholders of an Ohio S corporation 
receive and report as part of their federal adjusted gross income is subject to Ohio 
personal income tax.  For the reasons that follow, we answer this question in the 
affirmative.  Accordingly, we affirm the decision of the BTA. 
 
R.C. 5747.02 imposes an income tax on every individual residing in or 
earning or receiving income in Ohio.  Appellants contend that they are not subject 
to Ohio income tax because, as residents of Florida, they could not have earned or 
received S corporation income generated in Ohio.  Instead, appellants claim that 
their distributive share of the S corporation’s income was earned or received by 
Olsten.  Consequently, appellants claim that they are entitled to nonresident tax 
refunds under R.C. 5747.05(A). 
 
In making these arguments, appellants ignore the distinguishing 
characteristic of an Ohio S corporation and the effect an S corporation election has 
on individual shareholder income tax liability.  Essentially, an S corporation is 
considered a “flow-through” entity whereby the income and losses of the business 
are nontaxable to the corporation, but instead flow through to the individual 
shareholders.  In Ardire v. Tracy (1997), 77 Ohio St.3d 409, 674 N.E.2d 1155, fn. 
1, we discussed this concept when we stated: 
 
“Subchapter S of the Internal Revenue Code (Section 1361 et seq., Title 26, 
U.S.Code) permits the owners of qualifying corporations to elect a special tax 
 
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status under which the corporation and its shareholders receive conduit-type 
taxation that is comparable to partnership taxation.  For tax purposes, a 
Subchapter S corporation differs significantly from a normal corporation in that 
the profits generated through the S corporation are taxed as personal income to 
the shareholders.  The taxable income of an S corporation is computed essentially 
as if the corporation were an individual.  Section 1363, Title 26, U.S.Code.  Items 
of income, loss, deduction, and credit are then passed through to the shareholders 
on a pro rata basis and are added to or subtracted from each shareholder’s gross 
income.  See, generally, Section 1366, Title 26, U.S.Code.”  (Emphasis added.) 
 
The fact that appellants are nonresident shareholders of an Ohio corporation 
does not render them incapable of earning or receiving income in Ohio.  The 
character of a shareholder’s S corporation income remains the same for residents 
and nonresidents.  The Internal Revenue Code provides, in Section 1366(b), Title 
26, U.S.Code, that “[t]he character of any item included in a shareholder’s pro rata 
share [of the S corporation’s income] shall be determined as if such item were 
realized directly from the source from which realized by the corporation, or 
incurred in the same manner as incurred by the corporation.”  Thus, the 
shareholder’s income is treated the same as that of the corporation regardless of 
whether the shareholders are residents or nonresidents.  In this case, since the 
income was generated in an Ohio business activity by an S corporation, the income 
is taxable as personal income to appellants. 
 
Section 1366(c), Title 26, U.S.Code provides further support that Ohio’s 
adjusted gross income includes distributive share income derived from an Ohio S 
corporation.  This section provides that “[i]n any case where it is necessary to 
determine the gross income of a shareholder for purposes of this title, such gross 
income shall include the shareholder’s pro rata share of the gross income of the 
corporation.”  Since R.C. 5747.01(A) defines “adjusted gross income” as adjusted 
 
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gross income under the Internal Revenue Code, Ohio’s definition of “adjusted 
gross income” includes the shareholder’s distributive share of income generated by 
an Ohio S corporation.1 
 
Consequently, by virtue of the S election, we find that the distributive share 
income that was generated in an Ohio business activity is income earned or 
received by appellants, nonresident shareholders of the S corporation, and is 
taxable to them as individual shareholders.  Thus, S corporation income listed in 
the shareholders’ federal adjusted gross income must also be listed in their Ohio 
adjusted gross income. 
 
Appellants also argue that their distributive share income is nonbusiness 
income and that it is to be allocated to their state of domicile pursuant to R.C. 
5747.20(B)(6).  Furthermore, they state that the General Assembly’s failure to 
include S corporations in R.C. 5747.22 should be interpreted to mean that an S 
corporation shareholder’s distribution is not business income. 
 
We have held that “[f]ailure to include errors in the notice of appeal to the 
BTA results in the BTA’s lack of jurisdiction over the errors and the court’s 
inability to review such errors.”  Buckeye Internatl., Inc. v. Limbach (1992), 64 
Ohio St.3d 264, 267, 595 N.E.2d 347, 349.  The notice of appeal to the BTA 
essentially listed as error the issue of whether nonresident shareholders of Ohio S 
corporations earn or receive such income in Ohio and are subject to Ohio tax.  
Since the notice of appeal did not specify the above remaining arguments, we are 
without jurisdiction to address them. 
 
For the above reasons, we find that the decision of the BTA is neither 
unlawful nor unreasonable.  Accordingly, we affirm the decision of the BTA. 
Decision affirmed. 
 
MOYER, C.J., DOUGLAS, RESNICK, PFEIFER, COOK and LUNDBERG STRATTON, 
JJ., concur. 
 
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FOOTNOTE: 
1. 
The legislative history behind Ohio’s treatment of S corporations also 
supports this conclusion. In 1985, the General Assembly, in Am.Sub.S.B. No. 121, 
made several changes to R.C. Chapter 5747.  141 Ohio Laws, Part I, 306.  Prior to 
this time, S corporations were subject to franchise taxes.  However, Am.Sub.S.B. 
No. 121 exempted S corporations from the franchise tax and amended the 
provision that excluded S corporation distributive share income from Ohio 
adjusted gross income.  See former R.C. 5733.01(C), 5747.01(A), 5747.01(S)(5).