Opinion ID: 1918302
Heading Depth: 3
Heading Rank: 2

Heading: District taxation of partnerships and affiliated corporations.

Text: In marked contrast to the federal system, the District treats most unincorporated businesses as taxable entities in their own right, and rarely allows the use of consolidated returns. Under the District's tax structure, individuals, corporations, and unincorporated businesses are all separately subject to taxation under D.C.Code § 47-1801.1 to § 47-1816.3 (1997). A corporation includes trusts, associations, and companies that are classified as corporations under the federal IRC, and also includes financial institutions. See D.C.Code §§ 47-1801.4(16), -1807.1(1). An unincorporated business is sweepingly defined as any trade or business conducted or engaged in by any non-corporate entity, with four express exceptions. See D.C.Code § 47-1808.1. The most significant are the exceptions for a trade or business in which more than 80% of the gross income is derived from personal services and in which capital is not material, and for professional corporations under Chapter 6 of Title 29 of the D.C.Code, such as law firms, accounting firms, engineers, and medical practitioners. See id. Such excepted trades or businesses are treated as pass-through entities. See D.C.Code § 47-1808.6. In the District, individuals are taxed on personal income, while a franchise tax is levied against the income of all taxable business entities for the privilege of carrying on or engaging in any trade or business within the District. D.C.Code § 47-1807.2(a). Income for all categories of taxpayers is defined in detail in subchapter III. Subchapter VII establishes the franchise tax for corporations and financial institutions; subchapter VIII establishes the franchise tax for unincorporated businesses. Subchapters VII and VIII are in many respects parallel, and both indirectly refer to subchapter III for a definition of taxable income. [6] See D.C.Code § 47-1807.1(2) & § 47-1808.2(1). To avoid double taxation for unincorporated business activity, the distributive share of a trade or business net income that is subject to the unincorporated business franchise tax is excluded from calculation of an individual owner's gross income. D.C.Code § 47-1803.2(a)(2)(D). The structure of a business in the District, incorporated or unincorporated, typically will not have significant local tax consequences insofar as the business itself is concerned because both classifications are treated similarly by the District tax code. Regulations support this intent, explaining that the design of the unincorporated business tax under the law is to impose a tax upon all business income which would be subject to the corporation franchise tax (as though the business were incorporated), without regard to whether the business is carried on by an individual, a partnership, or some other unincorporated entity. 9 DCMR § 117.1 (1996). The District treats affiliated corporations differently from the manner in which they are treated under federal regulations. Specifically, District law requires most such corporations to file separate returns, even where they have participated in a federal consolidated return. D.C.Code § 47-1805.2(5)(B) provides: Affiliated corporations (including affiliated incorporated financial institutions) shall file separate returns unless permitted by the Mayor to file consolidated returns. Along with this general prohibition against consolidated returns, the regulation allowing for exceptions is narrow. Most importantly, under the regulations enforcing § 47-1805.2(5)(B), a consolidated return may be filed only by affiliated groups where all members are subject to the District franchise tax on one hundred percent (100%) of net income from trade or business subject to apportionment. In other words, if a group filing a federal consolidated return includes at least one corporation outside the District's tax jurisdiction, then each individual member of the group within the jurisdiction must file a separate return. 9 DCMR § 109.1. Thus, under most circumstances, participation in filing a federal consolidated return by a corporation doing business in the District would have no readily discernible effect on the corporation's tax liability under the District's franchise tax  whether filing a federal consolidated return or not, the corporation would file an individual District return, and pay local taxes according to that return. Prior to 1987, no business, whether incorporated or not, and without regard to whether it had filed a federal consolidated return, could take advantage of a net operating loss deduction for District tax purposes. Each tax year was treated as a unit unto itself without regard to past or future gains or losses of the enterprise. However, in 1987, in an effort to bring the District tax law into greater conformity with the IRC without any overall increase in District taxes, the Council of the District of Columbia enacted the Tax Conformity and Revision Amendment Act (the Act). Among its numerous provisions, the Act added a net operating loss deduction provision to the list of income deductions set forth in D.C.Code § 47-1803.3: (a) Deductions allowed.  The following deductions shall be allowed from gross income in computing net income of corporations, financial institutions, unincorporated businesses and partnerships: ... (14) Net operating losses.  In computing the net income of a corporation, an unincorporated business, or a financial institution, there shall be allowed a deduction for net operating losses, in the same manner as allowed under § 172 of the Internal Revenue Code of 1986 and as reported on any federal tax return for the same taxable period, except that no net operating losses may be carried back to any year ending before January 1, 1988. The interpretation of D.C.Code § 47-1803.3(a)(14) and its interaction with the IRC is the issue debated by the parties and now before us for resolution on this appeal. [7]