Amicus Curiae Brief — Trinova Corp. v. Michigan Dept. of Treasury

-

-

&

‘

’, > , ’ ‘

%

‘

s

‘

a;

t uot

+ whe Be ee

4 x ee a

Ts

t ¢

o4

PT e

: P

Le? a

ne: rie OPC. aie

P > t® alee:

“a” —* ;

pied Be

" s

’

~

ae s

PA _

- 4 Caren > 50 bots PE fee ‘Fae R? Sf

Lh ngs eS

ba * a |

a

BLE COPY

sep FF ea pwr Sue

; >

Oot :

a oe ae i

We >» § ‘a cae

ee a

¥ ais f as

" : *

:? . 4 oe ats bak Sa

. ee

“ ft 5G F yes

Mt Delt

aie

- BEST AVAILA

- «

: fe

“ ug Ter

oS; f PB! aie -

tis inate area ~

hm Alien”. 5

¥

*

QUESTION PRESENTED

Whether Michigan’s Single Business Tax, Mich. Comp.

Laws § 208.1 et seq., is consistent with the Commerce and

Due Process Clauses of the federal Constitution.

(i)

TABLE OF CONTENTS

EE EE

THE SBT IS FAIRLY APPORTIONED AND

THEREFORE IS CONSISTENT WITH

THE COMMERCE AND DUE PROCESS

eee

I.

A.

B.

The SBT Is A Tax On The Unitary Course

es MeOGIWieW on.

Costs Of Production Or Value Added Cannot

Be Ascertained Through Geographical Ac-

ES

Sales Are Crucial Components Of The Uni-

tary Course Of Business Activity And May

Be Used To Apportion Petitioner’s Tax

Nee sestenecsoeecnccoaenes

The SBT Should Be Upheld As A Variant

Of A Concededly Constitutional Gross Re-

Teens ssuseceenncerceces

Il. THE SBT DOES NOT DISCRIMINATE

AGAINST INTERSTATE COMMERCE ...........

A

(ili)

18

iv

TABLE OF AUTHORITIES

CASES: Page

Amerada Hess Corp. v. New Jersey Taxation Di-

vision, 109 S.Ct. 1617 (1989) . 0... auiaeicaell passim

American Trucking Ass’ns v. Scheiner, 483 US.

Se IE NS AO a Ne 29

Armco Inc. v. Hardesty, 467 U.S. 638 (1984) . 27

Armco Steel Corp. v. Department of Revenue, 102

N.W.2d 552 (Mich.), app. dismissed, 364 U.S.

Bee IN aise eee ee eee 6, 21, 22

ASARCO Ine. v. Idaho State Tax Comm’ n, 458

U.S. 307 (1982) Pee A SEAS as

Bass, Ratcliff & Gretton, Ltd. v. State Tax Comm’n,

Se ks en I a cakclice tent, ee ee 9

Boston Stock Exchange v. State Tax Comm'n, 429

eh RE i iisesiencninadeciec eden aoe ieee . 37,29

Butler Brothers v. McColgan, 8315 U.S. 501

INE oscsvisnenecstanmcoctedeieiastesd eee ee 9

Compiete Auto Transit, Ine. v. Brady, 430 U.S. 274

(| Snr ma me rte MIO 7, 8, 22, 23

Container Corp. v. Franchise Tax Board, 463 U.S.

I II ccicarnsancinesatrninncamanniaumnes 9,10, 17, 18, 19

D.H. Holmes Co. Me Namare, 108 S.Ct. 1619

sy Wy IE nsusacncnsetnenncsaneasncnbiiideddca abiotic ae 19

Exxon Corp. v. Department of Revenue, 447 U.S.

207 (1980) . ae. &, 9, 16, 18, 19, 20

Exxon Corp. v. Gov ernor . of Maryland, 437 U.S.

BET TOPE sctecccsscremninincinannae te 28

Ford Motor Co. v. Beanchamp, 308 U. S, 331

L,I a ee AMM SMe ae 18

General Motors Corp. v. W ashington, 377 US S 436

(1964) .. phnanbacns cokancaisaetparteamatmeie Mn 22

Goldberg v. ie eet, 109 S.Ct. 582 (1989) ... 6a

Halliburton Oil Well Co. v. Reily, 373 U.S. 64

CIID cacsnncoiesinicceittnncuccdcumcsen tech ah Se ee 29

Hughes v. Alexandria Scrap Ce: 426 US. 794

RII ones cnnscmnetssetinbinctabn eee 27

Japan Line, Ltd. v. County of Los Angeles, 441

U.S. 484 (1979) ................. co 20

Maryland v. Louisiana, 451 U. S. 725 (1981). ee 29

Vv

TABLE OF AUTHORITIES—Continued

Page

McGoldrick v. Berwind-White Coal Mining Co.,

eens Te I iseeicincntedanneedasthacsientibcniclanpaantitie 22

McLeod v. J.E. Dilworth Co., 322 U.S. 327

ED sssvilinloiscsnicscccaciicstinatisasatisisaienialenilasaniaispesiabiaicaniiane 22, 25

Mobil Oil Corp. v. Commissioner of Taxes, 445

Be, I ED - acnitieivavbeniniaaceaistesbiclamacnccsdedhcidnc a tenad 8,9, 17

Mobil Oil Corp. v. Department of Treasury, 373

Rf mB ee | en ee 2-3, 14, 25

Moorman Manufacturing Co. v. Bair, 4837 U.S.

SN? 1 IIIT ieiesintziiabsntsibcncdemeabiealeetamienticieiiausaiel 8, 22, 23, 30

National Geographic Society v. California Board

of Equalization, 430 U.S. 551 (1977) ................... 22

Standard Pressed Steel Co. v. Washington Reve-

nue Dep’t, 419 U.S. 560 (1975) ............................. 22

Town & Country Dodge, Inc. v. Department of

Treasury, 362 N.W.2d 618 (Mich. 1984) ............. 13-14

Tyler Pipe Industries, Inc. v. Washington Dep’t of

Revenue, GBR UB. BEB (IGRI) cccncccccnccsecccccss.s00ss 22

Underwood Typewriter Co. v. Chamberlain, 254

Ss. ee SII sccniseciticcsssisceensstiesetsiadentenmteanadenabiidieaibabisinaitan 9,10

Westinghouse Electric Corp. v. Tully, 466 U.S. 388

UII sia:as 1c diiisndt heen ecinatelbeas ed dilecdbiaseateshb deed aad anaesaaen 29

Wisconsin v. J.C. Penney Co., 311 U.S. 435

RIRIPIIIET ncccsiasthonnscornanntiectnnsintuablicigh idianamimsnsastaenaael 8, 14, 19, 23

CONSTITUTIONAL PROVISIONS:

Commerce Clause, U.S. Const. Art. I, § 8, cl. 3........4, 7, 15,

21, 27

Due Process Clause, U.S. Const. Amend. XIV, § 1... 4, 7,

15, 21

STATUTES:

Single Business Tax, Mich. Comp. Laws § 208.1

ris cake oceecernntstnceeectendletnasasdendsaieanaaneuntaneane passim

i ipsa Sar a ce 2,11

NEI vcs ccicstiviainbionen Sapdueecabtaiedaemannceaaaanaa 2

RAR aa ean eee ine EAE NR eR koe caw en 2,14

ae TNO cc ee 3

SP IID a decnsetetecsesactnsenncarsnens cocchacaciecbehianiats 20, 28

vi

TABLE OF AUTHORITIES—Continued

Dactcaceae cigs NN REN a Re NS

ot a A NEES AES SII SRT EME Wee neue ea

Ooo be, aE EI EN Sie ne

§ 208.45 ........ setainecinisinnlainessoinimapslaunnsatineusiehandesnasisbabaeeis

owes uit ETA OE ee aR

Mich. Stat. Ann. §§ 7.557(1)-(24) (1955 Cum.

Supp.), repealed 1967 Mich. Pub. Acts 281.

1987 Mich. Pub. Acts 39, § 2, reprinted at Note to

Mich. Comp. Laws § 208.69 (Supp. 1990) _.......

MISCELLANEOUS:

Aaron, Introduction in The Value Added Tax (H.

ve ectge th | RE LIE EE Ae Teste

tions, The Michigan Single Business Tar: A

Different Approach to State Business Taxation

een, A ee RAT WN Se ACRES RB A 20,

American Bar Ass’n, The Choice Between Value

Added and Sales Taration at the Federal and

State Levels in the United States, Fourth Re-

port of the Special Comm. on the Value-Added

Tax of the Section on Taxation, 29 Tax. Law.

rep cache, kas Te ee)

CSOSSS SESS SSS SSSseeseSoseoesesesseseooscesece

Business Tar: Theory and Mechanics, 22

Wayne L. Rev. 1069 (1976)

21, 27

12, 26

23

vii

TABLE OF AUTHORITIES—Continued

Page

Lindholm, The Origin of the Value-Added Tax, 6

ig TRG Tic eee WIE secckcdashnccespeenenrasccesmsenceuncuesapsoans 21

Lock, Rau & Hamilton, The Michigan Value-Added

Taz, 8 Natl Tax J. 367 (1966) ....................... mat 20, 21

McDaniel, A Value Added Tax for the United

States? Some Preliminary Reflections, 6 J.

