Amicus Curiae Brief — Barclays Bank PLC v. Franchise Tax Bd. of Cal.

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i

QUESTIONS PRESENTED

Whether the Court should change the foreign policy of the

United States with respect to State taxes after the Legislative

and Executive Branches have refused to and, if so,

Whether the Commerce Clause requires a State to use a

different accounting system to allocate profits for foreign

corporations than it does for domestic corporations when

Congress has refused for over thirty years to require such

action?

ii

TABLE OF CONTENTS

Page

QUESTIONS PRESENTED .................. i

TABLE OF AUTHORITIES ................ iv

EVsawuwe Ge AD... cs ce seeeee ee 1

SUMMARY OF ARGUMENT ............... 2

oC hLCULaree.tt—<ists 3

tht tt 3

I.

SINCE THE ISSUES IN THESE CASES

HAVE BEEN INTENSIVELY CONSIDERED

BY BOTH HOUSES OF THE CONGRESS,

THIS COURT SHOULD ACCEPT THE

JUDGMENT OF THE CONGRESS. .....

A. This Court Appropriately Defers To

Congressional Consideration Of State Tax

Issues Because They Involve Delicate

Issues of Federalism. ...........

B. Over The Last Thirty Years Congress Has

Consistently Refused To Pass Legislation

Limiting The States’ Power To Use The

Unitary Method Of Allocating Income For

Multinational Companies. ........

Il.

TABLE OF CONTENTS

Page

C. Since The Senate Refused To Give Its

Consent To A Treaty Prohibiting The

Taxes At Issue Here, This Court Should

Accept The Senate’s Judgment. .... .

SINCE CONGRESS HAS DECIDED THAT

THE STATES’ USE OF THE UNITARY

METHOD DOES NOT PREVENT THE

GOVERNMENT FROM "SPEAKING WITH

ONE VOICE," THIS COURT SHOULD NOT

SUBSTITUTE ITS JUDGMENT FOR THAT

DP ceoccceccccccccecca

A. Congress Has Decided That Identical

Taxation Of Multinational Corporations

By The States And Federal Government Is

Not Essential For Our Country To Speak

With "One Voice" In Foreign Policy. .

B. Threats Of Retaliation By Foreign

Governments Should Be Handled By The

Political System, Not This Court... . .

C. The Practical Effect Of Limiting Use Of

The Unitary Method Will Be To Impair

The Ability Of American Companies To

Compete Against Foreign Companies. .

DUCT OCG We Gbeseeeccseccceccs

14

19

20

21

22

iv Vv

TABLE OF AUTHORITIES TABLE OF AUTHORITIES

Allied-Signal v. Dir. Div. of Taxation, Northwestern States Portland Cement

504U.S.__, 119 L.Ed.2d. 533 (1992) ......... 27 Company v. Minnesota and Williams vy.

Stockham Valves & Fittings, Inc.,

Amerada Hess Corp. v. New Jersey, | 358 U.S. 450 (1959) .....................

CT oso eine ones ek 6 6ebbedoki 8 :

Puerto Rico Dept. of Consumer Affairs v.

Commonwealth Edison Company v. Montana, Isla Petroleum Corp., 485 U.S. 495

455 U.S. GED (ISB) ow ccc ccc ccccces 8,9, 13 GE SOR On Sd wb bitin husks 6440.66 6% xu

Container Corporation of America vy. Quill Corporation v. North Dakota, 504

Franchise Tax Board, 463 U.S. 159 U.S. __, 119 L.Ed.2d 91 (1992) .............

DT SRM ene ee ee passim

Wardair Canada v. Florida Department

Garcia v. San Antonio Metropolitan Transit of Revenue, 477 U.S. 1 (1986) ...............

Authority, 469 U.S. 528 (1985) .............. 4

Japan Line, Lid. v. County of Los U.S. CONSTITUTION:

Angeles, 441 U.S. 434 (1979) ............ 18, 20

Michelin Tire Corp. v. Wages, 423 U.S.

PE baS es ON Gbb eS eWew’ s coweeeees 18 U.S. Const. art. I, §8,cl.3 ........0.......,

Mobil Oil Corporation v. Commissioner of U.S. Const. art. 1,§9 .....................

Taxes, 445 U.S. 425 (1980) ................. 9

U.S. Const. art.1,§10 ....................

Moorman Manufacturing Company v. Bair,

aU Gs DOV PTE we cic ccscdcccccceceen 10 U.S. Const. art. 1, § 10,cl.2 ...............,

vi

TABLE OF AUTHORITIES

U.S. CONSTITUTION: Page

8 4

U.S. Const. art. II, §2,cl.2............... 5, 18

STATUTES AND REGULATIONS:

26 CFR §§ 1.481.1 through 1.483-2T, 58

Fed. Reg. 5263 (June 21, 1993) .............. 24

Pub. L. No. 86-272 (15 U.S.C. 381) ............ 11

S.B. 671 (Cal. Stats. 1991, Ch. 881) ............ 3

CONGRESSIONAL MATERIAL:

124 Cong. Rec. S. 18670 (June 23, 1978) ......... 15

124 Cong. Rec. S. 19076 (June 27, 1978) ......... 15

125 Cong. Rec. S. 17434 (July 9, 1979) .......... 15

vii

TABLE OF AUTHORITIES

ian (a

CONGRESSIONAL MATERIAL: Page

Department of the Treasury’s Report on

Issues Related to the Compliance with

U.S. Tax Laws by Foreign Firms Operating

in the United States: Hearings Before

the Subcommittee on Oversight of the

Committee on Ways and Means, House of

Representatives, 102d Cong., 2d Sess.,

GP Wo. OS WON WK Bewiiccccceccecee

Hearings before the Subcommittee on

State Taxation of Interstate Commerce of

the Committee on Finance, United States

Senate, 93rd Cong., Ist Sess. (1973) ...........

