Opposition Brief — Johnson v. J. C. Penney National Bank
Supreme Court brief2000
Ask Donna
What actually matters in this document.
Text
(2) “Ss z ha.
ie
wee z
No. 00-205 Bo
|
antedingt te
IN THE
Supreme Court of the Gnited States
RUTH E. JOHNSON, COMMISSIONER OF REVENUE,
STATE OF TENNESSEE,
Petitioner,
V.
J.C. PENNEY NATIONAL BANK,
Respondent.
On Petition for Writ of Certiorari
to the Court of Appeals of Tennessee
RESPONDENT?’S BRIEF IN OPPOSITION
MICHAEL D. SONTAG
(Counsel of Record)
BRYAN W. METCALF
BASS, BERRY & SIMS, PLC
315 Deaderick Street, Suite 2700
Nashville, Tennessee 37238
(615) 742-6200
Counsel for Respondent
cae sme
i
QUESTION PRESENTED
May a State, contrary to this Court’s definition of the
“substantial nexus” requirement of the Commerce Clause in
National Bellas Hess, Inc. v. Department of Revenue and Quill
Corporation v. North Dakota, impose franchise and excise (net
income) taxes on corporations that have established no direct
or indirect physical presence in the taxing jurisdiction?
li
CORPORATE DISCLOSURE STATEMENT
Respondent J.C. Penney National Bank was a federally
chartered national banking association incorporated under the
laws of Delaware; it was dissolved on December 17, 1998.
Prior to its dissolution, Respondent was a wholly owned
subsidiary of J.C. Penney Company Inc., a publicly-held
corporation. J.C. Penney Company will be responsible for
paying the Petitioner’s tax assessment if it is ultimately held to
be valid. No parent or publicly held company owns 10% or
more of J.C. Penney Company’s stock.
iii
TABLE OF CONTENTS
Page
UAT PINE ka... i
CORPORATE DISCLOSURE STATEMENT ........ li
ME TP TEE, se cee ccc cues cus Vv
EIEN ESS 7 I eS Sa 1
Pemameeeeys Ge PEI CASE ........ 12... .c0nee, 2
1. JCPNB’s Business in Tennessee.............. 2
2. Tennessee’s Franchise and Excise Tax ........ 4
3. MmeProcesdingsBdlow ................... 5
REASONS FOR DENYING THE WRIT ............ 6
I. THE TENNESSEE COURT OF APPEALS’
DECISION WAS A ROUTINE APPLICATION
OF THIS COURT’S PRECEDENTS THAT
DOES NOT CONFLICT WITH ANY DECISION
OF THIS COURT OR OF A STATE COURT OF
ald yy bing oe Iida cb veo wa s 6
A. The Decision Below Was Factbound And Did Not
Explicitly Apply a “Physical Presence” Rule... 7
B. This Court Has Consistently Held That An Out-
Of-State Taxpayer Must Have a Substantial
Physical Presence Within the Taxing State to
Establish a “Substantial Nexus” ............. 9
C. No Conflict Exists Among State Courts of Last
Resort Regarding a State’s Power to Subject an
Out-of-State Taxpayer to a State Income Tax... 16
iV
TABLE OF CONTENTS (cont’d)
II. THERE IS NO OTHER COMPELLING BASIS
FOR THIS COURT'S REVIEW ......-4 5.855: 19
ee eee ee rer me ie 23'
Vv
TABLE OF AUTHORITIES
Page
Cases
Allied Signal, Inc. v. Director, 504 U.S. 768
EMIPOMIE : icesus puvsiickceicuchaghsesuiniterenica dele ipeieaanianicice 9,11
Bloomingdale's By Mail Ltd. v. Huddleston, 848
ow Fee, Ob . |, Renmei errnomomcmen 4,6
Borden Chemicals and Plastics, L.P. v. Zehnder,
726 N.E.2¢ 73 (ill, App. Ct. 2000) ....2.......:cccsccessscesee 17
Burger King Corp. v. Rudzewicz, 471 U.S. 462
PME itis cepa rcisennacurovecasin ss eccsitiu. Fat bau chonaineiethiutiotenes 8
Cerro Copper Prods., Inc. v. State of Alabama,
F. 94-444 (Admin. Law Div. 12/11/95) ......0000000cccc.. 18
Commonwealth Edison Co. v. Montana, 453 U.S.
RRR a Aa enka eh aN ea 1, 9, 22
Complete Automobile Transit v. Brady, 430 U.S.