SA Tie, es WI v cate scneicaciiaacdecdontshanaienpenanssnintes 23

Mitchell, Taxes Repealed and Amended, 22 Wayne

ids OU, MI nls ia sernatagticiceuecuen ene = 27

R. Musgrave & P. Musgrave, Public Finance in

Theory and Practice (5th Ed. 1989) _... 15, 23, 23-24

Note, Value-Added Taxation: Its Concept and Ef-

fects, 39 U. Cin. L. Rev. 331 (1970) ..................... 26

Smith, Value-added tar: the case for, Harv. Bus.

Rev. 77 (Nov.-Dec. 1970) _.............. me aN HE AEB! 12, 24, 25

C. Sullivan, The Tar on Value Added (1965)........ 23

Taxation and Economic Policy Office, Michigan

Department of Treasury, Analysis of the Michi-

gan Single Business Tax (1985) ................ 12, 13, 24, 27

Uniform Division of Income for Tax Purposes Act,

Ue Seen sociadantintncemide teens dees aig 3

3 U.S. Dep’t of the Treasury, Tax Reform for

Fairness, Simplicity, and Economic Growth

4S : Pata 12, 23, 24, 25, 26, 27

IN THE

Supreme Court of the United States

OCTOBER TERM, 1989

No. 89-1106

TRINOVA CORPORATION,

¥. Petitioner,

STATE OF MICHIGAN,

: Respondent.

On Writ of Certiorari to the Michigan Supreme Court

BRIEF OF THE

COUNCIL OF STATE GOVERNMENTS,

U.S. CONFERENCE OF MAYORS,

NATIONAL CONFERENCE OF STATE LEGISLATURES,

NATIONAL LEAGUE OF CITIES,

NATIONAL GOVERNORS’ ASSOCIATION,

NATIONAL ASSOCIATION OF COUNTIES, AND

INTERNATIONAL CITY MANAGEMENT ASSOCIATION;

JOINED BY THE MULTISTATE TAX COMMISSION

AS AMICI CURIAE IN SUPPORT OF RESPONDENT

INTEREST OF THE AMICI CURIAE

Amici Council of State Governments, U.S. Conference

of Mayors, National Conference of State Legislatures,

National League of Cities, National Governors’ Associa-

tion, National Association of Counties, and International

City Management Association are organizations whose

members include state, county, and municipal govern-

ments and officials throughout the United States; they

have a compelling interest in legal issues that affect state

and local governments. Amicus Multistate Tax Commis-

sion is the official administrative agency of the Multistate

2

Tax Compact.' The Comniission has a vital and continu-

ing interest in tax disputes that may affect the adminis-

tration of state tax systems.

This case involves a constitutional challenge to Michi-

gan’s Single business Tax, the State’s principal levy on

business. Petitioner’s argument calls into question meth-

ods that now are used by virtually all States to apportion

the values of interstate businesses for purposes of state

taxation; it also, at a time that many States are facing

severe budget problems, challenges an innovative system

of taxation that encourages investment and _ produces

stable revenues. Amici therefore submits this brief to as-

sist the Court in the resolution of this case.*

STATEMENT

1. Michigan’s principal tax on business is a Single

Business Tax (SBT), Mich. Comp. Laws (MCL) § 208.1

eft seq., that it imposes on all “business activity in | Mich-

igan| which is allocated or apportioned to | Michigan ].”

MCL § 208.5111). This taxable “business activity” is

broadly defined to include the “transfer of legal or equi-

table title to or rental of property, * * * or the perform-

ance of services, or a combination thereof.’ MCL

+ 208.5(2). As interpreted by the Michigan Supreme

Court, “[t]he subject of the [SBT] thus encompasses the

complete range of entrepreneurial activities of which com-

pensating employees is but one part.” Pet. App. 22a.

Calculation of the value of this taxable “business ac-

tivity’ begins with federal taxable income. MCL §§ 208.3

(31, 208.9. See Pet. App. lla; Mobil Oj/ Corp. v. Depart-

ment of Treasury, 373 N.W.2d 730, 732, 741-742 n.15

1 The Compact has been entered into by 18 States and the Dis-

trict of Columbia as full members; 12 additional States have joined

the Compact as associate members. This briet should not be read

to reflect the views of any member Staite that files a separate brief

in this case.

“The parties’ letters of consent pursuant to Rule 37 of the Rules

of this Court have been filed with the Clerk of the Court.

3

(Mich. 1985). To this figure the taxpayer makes several

additions that “reflect the business consumption of labor

and capital” (Pet. App. lla), including ‘‘compensation,

depreciation, dividends, and interest paid by the taxpayer

to the extent deducted from federal taxable income.’

Ibid. See MCL §&§ 208.9(2)-(6). If the taxpayer is a

multistate business, it then determines the portion of this

business activity that is taxable in Michigan. It does so

by attributing to Michigan the percentage of the firm’s

tax base (that is, the portion of its business activity) chat

is equivalent to the percentage of the firm’s total busi-

ness activity that it conducts in Michigan, as calculated

by use of a three-part formula that itself is the average

of three ratios: the ratio of the firm’s in-state sales to

its total sales; the ratio of its in-state property to its _

total property; and the ratio of its in-state payroll to its *

total payroll. MCL § 208.45. See Pet. App. 1la-12a.°

Once apportioned (and as modified by certain adjust-

ments not at issue here), the tax base is multiplied by

the SBT tax rate of 2.35°. to determine the taxpayer's

liability. MCL § 208.31(1). See Pet. App. 13a.

2. Petitioner is an Ohio corporation that manufactures

automobile components. Although most of its manufac-

turing takes place elsewhere, petitioner has fourteen sales

and clerical personnel in Michigan. In 1980, the tax year

at issue here, petitioner also made some 26.6% of its

sales—worth $103,981,354—in the State. Pet. App. 7a.

For the year in question, petitioner had a total tax

base of $221,125,319. Pet. App. lla n.10. Using the

SBT’s three-part formula, petitioner concluded that just

under 9% of this base, or $19,838,700 should be attrib-

uted to Michigan. Jd. at 12a-13a n.12. Petitioner then

was permitted to reduce this figure to $12,492,671 through

application of a so-called excess compensation deduction

3The apportionment formula is taken from the Uniform Di-

vision ef Income for Tax Purposes Act (UDITPA), TA U.L.A, 322.

See Pet. App. 12a n.12.

: 4

(the details of which have no bearing cn the constitu-

tional issues now before the Court). Jd. at 13a n.13.

Petitioner owed $293,528 on this amount, which it paid.

Id. at 7a.

Petitioner subsequently brought this suit, seeking a re-

fund and challenging the constitutionality of the SBT

apportionment formula under the Commerce and Due

Process Clauses. Pet. App. Ta-8a, 20a-2la. While peti-

tioner acknowledged that the business income (or loss)

portion of the tax base was subject to formulary appor-

tionment, it contended that the three-part formula could

not be applied to the compensation and depreciation ele-

ments of the tax base. Instead, petitioner argued that

Michigan could tax only “actual” Michigan compensation

and depreciation. See id. at 24a. Because petitioner's

actual Michigan compensation was $511,774 and _ its

actual Michigan depreciation was $2,152—and_ because

petitioner had a substantial business Joss for the year in

question—it concluded that it had a negative tax base and

accordingly had no tax liability. See id. at 8a & n.4. The

Michigan Court of Claims accepted petitioner’s conten-

tion (id, at 42a-5la), but the Michigan Court of Appeals

reversed, Id. at 30a-41a.

The Michigan Supreme Court affirmed that judgment,

sustaining the constitutionality of the SBT’s apportion-

ment provision. Pet. App. la-28a.! The court noted that

this Court “long ago upheld the constitutionality of

formulary apportionment” (id. at 23a), “reject|ing]

separate accounting as a means to identify business ac-

tivity by reference to a discrete geographic boundary.”

Id. at 22a. The court added that it did “not believe that

4 Petitioner had brought suit under MCL § 208.69, which author-

ized relief when the statutory apportionment formuia failed fairly to

reflect the extent of the taxpayer's business activity in Michigan.