International Tax Treaties: Hearing before

the Senate Comm. on Foreign Relations,

96th Cong., Ist Sess. (June 6, i ohedsse eee

Interstate Taxation Act, H.R. 11798 and

Companion Bills: Hearings before the

Special Subcommittee on State Taxation

of Interstate Commerce of the Committee

of the Judiciary, House of

Representatives, 89th Cong., 2d Sess.

Se OWS a ah OOO N OPE s it cecceccesei

Interstate Taxation, S. 2173: Hearings

before the Senate Committee on the

Judiciary, 95th Cong., 1st and 2d Sess.

PGES eee kekcdu ee akibeeéswan

Viii

TABLE OF AUTHORITIES

CONGRESSIONAL MATERIAL:

State Income Taxation of Mercantile and

Manufacturing Corporations: Hearings

before the Special Subcommittee on State

Taxation of Interstate Commerce of the

Committee on the Judiciary House of

Representatives, 86th and 87th Cong.,

a

State Taxation of Interstate Commerce and

Worldwide Corporate Income, 1980:

Hearings on S. 983 and S. 1688 Before

the Subcomm. on Taxation and Debt

Management Generally of the Senate Comm.

on Finance, 96th Cong., 2d Sess. (1980) .....

State Taxation of Interstate Commerce:

Report of the Special Subcommittee on

State Taxation of Interstate Commerce,

Committee on the Judiciary, House of

Representatives, 88th and 89th Cong.,

Ist and 2d Sess. (1964-1965) ............

Tax Underpayment by U.S. Subsidiaries of

Foreign Companies: Hearings Before the

Subcommittee on Oversight of the

Committee on Ways and Means, House of

Representati\ 2s, 101st Cong., 2d

Session, July 10 and 12, 1990 ...........

ix

TABLE OF AUTHORITIES

MISCELLANEOUS:

Foreign Direct Investment in California,

State of California (Nov. 1993)..........

Brooks Jackson, Honest Graft, Alfred A.

Knopf, New York, 1988 ..............

Chapman, Chadha, Garcia and the Dormant

Commerce Clause Limitation on State

Authority to Regulate, 23 Urban Lawyer

SEE Ss be Gcceiehbbeoscereces

Foreign Direct Investment in the United

States: An Update, U.S. Dept. of

Commerce (June 1993) ...............

John B. Judis, Tax Brake, Clinton’s

Corporate Giveaway, The New Republic,

ee

Letter of Submittal, June 8, 1976, 3 Tax

Treaties Reporter (CCH) 410,938 ........

Lobel, Banta & Gueron, Barclays: A Test of

the Administration’s Willingness to

Collect Taxes From Multinational

Corporations, Tax Notes, June 28, 1993 ....

State Tax Notes, 93 STN 181-16 (September

ON OE Swhebevedeb ek dscecces

Nos. 92-1384 and 92-1839

In The

Supreme Court of the United States

October Term, 1993

BARCLAYS BANK PLC,

Petitioner,

vs.

FRANCHISE TAX BOARD,

An Agency of the State of California,

Respondent.

COLGATE-PALMOLIVE COMPANY,

Petitioner,

vs.

FRANCHISE TAX BOARD,

An Agency of the State of California,

Respondent.

On Writs of Certiorari to the Court of Appeal of the

State of California in and for the Third Appellate District

BRIEF OF CONGRESSMEN DON EDWARDS,

HOWARD L. BERMAN AND XAVIER BECERRA AS

AMICI CURIAE IN SUPPORT OF RESPONDENT

FRANCHISE TAX BOARD

INTEREST OF AMICI

Amici appear before the Court as individual Members of

Congress whose service on the Committee on the Judiciary of

2

the House of Representatives has given them a unique

understanding of the issues presented by these cases that will

be useful to the Court.'

The Judiciary Committee has general jurisdiction over the

protection of trade and commerce against unlawful restraints

and monopolies, Rule X. 1.(m)(16), Rules of the House of

Representatives, and specific jurisdiction over bills regulating

the authority of States to impose taxes on interstate commerce.

105 Cong. Rec. H. 11317 (June 18, 1959). As members of

the Committee of the House of Representatives with specific

subject matter jurisdiction, amici have a direct and continuing

interest in the subject matter of these cases. Any legislation

to reverse or modify this Court’s decision in these cases would

be brought to the Committee for its consideration and action.

SUMMARY OF ARGUMENT

Questions regarding State taxation of interstate and foreign

commerce under the Constitution have always been directed

in the first instance to Congress. The circumstances of these

cases demonstrate the wisdom of this Court’s policy of

deferring to the judgment of Congress in these matters.

The States’ refusal to use the “arm’s-length” accounting

method for allocating multinational companies’ income has

been the subject of extended Congressional consideration for

over thirty years, but no legislation has been passed. Indeed,

the United States Senate rejected a treaty proposed by the

United Kingdom that would have prohibited States from using

unitary accounting methods for multinational corporations.

' Amici submit this brief in support of Respondent with the consent

of all parties. Written consents are on file with the Clerk of the Court.

3

The United Kingdom accepted that rejection after additional

negotiations and concessions by the United States.

The political process has worked. Congress made an

informed, conscious decision to allow the States to continue to

use unitary accounting methods to allocate the income of

multinational corporations. California exercised its discretion

and decided to allow multinational corporations the choice of

having the method applied to them effective January 1, 1988,

Barclays Joint Appendix (BJA), Ex. 55, BJA-696,

subsequently modified in 1993 by Senate Bill 671 (Cal. Stats.

1991, Ch. 881). See Respondent’s Supplemental Brief in

Opposition to Petition, Appendix A.