RO 1,2,11
Couchot v. State Lottery Comm'n, 659 N.E.2d
Raneee GUE BIN ois sorsescaices capanasaencaedecdanecate 16, 17, 18
Fulton Corp. v. Faulkner, 516 U.S. 325 (1996) ...........0.... ]
Geoffrey, Inc. v. South Carolina Tax Comm’r,
Dae Ti Be I ts MED heccssetseecicictspunetaninccngases 17, 18
Guardian Industries Corp. v. Department of
Treasury, 499 N.W.2d 349 (1993) .00......ccceccceceeeeeees 18
International Harvester Co. v. Wisconsin
Dep't of Taxation, 322 U.S. 435 (1944) .........cceceee. 17
Magnetek Controls, Inc. v. Department of Treasury,
WE Oe EE OND ED inci vcs cabs dendcncaniediconentniaedeanes 18
National Bellas Hess, Inc. v. Department of
Rev. of Illinois, 386 U.S. 753 (1967) ..............000. passim
National Geographic Soc’y v. California
Bd. of Equalization, 430 U.S. 551 (1977) ......... 8, 11, 12
Quill Corp. v. Commissioner, 504 U.S. 298
(1992)
vi
TABLE OF AUTHORITIES (cont’d)
Page
Northwestern States Portland Cement Co. v. Minnesota,
I. MOURN cies iddrcch: cvsiiennccla ahcokgeabenntbceits 15
Rylander v. Bandag Licensing Corp., 18 S.W.3d
RENIN, POE, PED ss seca cescancisciceasnantnarnntiuvenes 18, 19
Standard Pressed Steel Co. v. Washington Rev.
I Re Oe ee TD aan ciscsdeahisrnninerancajessicccadaden 12
Scripto, Inc. v. Carson, 362 U.S. 207 (1960) .................. 10
Tyler Pipe Indus., Inc. v. Washington State
ERP TGF OM. SES UB. B50 CIPOED. sic cnsscssesccsesssscnenesss 10
Statutes, Bills, and Rules
Federal Reserve Act § 238, 12 U.S.C. § 37le-1 0... 3
Fair and Equitable Interstate Tax Compact
Simplification Act of 2000, H.R.4462, 106th Cong.
ARERR NS cere aoe ae SIRE OER ere anes 22
es es CIN Bihan es siicnneensis sansnercine> 21
Internet Nondiscrimination Act of 2000, H.R.3079, 3
S.2028 & S.2255, 106th Cong. (2000) ................0... 21
Internet Tax Elimination Act, H.R.3252, 106th
Re ID scsi shnchisasinedeidugaenaiiactubiipeinadaexeestingielinds 22
Internet Tax Freedom Act of 1998, Pub. L. |
BE: MEINE ax sc iicirix 5 sige cb haehcaraatoa taco punta iamiasanxsakiabiaeias 21
Internet Tax Moratorium and Equity Act, |
eT, BI IE, CID ci cheisiicscasanisenosttcesnrabaiinns 22
Internet Tax Reform and Reduction Act of 2000,
BED, OT, PE IE, CIID asa ccaccicsssannassnansecscecias 21
Internet Tax Simplification Act of 2000, H.R.4460,
NIL CI 3.5, cp canshvagnisteecinisbesaaniacdbley*sieetnae 21
New Economy Tax Simplification Act, $.2401,
PN os 2a asdicnacen nnasncibnicenstusion nicl 22
ee EM OD Soicscsnnntonerecningoonantonscaroiapaccaoienea 21
ee: IU AE: UII os ini pcciscsaunidesiadeensnccoenennt 21
a 16
vil
TABLE OF AUTHORITIES (cont’d)
Page
Tenn. Code Ann. § 67-4-804 ooo... ccccccecccccccocecceeecscsc... 13
Tenn. Code Aon. § 67-4-805 ......................................... 14
oe. tee eee 667... 4
tem. Code Ann § G7-4-008 .................................... 12
RO Ae Oe OD 5
5m. Come ee. 6 G-405 5, 14
a ee. 4
Som See hee 20-4 5
soe See. OPO 5
Miscellaneous
Constitutional Limitations on Jurisdiction to Tax
and the Impact of Quill and Geoffrey, State
ee et Be 10
Internet Taxation in the New Millenium: Hearing
Before the Senate Budget Committee, 106th
2. Seabees enact caster cc ne 22
Interstate Use Tax Collection: Hearing Before the
Senate Committee on Small Business, 103d
eset, be paeagig OT A OEE Te IEE A ED 22
Hellerstein & Hellerstein, State Taxation
SR WUE i i a 13, 14
Proposal of Governor James S. Gilmore, III
(Document No. 107 of the E-Commerce
Commission Document Library) ...0.0.0..0.0.0-.cccccoee-. 21
Proposal of Dean Andal, Vice Chairman of the
California State Board of Equalization
(Document No. 64 of the E-Commerce
Commission Document Library) «2.0.0.0... o-oo. 21
Tennessee Dep’t of Revenue Franchise and
Excise Tax Forms <http://www state. tn.us/
revenue/forms/fae/index.htm> 00.000... ooo cecccccce cece. 15
RESPONDENT’S BRIEF IN OPPOSITION
Respondent J.C. Penney National Bank (“JCPNB”) requests
that this Court deny the petition (“Pet.”) for writ of certiorari
filed by Ruth E. Johnson, Commissioner of Revenue, State of
Tennessee (the “Commissioner”), seeking review of the
decision of the Tennessee Court of Appeals entered in this case
on December 17, 1999.