See Pet. App. 5a-9a, M3a-lda. The court concluded that relief was

available under Section 208.69 only when failure to modify the

formula would result ip a constitutional violation. Pct. App. 16a-

l7a. The court went on to find no such violation here. Section

208.69 has since been amended, See pave 13, infra.

5

‘business activity’ as defined under the act is susceptible

to accurate analysis when only one component of the total

business effort is examined.” /d. at 23a. Noting the enor-

mous volume of petitioner’s sales in Michigan (id. at

24a), the court concluded that “the averaged ratios of

Trinova’s payroll, property, and sales ‘actually reflect a

reasonable sense of how |its Michigan business activity

was] venerated,’ clearly satisfying the constitutional re-

quirements of internal and external consistency.” Jd. at

25a (bracketed materia! added by the court).

SUMMARY OF ARGUMENT

A. Petitioner concedes, as it must, that this Court re-

peatedly has upheld use of the three-part apportionment

formula in dividing income for purposes of state taxa-

tion. Its attempt to avoid the force of these holdings

rests on three propositions: that the SBT is a tax on

segregable increments of “value added’; that these in-

crements of value (in contrast with concededly appor-

tionable income: are readily capable of precise terri-

torial allocation; and that the use of sales ratios in the

apportionment formula is in any event inappropriate be-

cause sales activity is irrelevant to the determination of

a value added tax. Each of these propositions is incor-

rect. Petitioner mischaracterizes the SBT, and _ petition-

er’s economic assumptions are inconsistent with this

Court’s holdings.

1. At the outset, it is clear that the SBT was not in-

tended to tax individual increments of value. It reaches

all of a firm’s “business activity,” a term that is de-

fined to include sales. And the incidence of the tax—the

“business activity” upon which it is imposed—expressly

was understood by the legislature to be a unitary and

indivisible course of conduct commencing with a firm’s

purchase of raw materials and ending with its sale of

the manufactured product. The theory of the tax there-

fore is thet 9 firm cannot identify the “value added” by

isolated elements of its activity, a theory that makes

formulary apportionment unavoidable.

6

2. Petitioner contends that the taxed activity is not

unitary because the costs of production (which peti-

tioner equates with the ‘value added”) can be localized.

But that assertion is inconsistent with the analysis that

this Court traditionally has used to decide tax appor-

tionment cases. The same factors that make it impossi-

ble to tie the generation of income to a _ particular

location—centralization of management and purchasing,

economies of scale, functional integration, and so on—-

also frustrate attempts to compartmentalize the costs

associated with particular elements of business activity.

In this case, for example, the existence of a large mar-

ket for petitioner’s goods in Michigan necessarily af-

fected the efficiency with which petitioner was able to

make use of its labor and capital further up the pro-

duction chain; it hardly is necessary to prove that an

effective marketing operation is important to assure full

use of production facilities.

4. Similar problems inhere in petitioner’s argument

that sales activity is irrelevant to the concept of value

added. Sales are prerequisites to the effective use of

manufacturing and a labor force; in fact, the Court has

approved the use of sales ratios in apportionment pre-

cisely because they reflect a share of the activities by

which value is generated. And since the services that

Michigan provides to petitioner and its customers make

possible petitioner’s continuing business operations, there

is nothing unfair in the State’s seeking to tax a share of

the values gencrated by those operations. Against this

background, it is not surprising that the Court already

has upheld use of the familiar three-part formula to ap-

portion a tax that was virtually identical to the SBT.

Armco Steel Corp, v. Department of Revenue, 102 N.W.2d

592 (Mich.), app. dismissed, 364 U.S. 337 (1960).

Indeed. invalidating the SBT would be an exercise in

the most wooden formalism because—as petitioner con-

cedes—*he tnx would be immune from constitutional at-

tack were it simply labeled a levy on gross receipts. And

the artificiality of petitioner’s argument is especially ap-

7

parent because value adde? taxes almost universally are

understood to be, in practical operation, a form of sales

tax. The label placed on the tax cannot change the na-

ture of the economic values reflected in the tax base.

B. Petitioner also argues that the SBT discriminates

against out-of-state businesses because, through use of a

sales factor in the apportionment formula, it taxes “site-

specific’ out-of-state values while not taxing ‘“site-

specific’ in-state values. But this claim rests entirely on

petitioner’s prior assertions that the costs of production

are, in fact, “site specific,” and that sales have no rela-

tionship to value added. Once it is understood that Mich-

igan imposes the SBT on a unitary course of business

activity that includes both production and sales, it is

evident that out-of-state firms have no grownd to com-

plain because values are transferred neither into nor out

of the State.

ARGUMENT

I. THE SBT IS FAIRLY APPORTIONED AND THERE-

FORE IS CONSISTENT WITH THE COMMERCE

AND DUE PROCESS CLAUSES.

The principles that control the resolution of this case

have become familiar. States may, of course, tax enter-

prises that operate in interstate commerce, so long as

they do so within the parallel constraints set by the Com-

merce and Due Process Clauses. In relevant part,’ those

5 Lider the now-familiar test first set out in Complete Auto

Transit, Inc. v. Brady, 430 U.S. 274, 279 (1977), the Court will

“sustain[ | a state tax ‘against Commerce Clause challenge when

the tax is applied to an activity with a substantial nexus with the

taxing State, is fairly apportioned, does not discriminate against

interstate commerce, and is fairly related to the services provided

by the State.’” Amerada Hess Corp. v. New Jersey Taration Di-

vision, 109 S.Ct. 1617, 1621 (1989), quoting Complete Auto, 430 U.S.

at 279. The Court also has made clear that “the Complete Auto

test encompasses due process standards.” Amerada Hess, 109 S.Ct.

at 1625. In this case, petitioner concedes the existence both of nexus

and of a fair relationship between the tax and the services provided

by the State; its principal challenge is to the apportionment prong

8

provisions require that any state tax be “ ‘fairly appor-

tioned’ (Amerada Hess Corp. v. New Jersey Taxation

Division, 109 S.Ct. 1617, 1621 (1989), quoting Complete

Auto Transii, Inc. v. Brady, 430 U.S. 274, 279 (1977))

so that there is ‘ta rational relationship between the in-

come attributed to the State and the intrastate values of

the enterprise.” Mobi! Ot] Corp. v. Commissioner of

Tawes, 445 U.S. 425, 436-437 (1980). See Exxon Corp.

v. Department of Revenue, 447 U.S. 207, 219 (1980) ;

Moorman Mensfacturing Co. v. Bair, 4837 U.S. 267, 272-

273 (1978). As a result. a valid “tax cannot be ‘out of

all appropriate proportion to the business transacted by

the |taxpayer| in that State.’” Ewvxron Corp., 447 U.S.

at 220 (citation omitted). At the same time, however,

“lal state is free to pursue its own fiscal policies, un-

embarrassed by the Constitution, if by the practical oper-

ation of a tax the state has exerted its power in rela-

tion to opportunities which it has given, to protection

which it has afforded, to benefits which it has conferred

by the fact of being an orderly, civilized society.” Wais-

consin v. J.C. Penney Co., 311 U.S. 435, 444 (1940).

The Court also has made clear that, when the tax base

of a multistate enterprise “bears relation to benefits and

privileges conferred by several States[,] * * * apportion-

ment is ordinarily the accepted method” of determining

the share of multistate valves subject to taxation by a

single State. Mobil Oi! Corp., 445 U.S. at 446. This typically

is accomplished through use of a formula that attributes

to the taxing State a percentage of the multistate firm’s

tax base ‘in most States, net income) that is equivalent

to the percentage of the firm’s total business activity

conducted in that State. This latter proportion may be

calculated by taking the ratio of the firm’s in-state

sales to its total sales," the ratio of its in-state property

of the Complete Auto test. Petitioner also asserts that the SBT

is discriminatory, a contention we discuss below.

® See, ¢.g., Moorman, 437 U.S. at 273-275.

9

to its total property,’ the ratio of its in-state payroll to its

total payroll—or, as is true in Michigan (and in most

other states), by taking the average of these three

proportions. Needless to say, the Court’s approval of

these formulary apportionment methods means that,

“tals this Court has on several occasions recognized, a

company’s internal accounting techniques are not bind-

ing on a State for tax purposes.” Ewwon Corp., 447 U.S.

at 221.

In particular, when an enterprise is “unitary’’—that

is, when its multistate activities are interconnected with

one another—-the Court has refused to limit taxation of

the firm’s income to the State in which separate account-

ing shows that the income was produced. As the Court

has noted:

apportionability often has been challenged by the

contention that income earned in one State may not

be taxed in another if the source of the income may

be ascertained by separate geographical accounting.