There is no constitutional justification for this Court to

second guess the political process of the States and Congress

and give Barclays special treatment just because it is a foreign

corporation or give Colgate special treatment just because it

conducts part of its business in foreign countries. The tax

prerogatives of the States are determined by the elected

officials in the States and the United States Congress after due

deliberation; they should not be dictated by the wishes of

corporate taxpayers or of foreign governments seeking to gain

a competitive advantage for their own companies, which have

the ability to shift massive amounts of profit abroad.

ARGUMENT

INTRODUCTION

The paramount question in these cases is whether a State

is required by the Commerce Clause to use a different, and

easier to evade, accounting standard to allocate profits for

foreign corporations than it does for domestic corporations.

Subsumed within this question is the more fundamental

4

question of how to strike a balance between State and national

sovereignty under our federal system. The other issues raised

by the parties involving the treaty power, foreign affairs, and

supremacy are all derivative of the Commerce Clause

question.

The requirements of the Commerce Clause and the

subsidiary questions must be answered by reference to the

Constitution, not by the demands of foreign nations seeking

favored treatment for their corporations. The Constitution

provides directions for the division of several specifically

identified responsibilities and powers within a system of

checks and balances.* In addition, as part-of the Bill of

Rights, the Tenth Amendment provides that "The powers not

delegated to the United States by the Constitution, nor

prohibited by it to the States, are reserved to the States

respectively, or to the people.”

This reservation of powers to the States is enforced

through the structure of the federal government. "[T]he

principal means chosen by the Framers to ensure the role of

the States in the federal system lies in the structure of the

Federal Government itself. It is no novelty to observe that the

composition of the Federal Government was designed in large

part to protect the States from overreaching by Congress."

Garcia v. San Antonio Metropolitan Transit Authority, 469

U.S. 528, 550-551 (1985). Thus, the structure of Congress,

consisting of two houses made up of representatives of the

States, assures that the powers delegated to the federal

2 The powers of the Legislative Branch, art. I, § 8, and Executive

Branch, art. II, § 2, are described with some specificity. Limitations on

the powers granted to the United States are enumerated, art. 1, § 9, as are

powers prohibited to the States, art. I, § 10.

5

government under the Constitution “will partake sufficiently

of the spirit [of the States], to be disinclined to invade the

rights of the individual States, or the prerogatives of their

governments.” Jd. at 551 (internal quotations omitted). The

Senate, in particular, with two members from each State and

a restriction on the ability to change this characteristic by

amendment is “at once a constitutional recognition of the

portion of sovereignty remaining in the individual States, and

an instrument for preserving that residuary sovereignty." Jd.

at 551-552 (internal quotations omitted).

In forming the federal government, the States agreed to

cede a portion of their individual sovereign powers in order to

enhance their collective power. Two of the principal

motivating factors for the formation of the Union were: 1) the

desire to conduct commerce, whether between themselves or

with other nations, free of selfish impediments, and 2) the

conduct of relations with foreign governments.

In furtherance of the first objective, Congress was given

the power "[t]o regulate commerce, with foreign nations and

among the several states... ." U.S. Const., art. I, § 8, cl.

3. To achieve the second of these objectives, the President

was given “the power, . . . to make treaties. . .” art. II, § 2,

cl. 2. The President’s power, however was subject to the

limitation that it could only be exercised "with the advice and

consent of the Senate . . . provided two-thirds of the Senators

present concur... ." Jd. Thus, the structure of our federal

government guarantees the States a voice in the establishment

of both foreign and domestic policy through their

representatives in Congress.

6

Maintaining this voice in the tax area is critical. Without

the ability to raise revenue, a government loses the ability to

provide the services for which it was formed. As a

consequence, the States, in forming our Union, jealously

guarded their revenue base. The Constitution directly limits

State tax prerogatives only in the case of "imposts or duties on

imports or exports,” U.S. Const., art. I, § 10, cl. 2. There

is no other specific prohibition on State taxation.

I. SINCE THE ISSUES IN THESE CASES HAVE

BEEN INTENSIVELY CONSIDERED BY

BOTH HOUSES OF THE CONGRESS, THIS

COURT SHOULD ACCEPT THE JUDGMENT

OF THE CONGRESS.

A. This Court Appropriately Defers To

Congressional Consideration Of State Tax Issues

Because They Involve Delicate Issues of

Federalism.

In 1983, this Court decided that the taxes here at issue as

applied to a domestic-based unitary business were

constitutional under a Dormant Commerce Clause analysis.

Container Corporation of America v. Franchise Tax Board,

463 U.S. 159 (1983). Since that time, the Congress has had

numerous opportunities to change the result of that decision.’

It has not done so. Indeed, recent efforts by the

Administration to revise the federal “arm’s-length” method to

> A list of some of the bills which have been introduced in Congress

which would have affected the States’ use of worldwide combined

reporting is set forth in Stip. | 38, BJA-40. None of these bills has been

enacted. A list of the hearings which have been held by various

Committees of Congress is set forth in the Joint Stipulation at { 37, BJA-

23-24.

7

prevent multinational corporations from continuing to evade

about $30 billion of federal taxes have not derailed public

pressure to adopt a federal unitary method of taxing

multinational corporations. See, Lobel, Banta & Gueron,

Barclays: A Test of the Administration’s Willingness to Collect

Taxes From Multinational Corporations, Tax Notes, June 28,

1993, at 1841; John B. Judis, Tax Brake, Clinton’s Corporate

Giveaway, The New Republic, August 23, 1993, at 15.

Congress’ repeated refusal to alter the result of Container

should be respected by this Court. This Court should take the

same position it took only eighteen months ago when it

refused to overrule one of its prior decisions on a State tax,

admittedly at odds with contemporary Commerce Clause

jurisprudence. In part, this Court’s reluctance was because

Congress had the power to change the decision and was better

equipped to balance the competing interests. Quéill

Corporation v. North Dakota, 504 U.S. __, 119 L.Ed.2d 91

(1992).