STATEMENT
In her petition, the Commissioner asks this Court to
reconsider and overturn the bright-line standard that, for over
thirty-five years, has marked the outer limit of a state’s power
to tax interstate commerce. In the decision below, Tennessee’s
intermediate appellate court applied well-established
Commerce Clause principles, as most recently explained in
Quill Corp. v. Commissioner, 504 U.S. 298 (1992), and held |
unconstitutional a tax levied against an out-of-state taxpayer
that had no substantial nexus with Tennessee. The opinion is
a well-reasoned, unexceptional application of this Court’s
precedents.
This Court repeatedly has held that states may constitution-
ally tax only those out-of-state businesses that have a “substan-
tial nexus” with the state. An attempt to impose any tax upon
an out-of-state business that lacks this “substantial nexus”
unduly burdens interstate commerce in violation of the
Commerce Clause. See, e.g., Complete Auto Transit v. Brady,
430 U.S. 274 (1977); Commonwealth Edison Co. v. Montana,
453 U.S. 609, 626 (1981); Fulton Corp. v. Faulkner, 516 U.S.
325, 334 (1996). This Court has twice expressly held that, to
establish substantial nexus, an out-of-state business must have
a physical presence in the taxing state. National Bellas Hess,
Inc. v. Department of Rev. of Illinois, 386 U.S. 753 (1967);
Quill, 504 U.S. at 298. While Bellas Hess and Quill both
involved state sales and use taxes, every state tax that has
withstood this Court’s Commerce Clause scrutiny has involved
2
a taxpayer with a meaningful physical presence within the
taxing state.
In her petition, the Commissioner characterizes the decision
below as an aberration in the development of “contemporary
commerce clause jurisprudence” (Pet. 13), and asks this Court
to “reject such an unwarranted application of its precedents.”
(Pet. 11) Contrary to these claims, however, the decision
below is an unremarkable application of the “substantial nexus”
standard developed and applied by this Court in Quill,
Complete Auto, and many other cases. Indeed, the court below
noted that the Commissioner was “unable to provide any
authority” supporting a departure from this Court’s well-settled
definition of “substantial nexus.” (Pet. App. 18a-19a)
Applying this Court’s precedents, the court below held that
Tennessee could not tax JCPNB solely because the bank had
availed itself of economic markets in Tennessee exclusively
through use of the U.S. mail. (Pet. App. 29a)
STATEMENT OF THE CASE
1. JCPNB’S Business In Tennessee.
In 1983, J.C. Penney Company acquired the Harrington
National Bank and changed its name to J.C. Penney National
Bank. (Pet. App. 3a & n.1) JCPNB was a federally chartered
national banking association, was incorporated under the laws
of Delaware, and was separately incorporated from the J.C.
Penney Company. JCPNB’s principal place of business and
commercial domicile was Harrington, Delaware. (Pet. App.
3a-4a & n.2) JCPNB engaged primarily in credit card lending
and consumer banking by issuing VISA and MasterCard credit
cards and by offering banking services such as commercial and
consumer loans and savings and checking accounts.’ (Pet.
' JCPNB’s lending activities were limited to issuing “universal cards”
such as VISA and MasterCard, which are accepted at world-wide |
business locations. These credit cards are separate from the J.C.
3
App. 3a-4a) JCPNB ceased its banking operations on
December 17, 1997, sold all of its consumer banking and credit
card business in a variety of transactions over the course of the
following year, and dissolved on December 17, 1998.