The Court has rejected that contention so long as the

interstate and extrastate activities formed part of a

single unitary business. * * * In these circum-

stances, the Court has noted that separate account-

ing, while it purports to isolate portions of income

received in various States, may fail to account for

contributions to income resulting from functional in-

tegration, centralization of management, and econo-

mies of scale. * * * Because these factors of profit-

ability arise from the operation of the business as a

whole, it becomes misleading to characterize the in-

come of the business as having a single identifiable

“source.”

Mobil Oi! Corn., 445 U.S. at 488. See Container Corp. v.

Franchise Tax Board, 463 U.S. 159, 181 (1983); Hawon

Corp., 447 U.S. at 222-223; Butler Brothers v. McColqgan,

315 U.S. 501, 508 (1942); Bass, Ratcliff & Gretion, Lid.

v. State Tax Comm’n, 266 U.S. 271, 282-283 (1924);

7 See, e.g., Underwood Typewriter Co. v. Chambeviain, 254 U.S.

113 (1920).

10

Underwood Typewriter Co. v. Chamberlain, 254 U.S. 113,

120-121 (1920).

Where unitary firms are involved, the Court accord-

ingly has permitted States to use virtually any rational

approach in apportioning the tax base. And the three-

factor apportionment formula used by Michigan “ ‘has

become something * * * of a benchmark against which

other apportionment formulas are judged.’” Amerada

‘less, 109 S.Ct. at 1621-1622, quoting Container Corp.,

463 U.S. at 170. That formula “has gained wide approval

precisely because payroll, property, and sales appear in

combination to reflect a very large share of the activities

by which value is generated.” Container Corp., 463 U.S.

at 183.

Petitioner acknowledges the force of these governing

principles ( Br, 23-24), and evidently recognizes that it is

a unitary business of the sort whose tax base ordinarily

is subject to formulary apportionment. See Pet. App. 17a

n.18. But petitioner nevertheless insists that Michigan

may not use the three-part formula in identifying the

values that are taxable in-state under the SBT. Peti-

tioner’s attempt to escape the force of this Court’s deci-

sions approving use of formulary apportionment rests on

three propositions: that the SBT is a tax on segregable

incremenis of “value added” by a multistate business

(Br. 25); that these increments of value (in contrast,

according to petitioner, with concededly apportionable

income or profit) “are readily capable of precise terri-

torial allocation both in theory and practice” (Br. 25):

and that use of sales ratios in the apportionment formula

is in any event inappropriate because “sales, in and of

themselves, have no proper independent function in the

cetermination of a value added tax” (Br. 34). In our

view, however, each of these propositions is demonstrably

incorrect: petitioner’s description of the SBT is simply

inaccurate, and its economie assumptions are flatly incon-

sistent with the teachings of this Court.

11

A. The SBT Is A Tax On The Unitary Course Of Busi-

ness Activity.

At the outset, petitioner fundamentally misdirects what

should be the proper inquiry here. Its arguments are

aimed at a sort of imaginary, theoretical value added tax

(VAT) that is imposed on individual increments of

value, that “is based on the origin principle of taxing

value where it is added” (Br. 25), and that entirely dis-

regards sales activity. But that tax is, very simply, not

the Michigan SBT. While the SBT is, of course, “a form

of value added tax” (Pet. App. 9a-10a), Michigan’s levy

in terms is imposed on all of a firm’s “business activity

in | Michigan] which is allocated or apportioned to | Mich-

igan|.”” MCL § 208.31(1). And the incidence of this

tax—the “business activity” upon which it is imposed—

was understood by the legislature to be a unitary and in-

divisible course of conduct commencing with a firm’s pur-

chase of raw materials and ending with its sale of the

manufactured product.

The SBT accordingly defines taxable “business activ-

ity” as broadly including any “transfer of legal or equi-

table title to or rental of property, whether real, per-

sonal, or mixed, tangible or intangible, or the perform-

ance of services, or a combination thereof.”” MCL § 208.3

(2). This definition, of course, specifically includes sales

activity.” As the court below explained, in an interpreta-

tion of state law that is conclusive here, “{t]he subject

of the {|SBT]| thus encompasses the complete range of

entrepreneurial activities of which compensating employ-

ees is but one part.”’ Pet. App. 22a." See id. at 18a.

8 As petitioner recognizes (Br. 33 n.24), the SBT treats a sale

as having occurred in Michigan whenever a product is shipped to

a purchaser in the State, “regardless of the free on board point or

other conditions of the sales.” MCL § 208.52(a). See Pet. App.

24a-25a n.25. Granting the existence of nexus to tax, petitioner

does not—and plainly could not—find anything unconstitutional in

this provision.

® Petitioner’s statement (Br. 25) that the SBT “is based on the

origin principle of taxing value where it is added” is nonsensical.

As commonly used in the VAT setting, the term “origin principle”

12

Indeed, while petitioner evidently finds it significant

that the SBT makes use of the addition method of com-

putation (Br. 37),'° the Michigan Legislature has made

-——-

simply means that the tax is imposed at the point of production; the

term “destination principle” means that the tax is imposed at the-

point of consumption. See, e.g., 3 U.S. Dep’t of the Treasury, Tax

Reform for Fairness, Simplicity, and Economic Growth 11-12 (1984)

(hereinafter cited as “3 Tax Reform”) (“If a product is taxed

where it is produced, it is said to be taxed on the basis of its

origin or place of production. Alternatively, if a product is taxed

where it is consumed, it is taxed on the basis of its destination or

location of consumption.”). These concepts have relevance in the

context of international trade (see id. at 11-13); it is not at all

clear that they are meaningful in discussing the SBT, which is an

apportioned tax on all business activity, from production through

sale. But insofar as petitioner’s business is concerned, it is plain

that the SBT was intended to reach the properly apportioned part

of all unitary values associated with the production and sale of its

products in Michigan, and in that sense is imposed at the point of

consumption.

1” As petitioner seems to acknowledge (Br. 5) and as economists

universally recognize, the method of calculation 1d

of costs or subtraction of expenses—-is irrelevant ¢

the tax because the two methods will produ

“the result of the subtraction is identical wit!

dition.” Smith, Value-added tax: the cas: 7"

77, 78 (Nov.-Dec. 1970). See, e.g., American Ba

Between Value Added and Sales Tavration af the } Ss

Levels in the United States, Fourth Report of the =: mm. on

the Value-Added Tax of the Section on Taxation, 20 Tax. Law.

457, 458-459 (1976) (“The addition method reaches the same result

las the subtraction method] by the opposite means.”): Aaron,

Introduction, in The Value Added Tar 1, 2 (UW. Aaron ed. 1981

Barlow & Connell, The Single Business Tar, in Michiagan'’s Fiseal

and Economic Structure 673, 673 (CH. Brazer ed. 1982) (methods

“identically equal”); Haughey, The Economie Lovie of the Single

Business Tar, 22 Wayne L. Rev. 1017, 1018 (1976) (“equivelent

methods”). That plainly was the understandine of those who

drafted and administer the SBT: addition and subtraction are

“two alternative, but equivalent ways of caleulating value added.

* * * The important point is that, conceptually, these two caleula-

tions are equal.” Taxation and Economic Policy Office, Mich. Dep't

of Treasury, Analysis of the Michigan Single Business Tar 20

(1985) (hereinafter cited as “SBT Analysis” ) emphasis in origi-

13

explicitly clear that the tax is a levy on what it meant

to treat as a unitary course of business activity. In 1987

the SBT was amended to provide that “the apportionment

provisions of this act shall fairly represent the business

activity attributed to the taxpayer in this state, taken as

a whole and without a separate examination of the spe-

cific elements of the tax base such as depreciation, com-

pensation, or income.” MCL § 208.69(3) (Supp. 1990).

This amendment “express|ed| the original intent of the

legislature that the single business tax imposed under the

single business tax act * * * is an indivisible value added

type of tax and not a combination or series of several

smaller taxes.” 1987 Mich. Pub. Acts 39, § 2, reprinted

at Note to MCL § 208.69 (Supp. 1990).'' The theory of

the tax therefore is that it is impossible to identify the

“value added” by isolated elements of a firm’s business

activity, a theory that makes formulary apportionment

unavoidable.

The SBT thus includes values associated with all busi-

ness activity (‘including sales) in the tax base,'? and was

nal). See Pet. App. 10a. Michigan chose the addition method of

computation simply as a convenience for taxpayers, because “taxpay-

ers can use business income as required for federal business taxes as

the starting point in the computation.” SBT Analysis at 21. See

Haughey, supru, 22 Wayne L. Rev. at 1025.

' The Michigan Supreme Court noted this amendment (Pet. App.