If this Court takes its own counsel as set forth in Quill, it

will respect the judgment of the Congress and sustain the taxes

in dispute. California has amended its tax code to relieve the

concerns of foreign governments. If any additional action is

required, Congress has the power and a more appropriate

institutional perspective than this Court to strike the necessary

balance between the rights of the States and the concerns of

foreign governments.

In order to preserve the delicate balance of our federal

system, this Court has generally required “clear and manifest"

affirmative action by Congress before it strikes down a non-

discriminatory State law. Puerto Rico Dept. of Consumer

Affairs v. Isla Petroleum Corp., 485 U.S. 495, 500 (1988).

For example, this Court sustained a State tax that differed

from the federal tax, even when Congress thought State law

would follow federal law, because Congress did not require

States to follow federal law. Amerada Hess Corp. v. New

Jersey, 490 U.S. 66, 70 (1989).

Indeed, this Court has upheld State taxes even when it

apparently questioned the wisdom of the tax. For example, in

1981, this Court reviewed a severance tax imposed by the

State of Montana on the mining of coal. The tax was imposed

at the height of the energy crisis and was vociferously opposed

by residents of less energy blessed states who used Montana’s

coal. This Court found the tax permissible under the

Commerce Clause. “Under our federal system, the

determination is to be made by state legislatures in the first

instance and, if necessary, by Congress when particular state

taxes are thought to be contrary to federal interests."

Commonwealth Edison Company v. Montana, 453 U.S. 609,

628 (1981).

As Justice White stated in his concurrence:

. Congress has the power to protect interstate

commerce from intolerable or even undesirable burdens.

. . « Yet, Congress is so far content to let the matter rest,

and we are counseled by the Executive Branch through the

Solicitor General rot to overturn the Montana tax as

inconsistent with either the Commerce Clause or federal

statutory policy in the field of energy or otherwise. The

constitutional authority and the machinery to thwart the

efforts such as those of Montana, if thought unacceptable,

are available to Congress, and surely Montana and other

9

similarly situated States do not have the political power to

impose their will on the rest of the country. . . . the better

part of both wisdom and valor is to respect the judgment

of the other branches of the Government. 453 U.S. at

637-638.

If anything, under the reasoning of this Court in

Commonwealth Edison, even greater deference should be

given to State income taxes because the interests of the

taxpayers have almost certainly been considered by the elected

officials. In Mobil Oil Corporation v. Commissioner of Taxes,

445 U.S. 425 (1980), this Court recognized the special

character of income taxation:

Concurrent federal and state taxation of income, of

course, is a well-established norm. Absent some explicit

directive from Congress, we cannot infer that treatment of

foreign income at the federal level mandates identical

treatment by the States. The absence of any explicit

directive to that effect is attested by the fact that Congress

has long debated, but has not enacted, legislation designed

to regulate state taxation of income. ... Legislative

proposals have provoked debate over issues closely related

to the present controversy [apportionment and taxation of

dividend income]. . . . Congress in the future may see fit

to enact legislation requiring a uniform method for state

taxation of foreign dividends. To date, however, it has

not done so. (Citations omitted.) 445 U.S. at 448-449.

This Court found this to be true even when a different

unitary formula was used by a State:

While the freedom of the States to formulate independent

policy in this area may have to yield to an overriding

10

national interest in uniformity, the content of any uniform

rules to which they must subscribe should be determined

only after due consideration is given to the interest of all

affected States. It is clear that the legislative power

granted to Congress by the Commerce Clause of the

Constitution would amply justify the enactment of

legislation requiring ali States to adhere to uniform rules

for the division of income. It is to that body, and not this

Court, that the Constitution has committed such policy

decisions. Moorman Manufacturing Company vy. Bair,

437 U.S. 267, 280 (1978).

This Court’s judgment that issues involving State taxation

and the Commerce Clause should be resolved under the

Constitution by action of the Congress because it is better

designed to balance the concerns of the States and the

taxpayers is sound and should be respected. See Chapman,

Chadha, Garcia and the Dormant Commerce Clause

Limitation on State Authority to Regulate, 23 Urban Lawyer

163 (1991).

B. Over The Last Thirty Years Congress Has

Consistently Refused To Pass Legislation

Limiting The States’ Power To Use The Unitary

Method Cf Allocating Income For Multinational

Companies.

There is no question that the issues raised in these cases

have been exhaustively reviewed by Congress. Every effort

to prohibit the State taxes at issue has been rejected.

Shortly after the Court’s decision in Northwestern States

Portland Cement Company v. Minnesota and Williams v.

Stockham Valves & Fittings, Inc., 358 U.S. 450 (1959),

11

Congress enacted Pub. L. No. 86-272 which, among other

things, “initiated a comprehensive study of all matters

pertaining to the taxation of income derived from interstate

commerce. . ." State Taxation of Interstate Commerce:

Report of the Special Subcommittee on State Taxation of

Interstate Commerce, Committee on the Judiciary, House of

Representatives, 88th and 89th Cong., Ist and 2d Sess. (1964-

1965), Vol. 1, p. 8.

The Judiciary Committee of the House of Representatives

formed a special Subcommittee to study the issues presented

by State taxation of corporate income. The Subcommittee

conducted its study and hearings over several years. The

results of this study are contained in five separate volumes and

total over 2,600 pages of text and appendices. State Income

Taxation of Mercantile and Manufacturing Corporations:

Hearings before the Special Subcommittee on State Taxation

of Interstate Commerce of the Committee on the Judiciary

House of Representatives, 86th and 87th Cong., (1961-1962)

and State Taxation of Interstate Commerce: Report of the

Special Subcommittee on State Taxation of Interstate

Commerce, Committee on the Judiciary, House of

Representatives, 88th and 89th Cong., Ist and 2d Sess. (1964-

1965), Vol. 1-4. Two of the issues considered in these

volumes are whether States should be able to use combined

reporting unitary accounting and whether States should be able

to consider income and activities outside of the United States

in computing State taxes on multinational corporations. These

are the issues presented by these cases. No legislation was

enacted as a result of these hearings, study and report.