Throughout its existence, JCPNB conducted all of its busi-
ness activities from its Delaware offices; “[n]one of the[se]
activities . . . occurred in the State of Tennessee.” (Pet. App.
6a) JCPNB had “no offices or other places of business in
Tennessee” and did not own or lease any tangible or intangible
property in Tennessee. (/d.) A majority of the bank’s direct-
ors, and all of its officers and employees, were located in
Delaware. (/d.)
JCPNB “outsourced” much of the work associated with its
credit-card business to other entities. In some cases, these
entities were related to JCPNB (such as the J.C. Penney
Company and Business Services, Inc.); in other cases they were
not (such as MBNA and SSBA).’ But in all cases, these
entities operated entirely outside of Tennessee. (Pet. App. 4a-
6a) The J.C. Penney Company retail stores in Tennessee
performed no credit-card solicitation or processing services for
or on behalf of JCPNB. In fact, consumers could neither apply
for, nor make payment on, JCPNB’s credit cards at the retail
stores because either activity would have violated federal law.
(Pet. App. 6a & n.6, 22a-23a)
Penney Company proprietary card, which is accepted exclusively at
J.C. Penney Company retail stores. JCPNB had no role in J.C.
Penney Company’s proprietary card activities. Similarly, J.C.
Penney Company’s retail stores had no role in JCPNB’s universal
card activities. (Pet. App. 4a & n.2; id. at 6a)
* These related-party contracts were negotiated and performed at
arm’s length, as required by federal banking law. Pet. App. 5a n.3;
see also Federal Reserve Act § 238, 12 U.S.C. § 37le-1.
4
2. Temnessee’s Franchise and Excise Tax.
Tennessee imposes a franchise and excise tax on financial
institutions “doing business” in Tennessee. Tenn. Code Ann.
§§ 67-4-806, 67-4-903. A financial institution is deemed to be
“doing business” in Tennessee if it “regularly solicits business
from potential customers” in Tennessee or “regularly engages
in transactions with customers in [Tennessee] that involve
intangible property, including loans, and result in receipts
- flowing to the taxpayer from within [Tennessee].” Tenn. Code
Ann. §§ 67-4-806(d)(2), 67-4-903(f}(2). Tennessee enacted
this financial institutions tax in 1990, seeking for the first time
to tax out-of-state financial institutions that had no physical
presence in the state, but that solicited business from Tennessee
consumers through the U.S. mail. The Tennessee legislature
simultaneously sought to tax the mail-order sales industry by
passing an amendment purporting to subject out-of-state
vendors who “regularly solicit” Tennessee consumers to state
use taxes, even though mail-order companies had no physical
presence in Tennessee and even though this Court had held in
National Bellas Hess, Inc. v. Department of Revenue of
Illinois, 386 U.S. 753 (1967), that states could not extend the
reach of their taxing powers so far. In Bloomingdale's By
Mail Lid. v. Huddleston, 848 S.W.2d 52 (Tenn. 1993), the
Tennessee Supreme Court, consistent with this Court’s Quill
decision, held that the legislature had over-stepped its taxing
authority.
JCPNB never filed an excise or franchise tax return with the
Tennessee Department of Revenue (the “Department”’), nor did
it ever pay excise taxes to Tennessee. In fact, JCPNB never
paid an excise or income tax to any state other than Delaware,
and JCPNB’s Delaware income tax liability was based upon
100% of its net income. (Pet. App. 8a)
The Department audited JCPNB for the period of
February 1990 through January 1994. On November 1, 1995,
the Department issued a $178,314 assessment to JCPNB,
5
which included $111,725 in franchise and excise taxes, $27,932
in penalties, and $38,657 in interest. The Department
calculated the assessment by applying a single-factor, gross
receipts apportionment formula applicable to financial
institutions. Tenn. Code Ann. §§ 67-4-815, 67-4-919: Pet.
App. 8a.’
3. The Proceedings Below.
In the trial court, the Chancellor concluded that JCPNB had
established a “meaningful physical presence” in Tennessee, and
thus had “substantial nexus,” chiefly because some JCPNB-
issued VISA and MasterCard credit cards were present in
Tennessee, and because JCPNB’s parent, the J.C. Penney
Company, operated retail stores in Tennessee. (Pet. App. 40a-
42a)
Tennessee’s intermediate appellate court reversed. It con-
cluded that this Court’s physical-presence standard for
“substantial nexus” could not be satisfied by the presence of the
credit cards in Tennessee, because “the real asset is the
intangible account which the card represents” and which was
“located, for tax purposes, in the State of Delaware.” (Pet.