19a n.20, 27a n.29), although the court found it unnecessary to rely

upon the statutory change in rejecting petitioner's contention that

““business activity’ as defined under the act is susceptible to accu-

rate analysis when only one component of the total business effort

is examined.” Pet. App. 23a. See also id. at 22a. For its part,

the court of appeals below noted that under Michigan law the legis-

lature “can amend a statute to make plain what the legislative

intent had been all along from the time of the statute’s enactment

[The] timing indicates that the |1987) amendment was a

legislative interpretation of the original act rather than a substan-

tial change of it.” Pet. App. 40a.

‘2 In a sense, sales are the foundation of the SBT tax base. In

calculating that base, “the starting point is business income” as

reflected in the taxpayer's federal return. Town & Country Dodge,

14

written on the understanding that particular business

activities (or, in petitioner’s terms, particular increments

of value added) are not segregable. Whether a theoreti-

cal VAT might regard sales as irrelevant, or might treat

the value added by particular business activities as divis-

ible—points we address below—accordingly is beside the

point. The incidence of the tax actually at issue here, the

SBT, is on petitioner’s unitary course of business activ-

ity, and “|f{or constitutional purposes the decisive issue

turns on the operating incidence of a challenged tax.”

J.C. Penney, 311 U.S. at 444. As the court below there-

fore explained, “to conclude that a taxpayer's business

activity is not fairly apportioned because a single com-

ponent of that activity, when viewed by geographical ac-

counting, is not accurately reflected under the statutory

apportionment scheme belies the very definition of busi-

ness aciivity” in Michigan law. Pet. App. 22a.

With this understanding of the SBT, Michigan’s three-

part formula plainly does a constitutionally adequate job

of apportioning the tax base upon Which the levy ex-

pressly is laid. The tax in principal part is imposed upon

“values” produced by activity involving sales, labor, and

capi'al; given the incidence of the tax, “the averaged

raios of Trinova’s payroll, property and sales ‘actually

reflect a reasonable sense of how |its Michigan business

activity was] generated.’” Pet. App. 25a ‘bracketed

Inc. v. Department of Treasury, 362 N.W.2d 618, 623 (Mich. 1984).

See Mobil Oil Corp. v. Department of Treasury, 573 NW.2d 030,

732, 742 (Mich. 1985). Gross receipts are, in turn, the starting point

ms

in calculating federal business income; to derive an income figure

for federal tax purposes, the taxpayer deducts specified expenses

from gioss receipts. Under the SBT, this process is then reversed;

the taxpayer adds back to federal taxable income most expenses,

principally those that were deducted from gross receipts in com-

. . . . - ‘ ‘ ‘ “ ‘ . — ly

puting the federal income figure. See MCL § 208.9. See weneratl

Kasischke, Computation of the Michivan Smale Besiness Tar:

Theoru ond Mechanics, 22 Wayne L. Rev. 1069, 1079-s00 To T6

. +4: a © oe wi

In the ayvregate, these additions prodnece a tax base that eqM

enterprises.

aient to yvross receipts min payments made to other busine

15

material added by the court ) (citation omitted). Unless

the Commerce and Due Process Clauses preclude the

State from treating business activity as a unitary course

of conduct, then, the SBT cannot be disturbed.

B. Costs Of Production Or Value Added Cannot Be

Ascertained Through Geographical Accounting.

Although petitioner never comes to grips with the

nature of the SBT as a tax on business activity,’® the

centerpiece of its assault on the apportionment of VATs

generally is its contention that increments of added

“value” may be—and therefore must be—taxed at the

place where they are generated. “In this respect,” peti-

tioner adds, “the components of added value are von-

spicuously unlixe the abstruse and elusive elements of

profit that justify apportionment of net income” (Br.

26). This assertion is the crucial element both of peti-

tioner’s attempt to avoid formulary apportionment of the

SBT tax base (see Br. 23-28) and its contention that the

SBT taxes values that are added outside of Michigan ‘see

Br. 31, 34-35).

At the outset, as respondent correctly notes (Resp. Br.

47-50), petitioner’s attempt to equate the costs of pro-

duction with particular increments of added “value” mis-

states the theory of the VAT. VATs typically are under-

stood to operate on the principle that “{elach increment

in price reflects the value added at that stage, with the

value or price of the final product equal to the sum of the

increments or values added at the various stages.” R.

Musgrave & P. Musgrave, Public Finance in Theory and

Practice 400 (5th ed. 1989) ‘emphasis added). And that

value—as reflected in price—has no necessary ‘and cer-

tainly no precise! correlation to the costs of production.

The theory of VATs generally, as of the SBT in particu-

' Petitioner briefly notes that the court below treated the SBT

as a tax on unitary business activity, labeling that court's analysis

“simply ineonsistent with the practical and intended effect of th:

tax.” Br. 28. In fact. there can be no doubt that the Michigan

Supreme Court correctly identified the intended incidence of the tax.

Which in terms reaches “business activity.’

16

lar, accordingly is that taxable value is determined by

the market’s reaction to the enterprise’s unitary course

of business activity.”

But even if the case is viewed in petitioner’s own terms,

its analysis is fatally flawed, for petitioner never explains

why costs of production differ in principle from the ele-

ments of profit that concededly cannot be confined geo-

graphically. And the omission is telling. In fact, the

came factors that make it impossible to tie the genera-

tion of income to a particular location—centralization

of management and purchasing, economies of scale, func-

tional integration, and so on—also frustrate attempts to

compartmentalize the costs associated with particular

elements of business activity (or, to put it in petitioner’s

terms, the value added by such activity). In this case,

for example, the existence of a reliable (and very large)

market and distribution network for petitioner’s goods in

Michigan necessarily affected the efficiency with which

petitioner was able to make use of its labor and capital

further up the production chain; the price petitioner paid

for labor in Ohio (the measure, in petitioner’s view, of

the value added there) turned in part on the scope and

success of its sales activity in Michigan. This seems self-

evident; it hardly is necessary to prove that “{a|n effec-

tive marketing operation is important to assure ful! or

nearly full use of [production] capacities.” Exxon Corp.,

447 US. at 226. Plainly, such efficiencies ‘arise from the

14 The peculiarity of petitioner’s concept of the VAT, in which

costs of production are equated dollar-for-dollar with value added,

is made clear by considering the case of a firm---like petitioner

itself—whose costs of production exceed its value added because it

had a net loss. In such a case, under petitioner’s view, the “value”

added to a product by application of the costs of production must

somehow have been reduced by the failures of entrepreneurship that

led to the net loss. It is difficult to imagine any coherent theory

of value that produces such an effect. In fact, petitioner really seems

to imagine that VATs are combinations of two wholly distinct taxes,

one on profits and one on the costs of production. But that is not

the usual understanding of the VAT and, as we explain above,

plainly is not the theory upon which the SBT is imposed.

17

operation of the business as a whole.” Mobil Oil Corp.,

445 U.S. at 438.

There is nothing novel in these observations. To the

contrary, the very definition of the unitary enterprise “is

that there be some sharing or exchange of value not

capable of precise identification or measurement.” Con-

tainer Corp., 463 U.S. at 166 (emphasis added). See id.

at 178 (emphasis in original) (“The prerequisite to a

constitutionally acceptable finding of unitary business is

a flow of value”). As a result, geographical accounting

“often ignores or captures inadequately the many subtle

and largely unquantifiable transfers of value that take

place among the components of a single enterprise.” Jd.

at 164-165.

In Container Corp., the Court applied this understand-

ing to reject a multinational taxpayer’s argument that,

because wage rates were lower at its overseas plants than

at its domestic facilities, California’s use of the three-

factor apportionment formula allocated too much of the

firm’s income to the State. As the Court explained, it

may well be that in addition to the foreign payroll

going into the production of any given [item] by a

foreign subsidiary, there is also California payroll,

as well as other California factors, contributing—

albeit more indirectly—to the same production. The

mere fact that this possibility is not reflected in [the

taxpayer’s] accounting does not disturb the under-

lying premises of the formula apportionment method.

463 U.S. at 182. While petitioner asserts (for reasons

that it nowhere explains) that the Court’s observation

has relevance only to taxes on profits (Br. 27-28), the

important point for present purposes is what the Court

itself has characterized as Container Corp.’s recognition

that “the costs of a unitary business cannot be deemed

confined to the locality in which they are incurred.”

Amerada Hess, 109 S.Ct. at 1622. In Container Corp.’s

words, costs (or value added) other than those identified

by geographical accounting may “go[] into the produc-

tion of any given” good.