Additional hearings were held by the same Subcommittee

in 1966 which resulted in an 1,800 page report. Interstate

12

Taxation Act, H.R. 11798 and Companion Bills: Hearings

before the Special Subcommittee on State Taxation of

Interstate Commerce of the Committee of the Judiciary, House

of Representatives, 89th Cong., 2d Sess. (1966). Not one of

the bills to limit unitary taxation of foreign corporations was

enacted.

Similar hearings were held in 1973. Hearings before the

Subcommittee on State Taxation of Interstate Commerce of the

Committee on Finance, United States Senate, 93rd Cong., st

Sess. (1973).

In 1977 and 1978, hearings were held with respect to

federal regulation of state income taxation of interstate and

foreign commerce. Interstate Taxation, S. 2173: Hearings

before the Senate Committee on the Judiciary, 95th Cong., |st

and 2d Sess. (1977-1978). Stip. ¢ 37G, BJA-24.*

In 1980, the Senate Finance Committee held hearings on

an Interstate Tax Bill, the primary purpose of which was to

prohibit State use of worldwide combined reporting (WWCR)

the unitary accounting method at issue in these cases. State

Taxation of Interstate Commerce and Worldwide Corporate

Income, 1980: Hearings on S. 983 and S. 1688 Before the

Subcomm. on Taxation and Debt Management Generally of the

Senate Comm. on Finance, 96th Cong., 2d Sess. (1980).

Stip. | 37E, BJA-24.

* The hearings in 1977-78 are of particular significance because they

occurred at the time the United States Senate was considering whether it

would give its advice and consent to the United States/United Kingdom

Income Tax Convention with its restriction on State consideration of the

activities of United Kingdom-based businesses to determine the income

earned within the State. See infra, at pp. 14-19.

13

Also in 1980, the House of Representatives’ Committee on

Ways and Means held hearings on H.R. 5076,° the purpose

of which was to prohibit the States’ use of WWCR. No vote

on the bill was even taken by the Committee.

In 1986, a Subcommittee of the Senate Finance Committee

held hearings on S. 1113 and S. 1974, bills which were

specifically introduced to limit the States’ ability to use

WWCR. These bills never even went to a Committee vote.

In Commonwealth Edison Company v. Montana, 453 U.S.

609 (1981), this Court pointed out that there had been

Congressional consideration of the level of the Montana

severance tax in both the 96th and 97th Ce~gresses. 453 U.S.

at 628, fn. 18. Contrast this with over thirty years of

Congressional consideration of WWCR. If the consideration

of six bills over two Congresses carries significance, then

certainly importance should be attached to the consideration of

over twenty bills during more than ten Congresses, Stip. | 38,

BJA-24-25, at least nine Congressional hearings, Stip. | 37,

BJA-23-24 and Second Stip. { 37, BJA-47, and, as discussed

below, the rejection of a treaty prohibition on the tax at issue.

Multinational corporations and foreign governments

certainly know how to make their views known to Congress.

See, Brooks Jackson, Honest Graft, Alfred A. Knopf, New

York, 1988. Congress, however, has refused their entreaties,

as should this Court.

* The report of those hearings is included in the record of this case.

Stip. 1 37D, BJA-24.

14

C. Since The Senate Refused To Give Its Consent

To A Treaty Prohibiting The Taxes At Issue

Here, This Court Should Accept The Senate’s

Judgment.

In determining whether a State tax impinges on the federal

government's ability to conduct foreign affairs, the affirmative

action of the Senate in refusing to consent to a treaty with a

prohibition on State unitary taxes should be dispositive. In

establishing the treaty power, and in making it subject to the

advice and consent of two-thirds of the Senate, the Framers

had in mind the protection of the States against untoward

encroachment on their sovereign powers by the federal

government. Whether a State tax is a foreign policy concern

of the United States is for Congress and the Executive to

decide, not foreign governments.

In 1975, the United States and the United Kingdom

concluded negotiations on revisions to the then-existing

income tax treaty between the countries. One of the

provisions included in the renegotiated treaty was a clause,

Article 9(4), which would have limited the ability of the States

to use WWCR on United Kingdom-based businesses such as

Barclays. In submitting the treaty to the United States Senate

for its advice and consent, the Executive Branch noted that

this was the first treaty involving income taxation in which

such a limitation on the States had been included. Letter of

Submittal, June 8, 1976, 3 Tax Treaties Reporter (CCH)

410,938.

The proposed limitation on State (subnational) taxation

contained in Article 9(4) was the subject of intense debate

both within the Foreign Relations Committee and on the floor

15

of the United States Senate. Senator Frank Church attempted

to attach a reservation to the treaty with respect to Article 9(4)

both in Committee and on the Senate floor. One of his

concerns was the use of the treaty process to circumvent

Congressional consideration of an action which would affect

commerce. See Ex. 36C, BJA-238, and 36D, BJA-311,

generally, and especially BJA at 251-254. The efforts to

attach a reservation failed.

However, when the treaty was presented to the Senate on

June 28, 1978, for its advice and consent, the vote was 49 in

favor and 32 against. The treaty failed to obtain the necessary

consent of the United States Senate. 124 Cong. Rec. S.

18670 (June 23, 1978). The next day, the treaty, after the

reservation of Article 9(4) was appended, passed the Senate by

the constitutionally required two-thirds affirmative votes, 82

in favor and 5 against. 124 Cong. Rec. S. 19076 (June 27,

1978).