App. 22a) The court also rejected the Chancellor’s holding
that a substantial nexus existed based on “the activities of the
* The standard apportionment formula applicable to out-of-state
corporations doing business in Tennessee is a three-factor formula
that compares the out-of-state corporation’s property, payroll, and
sales located or occurring in Tennessee to the out-of-state corpor-
ation’s property, payroll, and sales located or occurring elsewhere.
Tenn. Code Ann. §§ 67-4-811, 67-4-910. By contrast, financial
institutions such as JCPNB are subject to a single-factor apportion-
ment formula based exclusively on a comparison of the financial
institution’s gross receipts attributable to business activities con-
ducted in Tennessee and the gross receipts attributable to all of its
business activities conducted everywhere. Tenn. Code Ann. §§ 67-4-
815, 67-4-919.
6
affiliates and third parties working on JCPNB’s behalf” (Pet.
App. 23a) because the activities on which the Chancellor had
relied occurred entirely outside of Tennessee (Pet. App. 22a-
23a). Furthermore, the court held that the J.C. Penney
Company’s Tennessee retail stores could not create a sub-
stantial nexus between JCPNB and Tennessee because the
stores were unrelated to any aspect of JCPNB’s business. (/d.)
Instead, it held that an out-of-state bank that conducted a
credit-card business with Tennessee cardholders exclusively
through the U.S. mail lacked the “substantial nexus” that the
Commerce Clause requires for a state to assert its taxing
authority. (Pet. App. 26a) Accordingly, just as the Tennessee
Supreme Court struck down Tennessee’s unconstitutional mail-
order tax in Bloomingdale 's By Mail, the court below struck
down this related attempt to tax out-of-state banks connected
to Tennessee only by consumer solicitations through the U.S.
mail.
The Tennessee Supreme Court declined the Commissioner’s
application for discretionary review without comment. (Pet.
App. 29a)
REASONS FOR DENYING THE WRIT
I. THE TENNESSEE COURT OF APPEALS’
DECISION WAS A ROUTINE APPLICATION OF
THIS COURT’S PRECEDENTS THAT DOES NOT
CONFLICT WITH ANY DECISION OF THIS
COURT OR OF A STATE COURT OF LAST
RESORT
This is not an appropriate case for certiorari. The question
before the Tennessee Court of Appeals was whether the
Commerce Clause permits Tennessee to impose its franchise
and excise tax on an out-of-state financial institution that con-
ducted business with Tennessee residents exclusively through
the U.S. mail and that had established no direct or indirect
physical presence in Tennessee. The opinion below properly
7
considered and applied this Court’s precedents to find that
JCPNB had not established the “substantial nexus” required by
the Commerce Clause and, thus, that Tennessee could not tax
JCPNB. Accordingly, Petitioner presents no issue that war-
rants this Court’s plenary review.
A. The Decision Below Was Factbound And Did Not
Explicitly Apply a “Physical Presence” Rule
Tennessee’s intermediate appellate court did not even decide
the issue that the Commissioner has presented to this Court.
A careful reading of the decision below indicates that the court
did not explicitly adopt a “physical presence” test to determine
whether Tennessee may impose franchise and excise taxes on
an Out-of-state business. The court below recognized that
[t]he analysis in this area is necessarily done on a case-by-case
basis” and that “[t]here is no . . . specific point at which a
substantial nexus exists.” (Pet. App. 18a) Furthermore, it
expressly disclaimed deciding whether “physical presence” was
required, noting that “[it] is not our purpose to decide whether
‘physical presence’ is required under the Commerce Clause.”
(Pet. App. 25a) Instead, the court employed this Court’s
precedents—including, but by no means limited to, Quill and
Bellas Hess—as guideposts to “delineate that level of
‘presence’ in the State of Tennessee that will justify the
imposition of the types of taxes that are the subject of this
appeal.” (Pet. App. 18a) After considering all of the facts and
circumstances in the record, the court concluded that JCPNB
did not have a sufficient presence in—“nexus” to—Tennessee
to be subjected to the franchise and excise tax.