18

Indeed, only last Term the Court squarely held that,

“just as * * * revenue—as part of a unitary business—

is not confined to a single State * * *, so too the costs

of producing this revenue are unitary in nature. See

Container Corp., 463 U.S. at 182.” Amerada Hess, 109

S.Ct. at 1622. In Amerada Hess, unitary oil companies

argued that they should be permitted to deduct from the

income that was subject to taxation in New Jersey wind-

fall profits taxes that they had paid on the production of

oil out-of-state; “[t|hey argue[d] that the denial of a

deduction for an out-of-state expense causes a State to

tax more than its fair share of a unitary business’ in-

come.”” /bid. But because the costs of a unitary business

cannot be confined geographically, the Court held that,

‘“‘when a State denies a deduction for a cost of a unitary

business, the resulting net figure is still a unitary one.”

Ibid. See generally Ford Motor Co. v. Beauchamp, 308

U.S. 331 (1939).

Again, the significance of this holding for petitioner’s

argument is plain: costs of production—which, in peti-

tioner’s terminology, are the values added—cannot be

localized. Just as the profit that a multistate firm de-

rives from its retail outlet in Wisconsin might be boosted

by economies of scale effected elsewhere (see Exaxon, 447

U.S. at 225-227), so, too, at the other end of the process,

petitioner’s costs of production in Ohio surely are affected

by the scope of its sales operation in Michigan. It ac-

cordingly is petitioner’s scheme, in which increments of

value would be ‘“‘wrenched from the unitary whole and

conceptually confined to operations within a single State”

(ASARCO Inc. v. Idaho State Tax Comm’n, 458 U.S.

307, 333 (1982) (O’Connor, J., dissenting) ), that would

produce a grossly distorted system of apportionment.

C. Sales Are Crucial Components Of The Unitary

Course Of Business Activity And May Be Used To

Apportion Petitioner’s Tax Base.

Similar problems inhere in petitioner’s argument (Br.

30-31, 32, 33-34) that sales activity is irrelevant to the

19

concept of value added and therefore cannot be used as

part of Michigan’s apzortionment formula. In fact, the

Court has made clear that sales ratios have an appro-

priate role in apportionment precisely because, in com-

bination with payroll and property, they “reflect a very

large share of the activities by which value is gener-

ated.” Container Corp., 463 U.S. at 183. After all, as

we explain above, sales and marketing are prerequisites

to effective use of manufacturing facilities and a labor

force. See, e.¢., Exxon Corp., 447 U.S. at 226. Indeed, it

seems self-evident that, in the most practical sense, many

of petitioner’s activities (or, more precisely, the 26.6%

of petitioner’s activities that terminated in Michigan

sales) would be wholly valueless to petitioner were it not

for the market made available by Michigan. As a con-

sequence, there is nothing unfair in Michigan’s imposi-

tion of a tax-on the appropriate portion of the values

generated by those activities.

Petitioner’s conduct of extensive sales activity in Michi-

gan has special relevance to the nature of the due proc-

ess guarantee that it invokes. In perhaps the Court’s

most oft-quoted comment on the nature of the constitu-

tional limits on state taxing authority, it explained that

“the sole constitutional test for a case like the present

one” is “whether the taxing power exerted by the state

bears fiscal relation to protection, opportunities and

‘benefits given by the state. The simple but controlling

question is whether the state has given anything for

which it can ask return.” J.C. Penney, 311 U.S. at 444.

And the State plainly has done that here, offering peti-

tioner and its customers “ ‘police and fire protection, the

benefit of a trained work force’” (Amerada Hess, 109

S.Ct. at 1624 (citation omitted) ), “public roads” (D.H.

Holmes Co. v. McNamara, 108 S.Ct. 1619, 1624 (1988) ),

and the other “fruits of civilization for which, as Mr.

Justice Holmes was fond of saying, we pay taxes.” J.C.

Penney, 311 U.S. at 446."° It is these benefits provided

15 See, e.g., Amerada Hess, 109 S.Ct. at 1624; D.H. Holmes Co.,

109 S.Ct. at 1624; ASARCO, 458 U.S. at 315; id. at 332 (O’Connor,

20

by Michigan that make possible the continuing business

operations that petitioner conducts elsewhere. This analy-

sis plainly has application to the SBT, for “ ‘[t]he logic

or rationale of the |VAT] rests squarely on the benefit

received principle of taxation—government services are

essential to the operation of any business enterprise * * *

and part of these public service costs should properly be

included in the cost of doing business.’” Advisory

Comm’n on Intergovernmental Relations, The Michigan

Single Business Tax: A Different Approach to State

Business Taxation 4 (1978) (citation omitted) (herein-

after cited as “Michigan SBT’’).

Against this background, it should come as no sur-

prise that the Court already has upheld against constitu-

tional attack another Michigan VAT that was virtually

identical to the SBT. From 1953 until 1967 Michigan

levied a Business Activities Tax that “employ|[ed] as its

measure or base the economist’s measure of value added.”

Lock, Rau & Hamilton, The Michigan Value-Added Tax,

& Nat’l Tax J. 357, 357 (1955). While that tax differed

from the SBT in some particulars, its principle was the

same: it included in the tax base “a company’s payroll,

profits, and capital outlay less depreciation allowed” (id.

at 361), and it used the familiar three-factor formula

to apportion the values of multistate firms. Jd. at 363.

See Mich. Stat. Ann. §§ 7.557(1)-(24) (1955 Cum.

Supp.!, repealed 1967 Mich. Pub. Acts 281."*

J., dissenting); Exron Corp., 447 U.S. at 228: Japan Line, Ltd. v.

County of Los Angeles, 441 U.S. 434, 445 (1979).

16 While the taxes differed in the exemptions they offered (none

of which are relevant here), the principal substantive difference

between the Business Activities Tax and the SBT lay in the area

of depreciation. The SBT allows firms to exclude apportioned cap-

ital expenditures from the tax base in the year incurred (MCL

§ 208.23(a)); in subsequent years depreciation is included in the

tax base. Under the Business Activities Tax, the initial capital

expenditure was not excluded, but firms were permitted to exclude

21

In a case bearing remarkable similarities to this one,

the Business Activities Tax was challenged on Due

Process and Commerce Clause grounds by an Ohio corpo-

ration that paid less than 1/1000 of its payroil, and had

less than 1/40,000 of its property—but made almost

10% of its total sales—in Michigan. See Armco Steel

Corp. v. Department of Revenue, 102 N.W.2d 552, 555-

556 (Mich.), app. dismissed, 364 U.S. 337 (1960). Not-

ing that the tax actually levied on the Ohio firm

amounted to only about 1/10 of one per cent of its Michi-

gan sales, the Michigan Supreme Court held that “{t]his

is not an unreasonable tax on business activities in Mich-

igan. The tax as apportioned bears a real and reasonable

relationship to the privileges, opportunities and protec-

tion [the taxpayer] enjoys in conducting its interstate

business in this State.” Jd. at 563. This Court found so

little merit in the taxpayer’s challenge to the state court’s

conclusion that it dismissed the appeal for want of a sub-

stantial federal question. 364 U.S. 337 (1960). That

judgment should be dispositive of petitioner’s essentially

identical arguments here.

depreciation of real property in subsequent years. See Lock, Rau,

& Hamilton, supra, 8 Nat’l Tax J. at 359-360; Michigan SBT at 17.

The taxes also differed in their methods of computation. While the

SBT adds together elements of the tax base, the Business Activities

Tax used the subtraction method, starting with gross receipts and

subtracting certain taxes, amounts paid other firms for raw ma-

terials, and real property depreciation. See ibid. As we explain

above, however, the method of calculation has no effect either on the

tax base or on the theory of the tax. See note 10, supra. The

Business Activities Tax thus is consistently regarded as having

been a form of VAT. See, e.g., Michigan SBT at 17; Due, Economics

of the Value Added Tax, 6 J. Corp. L. 61, 61-62 n.4 (1980) ; Haughey,

supra, 22 Wayne L. Rev. at 1024, 1026; Lindholm, The Origin of the

Value-Added Tax, 6 J. Corp. L. 11, 12 & n.10 (1980); Lock, Rau &

Hamilton, supra, 8 Nat’l Tax J. at 357. In addition, the Business

Activities Tax, like the SBT, allowed the taxpayer, at its option, to

use as the tax base 50% of its gross receipts apportioned to Michi-

gan. See id. at 360.

22

D. The SBT Should Be Upheld As A Variant Of A

Concededly Constitutional Gross Receipts Tax.

1. The wholly artificial nature of petitioner’s conten-

tions is made clear by its concession (Br. 35-36)—a con-

cession compelled by this Court’s decisions—that Michi-

gan’s tax would be immune from constitutional attack were

it labeled a tax on gross receipts. As the Court has noted

in similar circumstances, in response to a challenge to an

Iowa income tax, “it would be an exercise in formalism to

declare [the taxpayer’s] income tax assessment unconsti-

tutional * * *. For it is evident that [the taxpayer] would

have had no basis for complaint if, instead of an income

tax, Iowa had imposed a more burdensome gross-receipts

tax on the gross receipts from sales to Iowa customers.”