The treaty, as approved by the Senate, was returned to the

Executive Branch, which transmitted it to the United Kingdom

for its reconsideration. Because of the change in the treaty,

the United Kingdom requested that negotiations be reopened.

The United States agreed, and the additional negotiations gave

rise to the Third Protocol to the Treaty which made additional

concessions to the United Kingdom as the result of the

Senate’s reservation on Article 9(4).

The Third Protocol was considered by the United States

Senate on July 9, 1979 and passed 98 in favor, to O against.

125 Cong. Rec. S. 17434 (July 9, 1979). Ex. 36B, BJA-193

at 227-229. The United Kingdom then approved the treaty as

modified, and it became effective on March 24, 1980.

16

With a much weaker expression of intent by Congress,

this Court ruled in Wardair Canada v. Florida Department of

Revenue, 477 U.S. 1 (1986), that a State was not preempted

from imposing a tax affecting foreign commerce. This Court

in Wardair had before it: 1) a multilateral international

convention which exhibited awareness of a similar state tax

that was prohibited and silence with respect to the tax at issue,

2) a resolution of an international organization which would

have prohibited the specific tax, and 3) bilateral agreements

adopted after the resolution which committed the United States

not to assert taxes at the national level similar to the State tax

at issue but which were silent with respect to subnational

taxes. This Court found that the second of these items, the

Resolution, was of little relevance because it had not been

endorsed or adopted by the federal government. The other

two items, however, were found by this Court to establish that

the State tax was expressly permitted. This Court said, “the

Federal Government is entitled in its wisdom to act to permit

the States varying degrees of regulatory authority. In our

view, the facts presented by this case show that the Federal

Government has affirmatively decided to permit the States to

impose these . . . taxes... ." Id. at 12, and concluded that,

"we never suggested . . . that the Foreign Commerce Clause

insists that the Federal Government speak with any particular

voice." (Emphasis in original.) Jd. at 13.

The Wardair analysis compels the conclusion that the

Senate’s rejection of the proposed clause in the US/UK

income tax treaty is an affirmative decision by the federal

government to permit the State tax here at issue. There is no

need to look to other bilateral agreements whose history is

silent with respect to the relevant issue. There is no need to

erect ern nnn — -

17

look to the agreements of international organizations which

Suggest one thing and bilateral agreements which do somethin

else sub silentio. All that is required is to look to the en

consideration and rejection of the proposed limitation on State

tax prerogatives. This action does more than manifest

permission by implication; it does it by action, action which

was understood as permission both by the United States and

the United Kingdom who were parties to the treaty, by the

States and commercial enterprises who would have been

affected by a prohibition, and by other countries as well.®

Congress is charged with the responsibility of regulating

Commerce. The Senate, as one of the houses of Congress,

bears this responsibility directly in considering legislation. It

also performs this function when it is required to give its

advice and consent to a treaty involving commercial relations

with foreign countries. In considering the US/UK tax treaty,

specifically Article 9(4), the Senate performed its role as

guardian of State prerogatives.

(T]he principal and basic limit on the federal

commerce power is that inherent in all congressional

action — the built-in restraints that our system

provides through state participation in federal

governmental action. The political process ensures

that laws that unduly burden the States will not be

promulgated. In the factual setting of these cases the

internal safeguards of the political process have

performed as intended. Garcia, 469 U.S. at 556.

* See Ex. 42, BJA-477 and Ex. 43, BJA-480.

18

Barclays claims that the State tax here at issue fails what

is commonly known as Dormant Foreign Commerce Clause

analysis because it "prevent[s] this Nation from ‘speaking with

one voice’ in regulating foreign commerce." Japan Line, Ltd.

v. County of Los Angeles, 441 U.S. 434, 451 (1979).

Alternatively, Barclays claims that California’s tax is invalid

because it impinges upon the ability of the federal government

to conduct the foreign affairs of the United States. The same

analysis applies to both arguments, Japan Line, 441 U.S. at

449 (1979); Michelin Tire Corp. v. Wages, 423 U.S. 276

(1976), particularly when the President negotiates a treaty

affecting the commercial relations of the United States.’

Barclays’ reliance on Japan Line is misplaced. Japan Line

deals with a property tax, not an income tax. In that case, the

federal government, by treaty, recognized that the

international movement of cargo vessels should not be

impeded by State taxes and, thus, there was a need to "speak

with one voice." The taxation of multinational corporations’

income raises entirely different concerns because they have the

ability to shift income among a complex web of subsidiaries

carefully designed to evade taxes. This Court has recognized

that protecting the tax status of vessels and containers is vastly

different than granting constitutional protection to the

accounting artifices created by the tax departments of

multinational corporations. Compare Japan Line with

7 Because treaties often address commercial issues, the Constitution,

art. Il, § 2, cl. 2, provides that a treaty only becomes effective when two-

thirds of the Senators present when it is considered give their advice and

consent.

19

Container, which dealt with the same tax as is at issue in these

cases and was decided four years later.

Il. SINCE CONGRESS HAS DECIDED THAT

THE STATES’ USE OF THE UNITARY

METHOD DOES NOT PREVENT THE

GOVERNMENT FROM "SPEAKING WITH

ONE VOICE," THIS COURT SHOULD NOT

SUBSTITUTE ITS JUDGMENT FOR THAT OF

CONGRESS

In Container, this Court recognized that the overlapping

Commerce Clause and foreign affairs Constitutional questions

are peculiarly political in nature. In making the "one voice"

element part of its Commerce Clause analysis in Container,

this Court recognized its institutional limitation in considering

these issues:

. . . In considering this issue, however, we are faced with

a distinct problem. This Court has little competence in

determining precisely when foreign nations will be

offended by particular acts, and even less competence in

deciding how to balance a particular risk of retaliation

against the sovereign right of the United States as a whole

to let the States tax as they please. 463 U.S. at 194.

