Opinion ID: 1190923
Heading Depth: 1
Heading Rank: 3

Heading: taxation of the federal gross up is unconstitutional unless there is a unitary relationship between an oklahoma corporation's foreign subsidiary and the state of oklahoma.

Text: The provisions of the Internal Revenue Code governing foreign tax credits and gross up calculations were adopted to relieve taxpayers, within stated limits, of the harsh consequences of double taxation, [3] without eliminating federal tax on income from foreign sources. The federal foreign tax credit scheme also precludes a federal taxpayer, who has paid foreign taxes, from taking both a federal tax credit and a deduction for the same expense. [4] American multinational corporations are offered two options in computing federal income tax: they may either deduct income taxes paid to a foreign government from taxable income under 26 U.S.C. § 164(a)(3) (1981); [5] or they may elect to credit that amount against their tax liability under § 901. [6] Pursuant to § 902 [7] corporations utilizing the § 901 credit, receiving dividends from foreign subsidiaries, and owning at least 10% of the voting stock of those subsidiaries, are considered to have paid a portion of the foreign taxes actually paid by their foreign subsidiaries. [8] This amount is also treated as a credit against the federal tax due. Section 275 [9] disallows any deduction for foreign taxes paid if a corporation has chosen the §§ 901, 902 benefits and credits. Generally, it is more advantageous for a domestic corporation to take the foreign tax credit. The credit for taxes deemed paid reduces dollar for dollar the actual federal tax due. The deduction merely reduces taxable income. [10] If a domestic corporation elects to take the tax credits afforded by §§ 901 and 902, under 26 U.S.C. § 78 (1981), [11] the gross-up, must be included in the corporation's taxable income. Although the question of state taxation of the federal gross-up is one of first impression in Oklahoma, the United States Supreme Court addressed the issue in F.W. Woolworth Co. v. Taxation & Revenue Dept., 458 U.S. 354, 372-73, 102 S.Ct. 3128, 3139, 73 L.Ed.2d 819, 833 (1982), reh'g denied, 459 U.S. 961, 103 S.Ct. 274, 74 L.Ed.2d 213 (1982). The Court held that unless there was a unitary relationship between a corporation's foreign subsidiary and the taxing state, taxation of gross-up violated due process. Other courts considering the issue both before and after Woolworth have reached varying results. [12] Nevertheless, the determinative factor has been the existence or nonexistence of a unitary relationship between the taxing state and the corporation. [13] Recently, in Matter of Income Tax Protest of Ashland Exploration, Inc., 751 P.2d 1070, 1072 (Okla. 1988), we defined unitary business. A business is unitary if it operates in more than one state, and if operations conducted in one state benefit or enhance business activities in one or more other states. These activities must be so interdependent and so mutually beneficial that, in effect, they comprise one integral business. Taxation of the federal gross up is constitutional if a unitary relationship exists between the taxing state and the domestic corporation's foreign subsidiary. Otherwise it is unconstitutional because the state has not provided protection, opportunities, or benefits to the corporation for which it can ask for something in return  taxes. [14]