Moorman, 437 U.S. at 280. See id. at 281 (Brennan, J.,

dissenting) (“I agree with the Court that, for purposes of

constitutional review, there is no distinction between a

corporate income tax and a gross-receipts tax.”’).

The Court has, of course, repeatedly sustained state

authority to impose gross receipts and similar taxes on the

in-state sales of multistate businesses.’’ Yet such taxes are

considerably more burdensome than the SBT: they need

not be apportioned at all. See, e.g., Goldberg v. Sweet, 109

S.Ct. 582, 589-591 (1989). In this light, the SBT, which

is equivalent to a tax of less than 3/10 of one per cent

of the gross receipts from petitioner’s Michigan sales (see

Pet. App. 7a), is hardly excessive. Compare Moorman,

437 U.S. at 280; Armco, 102 N.W.2d at 562.

Relying on McLeod v. J. E. Dilworth Co., 322 U.S. 327

(1944), in which the Court struck down a state sales tax

despite the State’s authority to impose an equivalent use

17 See, e.g., Tyler Pipe Industries, Inc. v. Washington Dep't of

Revenue, 483 U.S. 232, 243 (1987) ; Complete Auto, 430 U.S. at 289;

Standard Pressed Steel Co. v. Washington Revenue Dep't, 419 U.S.

560, 564 (1975); General Motors Corp. v. Washington, 377 U.S.

436, 448 (1964); McGoldrick v. Berwind-White Coal Mining Co.,

309 U.S. 33, 58 (1940). Cf. Goldberg v. Sweet, 109 S.Ct. 582, 589-

591 (1989); National Geographic Society v. California Board of

Equalization, 430 U.S. 551, 557 (1977).

23

tax, petitioner nevertheless takes issue with Moorman’s

analysis, asserting that the SBT cannot be validated by the

availabi ity of some alternative constitutional tax. But as

petitioner elsewhere acknowledges (Br. 28), the Court has |

since departed from the formalistic approach of holding the

label on the tax dispositive, looking instead to the prac-

tical operation of a tax and eschewing rules that “stand| |

only as a trap for the unwary draftsman.” Complete

Auto, 430 U.S. at 279. See id. at 288; J.C. Penney, 311

U.S. at 444. Moorman accordingly reflects the Court’s

current thinking, and there is no reason to depart from

its eminently practical analysis.

Indeed, the Court’s observations in Moorman have par-

ticular resonance in this case because the SBT may

fairly be viewed, in its practical operation, as a form of

tax on gross receipts. While a VAT has some relation-

ship to a tax on income, as we explain below, in effect

“la] value-added tax is a multistage sales tax.” 3 Tax

Reform at 5. See id. at 14. Economists almost uniformly

agree that “the value-added tax is not a genuinely new

form of taxation but merely a sales tax administered in

different form.” R. Musgrave & P. Musgrave, supra, at

399. Thus, “[i]t is essential for an understanding of the

value added tax to note that the levy is identical to a re-

tail sales tax of equivalent coverage and rate in both

revenue and distribution of the tax burden.” Due supra

6 J. Corp. L. at 62. See, e.g., R. Musgrave & P. Mus-

grave, supra, at 401; Carlson, Value-Added Tax: Ap-

praisal and Outlook, 6 J. Corp. L. 37, 38 (1980): Me-

Daniel, A Value Added Tax for the United States?

Some Preliminary Reflections, 6 J. Corp. L. 15 16-17

(1980). See generally C. Sullivan, The Tax on Value

Added 6, 209 (1965). The reason is plain: whether com-

puted through addition or subtraction, the tax base of

a pure VAT will include most of the costs of production in

combination with profit (or loss), an amount that neces-

sarily bears a close relationship to—but typically will

be somewhat less than—gross income. See, e.g., R. Mus-

grave & P. Musgrave, supra, at 402 (“the value-added

24

tax of the consumption type has the same base as a re-

tail sales tax with corresponding coverage’’).'®

For their part, the drafters of the SBT plainly un-

derstood that its real incidence has a close relationship

to that of a gross receipts tax. Indeed, as ‘“‘an alternative

tax computation method” (SBT Analysis at 38), the SBT

provides that, if a firm’s adjusted tax base exceeds 50%

of gross receipts apportioned to Michigan, “the adjusted

tax base may, at the option of the taxpayer, be reduced

by such excess.”” MCL § 208.31(2). Asa result, no firm’s

tax base may exceed 50% of its Michigan sales ™; because

the SBT rate is 2.35%, no firm’s tax liability ever should

exceed 1.175% of its gross receipts. See SBT Analysis

at 38.°°

To be sure, petitioner insists that this element of the

SBT is irrelevant, labeling it a “departure[] from a ‘pure’

VAT” and stating that most Michigan taxpayers compute

their tax base “without reference to their gross receipts.”

Br. 37. “Pure” VATs, however, are most often conceptu-

alized as involving use of the subtraction method of com-

putation, which uses gross receipts as its starting point.”

Moreover, as we note above—and as petitioner elliptically

18 For a fully integrated company that owns its own raw ma-

terials and produces its own. capita! equipment, the “value-added

tax base would be simply its net sales.” Smith, supra at 78. For

non-integrated firms, of course, the base would be equivalent to gross

receipts less purchases from other enterprises that have added value

to the product.

19 Petitioner states that “for some taxpayers (but not for peti-

tioner) the tax base is reduced” to 50% of apportioned gross re-

ceipts. Br. 37. In fact, petitioner could have used the gross receipts

option but declined to do so, instead taking advantage of another

deduction that permits a firm with high labor costs to reduce its

adjusted tax base by the percentage that its compersation divided

by its unadjusted tax base exceeds 639%. MCL § 208.31(5). See

Pet. App. 13a n.13.

*0In fact, for all firms, the SBT averages 0.4% of sales. SBT

Analysis at 7.

21 See, e.g., 3 Tax Reform at 5; Smith, supra, at 78.

Pete

25

acknowledges (Br. 5)—the addition and _ subtraction

methods of computation are interchangeable and yield

identical results; the SBT uses the addition method simply

as a convenience for taxpayers. See note 10, supra. This

accounting technicality cannot change the nature of the

economic values reflected in the tax base.

In McLeod’s terms ( assuming McLeod remains the

law), then, one may “look[{] behind the labels to the

thing described,” and validate the tax if “the —- =

[does] not offend the Federal Constitution.” 322 U.S. at

331. The “thing” here is a levy whose base is identical to

that of a modified, and plainly constitutional, tax on

gross receipts. Under such circumstances, invalidating

the SBT would be an exercise in the most wooden seman-

ticism.

2. It should be added that there are other ways of

viewing the SBT that also support use of formulary ap-

portionment. In its ultimate economic effect a VAT is

similar to a tax on all of the income generated by the tax-

payer’s business activity. As the Michigan Supreme Court

itself has explained, “i]t is apparent that the income tax

and the VAT are in reality opposite sides of the same

coin” because, “[p]ractically speaking, the main differ-

ence between an income tax and a VAT can be determined

by examining who is a taxpayer under each system.”

Mobil Oil, 373 N.W.2d at 740 (emphasis in original) .22

Because it is the firm’s unitary activities that are respon-

sible for the production of all of this income, formulary

apportionment is an appropriate method of taxing it.

Having said this, however, in our view the Court should

not attempt to resolve this case by applying highly ab-

*2 This is so because the value generated by the enterprise may

be characterized as income received (or lost) by someone else:

labor costs are equivalent to income received by employees, capital

costs are translated into rent and interest received by landlords

and lenders, and so on. See Mobil Oil, 373 N.W.2d at 740. More

precisely, a consumption-type VAT, as its name suggests, uses total

consumption as its tax base because it does not exclude depreciation.

See Smith, supra, at 79: 3 Tar Reform at 7.

26

stract economic concepts—as petitioner urges by pro-

pounding one economist’s (rather idiosyncratic) concept

of where value is added. See Br. 26 (citing Barlow &

Connell, supra, at 704). Economists differ among them-

selves on, among many other things, how best to character-

ize the value added tax. See Note, Value-Added Taxation:

Its Concept and Effects, 39 U. Cin. L. Rev. 331, 334-335

(1970). Resolution of these conflicts in economic theory

is an “ ‘essentially legislative task’” (Goldberg, 109 S.Ct.

at 588 (citation omitted)) that is not easily undertaken

by the courts. See ASARCO, 458 U.S. at 352 (O’Connor,

J., dissenting). And needless to say, particular economic

theories may not be reconcilable with this Court’s un-

derstanding of the Constitution.** In these circumstances,

it would be appropriate for the Court to accept the char-

acterization of the VAT provided by the Michigan Legis-

lature, and to be guided by the levy’s practical similarity

to (if not identity with) taxes that already have been held

constitutional.