This Court stressed that the “one voice" element was

peculiarly an issue for the Executive and Legislative Branches:

. . . the foreign policy of the United States — whose

nuances, we must emphasize again, are muc’ more the

province of the Executive Branch and Congress than of

this court. 463 U.S. at 196.

20

The “one voice” analysis involves determining whether a

state tax will “impair federal uniformity in an area where

federal uniformity is essential." (Emphasis added.) Japan

Line, 441 U.S. at 448. In Container, this Court said that

uniformity might be essential if the State tax "might justifiably

lead to significant foreign retaliation." (Emphasis added.)

463 U.S. at 194. The facts of this case demonstrate that

suppressing a State’s right to choose its tax system is not

essential to uniformity and the retaliation threatened by the

United Kingdom was resolved by the political system.

In any event, once United States foreign policy has been

made, suggesting that the Constitution requires it be changed

in the face of foreign threats is a dangerous precedent. It

would encourage threats and retaliatory legislation where none

would have been considered.

A. Congress Has Decided That Identical Taxation

Of Multinational Corporations By The States

And Federal Government Is Not Essential For

Our Country To Speak With "One Voice" In

Foreign Policy.

This Court recognized in Container that the determination

of whether uniformity in this area is essential is a decision

which must be made in the first instance by the Executive and

Legislative Branches, 463 U.S. at 194. Congress’ refusal to

pass any one of innumerable bills to prohibit the States’ use of

WWCR for almost thirty years evidences a conviction that

uniformity in this area is not essential. If it were, Congress

would have acted.

Circumstances have proved Congress to be correct.

Foreign commerce continues. Residents of the United

21

Kingdom, the nation that has gone the furthest in threatening

retaliation, continue to be among the single biggest investors

in the United States* and in California.’

B. Threats Of Retaliation By Foreign Governments

Should Be Handled By The Political System, Not

This Court.

The United States’ Income Tax Conventions, except with

respect to non-discrimination, do not apply to taxes asserted

by subnational jurisdictions such as States. E.g., The United

States Model Income Tax Treaty. Ex. 45, BJA-560. In

presentations to international groups, representatives of the

Treasury have stated that the United States will not include

subnational taxes under treaties, with the exception of

nondiscrimination, because the Senate will not approve it. See

Ex. 37H, BJA-436 at 438."° Because these foreign

governments have been unable to get the Executive and

Congress to change the policy of the United States

government, they are now asking this Court to change the

policy of the United States as a matter of constitutional law.

Despite the additional benefits the United Kingdom got

because it accepted the US/UK tax treaty without a prohibition

on State taxation, it reneged on the deal and threatened to

* Foreign Direct Investment in the United States: An Update, U.S.

Dept. of Commerce (June 1993), p. 23.

* Foreign Direct Investment in California, State of California (Nov.

1993), pp. 4-5.

‘© Material is from a submission by the Department of Treasury to

XIX Inter-American Center on Tax Administrators (CIAT) Technical

Conference on “Exchange of Information Under Tax Treaties” August 28-

September 3, 1977, Curacao. Ex. 37H. International Tax Treaties:

Hearing before the Senate Comm. on Foreign Relations, 96th Cong., Ist

Sess. (June 6, 1979), p. 111-112 (statement of Donald C. Lubick).

22

withdraw a benefit which the same treaty conferred upon

United States corporations, Ex. 40GG, BJA-444 at 455-459,

Article 10, because of the States’ continued use of WWCR.

The United Kingdom has now withdrawn the threat of

retaliation, but holds it in reserve if it is displeased with

California’s implementatio, of its new “water’s-edge"

legislation or if another State should choose to adopt WWCR.

See State Tax Notes, 93 STN 181-16 (September 20, 1993).

This Court should not encourage the United Kingdom to hold

hostage either United States foreign policy or United States

internal policy regarding the powers of the States.

Perhaps one reason the United Kingdom threatened to

breach the treaty is because unitary accounting undercuts the

raison d'etre of British tax havens such as the Channel

Islands, the British Virgin Islands, Gibraltar, Hong Kong and

the Cayman Islands, which are used by offshore corporations

to evade taxes under the “arm’s-length” method of accounting.

In fact, the Crown Colony of the Cayman Islands is now the

fifth largest banking center in the world.

C. The Practical Effect Of Limiting Use Of The

Unitary Method Will Be To Impair The Ability

Of American Companies To Compete Against

Foreign Companies.

Although the legal issue in the Barclays case is whether it

is constitutional for a State to impose the same tax accounting

requirements faced by domestic companies upon foreign

multinational corporations, the real issue is whether foreign

multinational corporations will be allowed to shift their tax

burden onto domestic corporations as a matter of constitutional

law. If Barclays prevails, domestic companies will be forced

23

to pay the taxes that the foreign companies will escape.

Indeed, if Barclays prevails, our domestic companies will have

to compete against foreign corporations which pay no income

taxes whatsoever on their exports to the United States because

in many countries there is no corporate income tax, only a

Value Added Tax on products which is rebated to a

corporation if it exports the product.

The “arm’s-length" method used by the federal

government essentially allows a corporation to use intra-

company sales as a method of allocating income. For

example, if a Japanese auto manufacturer sold a car to its

U.S. distributor for $30,000, its U.S. distributor might sell it

for $32,000. After deducting administrative and advertising

costs for its U.S. subsidiary, the Japanese company could

declare that it lost money on the sale in the U.S. even if it

booked a $10,000 profit on that car in Japan when it sold it to

its U.S. distributor.

Unfortunately, trying to police the “arm’s-length” system

is like trying to police the New Jersey turnpike on a bicycle.