II. THE SBT DOES NOT DISCRIMINATE AGAINST

INTERSTATE COMMERCE.

Petitioner’s remaining argument (Br. 38-44)—that

the SBT discriminates against out-of-state firms—is

wholly without merit. At the outset, petitioner finds it

somehow suspect that the SBT was designed, in part, to

encourage the development of Michigan business. Br. 38,

23 This is true, for example, of the economic analysis upon which

petitioner principally relies. Among other things, that analysis takes

Michigan’s apportionment formula to task for “giving equal weight

to the labor and capital aspects of a firm’s activities, when in fact

those inputs are often very unequal.” Barlow & Connell, supra, at

704. But this Court, of course, has long upheld use of apportionment

formulas that give equal weight to payroll and property ratios, with-

out inquiry into the nature of a particular firm’s activities. It may be

added that the economic analysis cited by petitioner concludes that

consumption-type VATs “clearly introduce[] a bias favoring capital-

intensive methods” (id. at 697); most economists, in contrast, re-

gard consumption-type VATs as neutral between capital and labor.

See, e.g., 3 Tax Reform at 7.

27

43. But the Court has made clear that States may

“structur[e] their tax systems to encourage growth and

development of intrastate commerce and industry,” re-

jecting the contention that “a State may not compete

with other States for a share of interstate commerce;

such competition lies at the heart of a free trade policy.”

Boston Stock Exchange v. State Tax Comm’n, 429 U.S.

318, 336-337 (1977). See Armco Inc. v. Hardesty, 467

U.S. 638, 645-646 (1984). The Commerce Clause thus

does not “inhibit a State’s power to experiment with

different methods of encouraging local industry. Whether

the encouragement takes the form of a cash subsidy, a

tax credit, or a privilege intended to attract investment

capital, it should not be characterized as a ‘burden on

commerce.’” Hughes v. Alexandria Scrap Co., 426 U.S.

794, 816 (1976) (Stevens, J., concurring).

Indeed, the SBT was designed to spur Michigan -in-

dustry simply by reducing the excessive tax burden that

the State previously had imposed on capital. See SBT

Analysis at 19; Michigan SBT at 13, 20. Consumption-

type VATs are neutral as between labor- and capital-

intensive industries. See, e.g., 3 Tax Reform at 5-7. In

contrast, “‘[a]ll of the taxes repealed [upon enactment of

the SBT] were strictly on capital.” Haughey, supra, 22

Wayne L. Rev. at 1022. See Mitchell, Taxes Repealed

and Amended, 22 Wayne L. Rev. 1029 (1976). Although

it was hoped that the SBT accordingly would encourage

capital investment in the State, it also was understood

that “some labor intensive industries with regional or

national markets [might] leave Michigan” in response

to the new tax. Haughey, supra, 22 Wayne L. Rev. at

1022. But in either case, “these results are due to the

shift from one system to another and are not inherent

in the nature of the SBT.” Jd. at 1023. This redesign

of the State’s tax system along lines of neutrality is

hardly unconstitutional; any disparate effects that the

SBT has on different firms “results solely from differ-

ences between the nature of their businesses, not from

the location of their activities.” Amerada Hess, 109 S.Ct.

28

at 1624. See Exaon Corp. v. Governor of Maryland, 437

U.S. 117, 125-129 (1978) .**

Using a complex hypothetical (Br. 39-41), petitioner

also attempts to demonstrate that use of a sales factor in

Michigan’s apportionment formula discriminates against

out-of-state businesses because it “systematically under-

attributes to Michigan the site-specific tax base compo-

nents—compensation and depreciation—of in-state busi-

nesses while systematically overattributing to Michigan

those same site-specific tax base components of out-

of-state businesses.” Br. 43. Of course, just who is the

victim of this asserted discrimination depends on which

ox is being gored; Michigan businesses, viewing the SBT

as a form of gross receipts tax, might argue that they

suffer under the tax because non-Michigan firms are able

to apportion some of their Michigan sales out-of-state,

while some out-of-state sales by Michigan firms are ap-

portioned back in-state. And even viewing the issue in

petitioner’s own terms, whether or not a firm benefits

from use of a sales factor in apportionment of the SBT

turns on whatever varying values are plugged into peti-

tioner’s hypothetical.

More fundamentally, however, petitioner’s argument is

not really one of disparate treatment at all. Petitioner’s

claim of discrimination rests entirely on the validity oi

its prior assertions that the costs of production are, in

fact, “site-specific,” and that sales have no relationship

to value added. Once it is understood that the SBT falls

on a unitary course of business activity that includes

both production and sales, it is evident that neither out-

of-state nor Michigan firms have any ground to complain

24 Petitioner finds support (Br. 43-44) for its claim in what it

labels the SBT’s discriminatory capital acquisition deduction, which

apportions the cost of capital assets under a two-part payroll and

property formula. MCL § 208.23(a). As petitioner notes, however,

the constitutionality of that provision is not at issue here; as the

deduction provision’s apportionment formula differs from the one

under attack by petitioner, the provision plainly has no bearing

in this case.

~ aaa

29

about the statutory apportionment form's be 4 se values

are transferred neither into nor out of the State.

This comes clear from consideration of the decisions

relied upon by petitioner to establish discrimination. See

Br. 41-43. In most of them, the state tax statutes at issue

were “facially discriminatory” (Amerada Hess, 109 S.Ct.

at 1623); they imposed burdens (through higher tax

rates or lower credits) on out-of-state sales that were not

imposed on in-state sales. See Westinghouse Electric

Corp. v. Tully, 466 U.S. 388, 393-394, 400, 403-404

(1984); Maryland v. Louisiana, 451 U.S. 725, 732-734,

756-758 (1981); Boston Stock Exchange, 429 U.S. at 324-

325; Halliburton Oil Well Co. v. Reily, 373 U.S. 64, 67-

68, 70, 73 (1963). That plainly is not true of the SBT,

which taxes all business activity at the same rate, wher-

ever it occurs. The remaining decision cited by petitioner,

American Trucking Ass’ns v. Scheiner, 482 U.S. 266

(1987), involved a flat tax that failed the Court’s “in-

ternal consistency” test because, if adopted by every ju-

risdiction, it would have discouraged interstate activity.

See id. at 284; Amerada Hess, 109 S.Ct. at 1623. But

because petitioner does not deny that the SBT passes

the test of internal consistency (see Pet. App. 18a-19a) ,”°

Scheiner is irrelevant here.

The SBT thus does not “exert{] ‘an inexorable hy-

draulic pre sure on interstate businesses to ply their

trade within the State that enacted the measure.’ ”’ Amer-

ada Hess, 109 S.Ct. at 1623, quoting Scheiner, 483 U.S.

at 286-287. If all States adopted taxes identical to the

SBT, interstate activity would not be discouraged. And

a business that moves to Michigan will find itself with

higher Michigan payroll and property ratios and, accord-

ingly, a higher Michigan tax bill. Of course, Michigan

*5 That is evident from petitioner’s example. If Ghio and Michi-

gan each imposed taxes identical] to the SBT on petitioner’s hypo-

thetical businesses, the tax burdens on the two firms also would

be identical and the tax structure would not create any incentive

for either firm to operate in one State rather than the other.

ee

30

may succeed in wooing firms by reducing tax rates on

capital below those prevailing in other States, but any

advantage it gains from that approach will come because

its tax rates are low, not because they are discrimina-

tory. That is a wholly constitutional means of competing

for interstate business.

if we are correct, as we argue above, that business

activity may be viewed as a unitary and apportionable

course of conduct, petitioner’s claim of discrimination

ultimately amounts to a bald attack on the inclusion of

a sales factor in any apportionment formula. But the

Court has made clear that sales factors are an appropri-

ate part of the gauge of in-state business activity; the

Court has, for that matter, upheld use of a single-facior

apportionment formula based on sales. Moorman, 437

U.S. at 277. Michigan’s three-factor formula accordingly

is a reaconab!e and nondiscriminatory—indeed, a com-

mendably moderate—means of apportioning interstate

business activity.

CONCLUSION

The judgment of the Michigan Supreme Court should

be affirmed.

Respectfully submitted,

BENNA RUTH SOLOMON *

Chief Counsel

CHARLES ROTHFELD

STATE AND LOCAL LEGAL CENTER

444 North Capitol Street, N.W.

Suite 349

Washington, D.C. 20001

(202) 638-1445

* Counsel of Record for the

June 13, 1990 Amici Curiae