According to every former Commissioner of the Internal

Revenue Service who testified before the Oversight

Subcommittee of the House Ways and Means Committee, the

IRS is totally outgunned by these corporations when it

somehow discovers an egregious example of revenue shifting

and tries, using the "arm’s-length" method, to collect the taxes

that should have been paid."' In an attempt to stop some of

'' Tax Underpayment by U.S. Subsidiaries of Foreign Companies:

Hearings Before the Subcommittee on Oversight of the Commitiee on Ways

and Means, House of Representatives, 10\st Cong., 2d Session, July 10

and 12, 1990, at 41.

(continued...)

24

the abuse, the IRS recently issued complex temporary

regulations,'? but so far all they appear to have generated are

seminars in vacation spots for lawyers, accountants and

economists eager to learn how to work the system for their

clients and a spate of articles moaning about the onerous

burdens being imposed by these new regulations."

"(.. continued)

In 1992, the Subcommittee revisited the 36 firms it studied in 1990

and found that these firms actually paid less taxes than reported originally.

Department of the Treasury's Report on Issues Related to the Compliance

with U.S. Tax Laws by Foreign Firms Operating in the United States:

Hearings Before the Subcommittee on Oversight of the Committee on Ways

and Means, House of Representatives, 102d Cong., 2d Sess., April 9,

1992, at 5.

2 26 CFR §$§ 1.481.1 through 1.483-2T, 58 Fed. Reg. 5263 (June 21,

1993). .

'" Witnesses Say Transfer Pricing Penalty Regs are Too Restrictive,

Tax Notes, May 24, 1993, p. 1005; Panels Ponder Foreign Tax Issues,

Proving a Negative, Official Says, Tax Notes, March 15, 1993, p. 1413;

Burgess J. Raby and William L. Raby, Section 482 Reasonable Cause

Proposal Not Reasonable, Tax Notes, March 8, 1993, p. 1347; Kellogg

Management School Conducts Conference on Transfer Price Regs, Tax

Notes, February 22, 1993, p. 1015; John Simpson et al., From “CPI or

: An Economic Analysis of the Arm's

:

i

3

25

Under these circumstances, it is hopelessly naive to

believe that profit-iiaximizing corporations, making any kind

of a cost-benefit calculation, will not structure their accounting

to minimize taxes. Given a vague standard and ineffectual

enforcement, it would be inconceivable not to expect managers

to do all they can to shift revenue to the lowest tax

jurisdiction. The rewards weighed against the risks are simply

too great. No public policy should be based on a notion that

corporate managers are more virtuous or public spirited than

the general run of mankind.

A June 1993 Commerce Department Report to Congress

on Foreign Direct Investment in the United States estimated

that one half of the taxes owed by foreign multinational

corporations were evaded by transfer pricing abuses. By one

estimate that is about $30 billion a year‘ — real money eyen

in federal government terms. According to the IRS, in 1989,

the last year for which data is available, 71.7% of foreign

companies paid no U.S. taxes at all and, as a group, reported

less than one third the taxable income of U.S. firms as a

percentage of receipts (.9% v. 3.1%) despite the fact that their

'* A study by Professor James A. Wheeler summarized in Lobel,

Banta & Gueron, Barclays: A Test of the Administration's Willingness to

Collect Taxes from Multinational Corporations, Tax Notes, June 28, 1993,

at 1842. See also a study by Professors Pak and Zdanowicz reported in

Tax Analysts Highlights & Documents, January 11, 1994, at 11, which

estimated that “Foreign-held firms used transfer pricing shenanigans to

dodge an estimated $28 billion or more in federal income taxes in

1992... .” They “found that trade with Japan accounted for an estimated

13 percent of lost U.S. income tax revenues, or more than $4 billion

annually. Other countries with “abnormalities” exceeding $1 billion were:

Germany ($3.1 billion); Britain ($2.5 billion); Canada ($2.1 billion);

France ($1.6 billion); Mexico and Taiwan ($1.4 billion); the Netherlands

($1.3 billion); and Brazil ($1.1 billion).”

26

assets went up three times as fast as domestic companies.

Apparently, they are losing money on every sale, but making

it up in volume!

Because these foreign corporations failed to get Congress

to prohibit State use of unitary tax systems that this Court has

consistently recognized as at least as accurate a method as the

"arm’s-length" method of allocating income, Allied-Signal v.

Dir. Div. of Taxation, 504 U.S. __, 119 L.Ed.2d. 533

(1992), they are now asking this Court to prohibit State use of

unitary tax systems against foreign multinational corporations

on constitutional grounds. They argue that unitary tax

systems are too burdensome to apply and violate international

standards. The first point doesn’t even pass the smile test:

How can the management of a corporation suggest with a

straight face that it does not know where its sales, personnel

and property (the usual factors in unitary accounting systems)

are located? On the second point, the one time such a

prohibition was included in a treaty, the Senate refused to pass

the treaty until the prohibition was removed.

The only consistent theme in the multinationals’ argument

against the unitary method of allocating income or against

making the “arm’s-length” method more effective is that they

don’t want to pay taxes. Nor do most taxpayers, but most

recognize that payment of taxes (even when there is

disagreement with their expenditure) is the price of a civilized

society.

CONCLUSION

Since (1) Congress has refused for over thirty years to

pass legislation prohibiting States from using the unitary

method for allocating the income of multinational corporations

27

and, in fact, the one time it was faced directly with the issue,

refused to consent to a treaty which contained such a

prohibition, and (2) this Court has consistently recognized that

the unitary method is as well accepted and at least as accurate.

a method as the "arm’s-length” method of allocating income,

this Court has no basis to find that the States’ use of the

unitary method violates the Constitution.

The decisions of the California Courts in these cases

should be affirmed.

Dated: January 19, 1994

Respectfully submitted,

Martin Lobel

Counsel of Record

Jack A. Blum

Dina R. Lassow

Lobel, Novins, Lamont & Flug

1275 K Street, N.W., Suite 770

Washington, D.C. 20005

(202) 371-6626

Attorneys for Amici Curiae