Contrary to the Commissioner’s assertion (Pet. 20), the
court below did not, in making its factbound analysis,
“unwittingly extend” Quill’s physical-presence test to the
franchise and excise taxes before it. The court merely
considered and rejected (Pet. App. 1la-12a, 17a-18a) the
Commissioner’s attempt to create a novel constitutional test
for substantial nexus that not only would have eliminated any
8
physical-presence requirement, but that also would have
replaced the Court’s “substantial nexus” Commerce Clause
jurisprudence with the “purposeful availment” standard that
defines Due Process Clause “minimum contacts,” see Burger
King Corp. v. Rudzewicz, 471 U.S. 462, 475 (1985). The
Commissioner urged below, and argues anew here, that
Tennessee should have the power to tax businesses that
“purposefully avail themselves of the market within
[Tennessee]” or that otherwise have “established continuing
business relationships with customers in [Tennessee] through
interstate commerce.” (Pet. 27-28) As the court below noted,
this test would “obliterate” (Pet. App. 18a) the
“fundamental[ ]” line that Quill drew between Due Process
“minimum contacts” and Commerce Clause “substantial nexus”
(504 U.S. at 305, 313) and would subject JCPNB to tax in any
state in which its account holders traveled and made credit-
card purchases.‘
* Consider the case of a Tennessee resident who purchases a meal
from a Chicago restaurant that deposits the credit card slip in its New
York merchant bank. In tum, the New York bank submits the credit
card slip to the Delaware bank that issued the credit card for
payment. Under the Commissioner’s test, each of Tennessee, Illinois,
New York and Delaware would have the authority to tax the
extension of credit—especially if the Delaware bank had other credit-
card customers in each of the foregoing states. See National
Geographic Soc'y v. California Bd. of Equalization, 430 U.S. 551,
558 (1977) (holding that once the taxpayer establishes nexus with the
taxing state, all of the taxpayer’s activities related to that state are
constitutionally taxable). Under the current physical-presence
standard, only Delaware could tax the interest income earned by the
Delaware bank from the credit card transaction (and, in fact, as noted
above, Delaware has imposed such a tax on 100% of JCPNB’s
income). As Part II below discusses more fully, Congress is best
qualified to weigh the myriad of policy issues associated with —
establishing a cohesive state-tax nexus regime.
9
Having rejected the Commissioner’s attempt to rewrite this
Court’s precedents, the court below reached its conclusions
without expressly adopting a “bright-line” physical-presence
standard. Instead, the court held that, regardless of the exact
level of “presence” required by the Commerce Clause, it
“fail[ed] to see the substantial nexus necessary to sustain the
tax.” (Pet. App. 26a) Thus, the fact-intensive analysis that
yielded the decision below falls well short of deciding the pure
legal issue that the Commissioner has presented to this Court
for review. Accordingly, this Court should deny the petition.
B. This Court Has Consistently Held That An Out-
Of-State Taxpayer Must Have a Substantial
Physical Presence Within the Taxing State to
Establish a “Substantial Nexus”
Even if the decision below had required physical presence
for “substantial nexus,” such a holding would be entirely
consistent with this Court’s Commerce Clause jurisprudence.
This Court has twice expressly held that “substantial nexus”
requires physical presence, National Bellas Hess, 386 U.S. at
753; Quill, 504 U.S. at 298, and every case that has upheld
nexus to tax has done so only where the taxpayer in fact had a
physical presence in the taxing state.
Cases decided by ‘his Court both before and after Quill have
made clear that a substantial nexus is required for the
imposition of any state tax on an out-of-state business. See,
e.g., Allied Signal, Inc. v. Director, 504 U.S. 768, 778 (1992)
(“The constitutional question in a case such as Quill Corp. is
whether the State has the authority to tax the corporation at
all.” (emphasis added)); Commonwealth Edison Co., 453 U.S.
at 626 (“Under this threshold test, the interstate business must
have a substantial nexus with the State before any tax may be
levied on it.” (emphasis in original)). Indeed, Quill itself did
not limit the physical-presence requirement to state sales and
use taxes; it merely observed that “we have not, in our review
of other types of taxes, articulated the same physical-presence
10
requirement that Bellas Hess established for sales and use
taxes.” 504 US. at 314.
The Commissioner has pointed to no Commerce Clause
decision of this Court that has found “substantial nexus” in the
absence of physical presence; indeed, in discussing the prior
decisions of this Court that are alleged to conflict with the
decision below, the Commissioner concedes that “there may
have been some form of physical presence in these instances.”
(Pet. 19) We are certainly aware of no case upholding state-
taxing nexus in the absence of physical presence, and
commentators have opined that no such case exists:
[In Quill], the Court nevertheless made it clear that the
nexus required under the Commerce Clause is more than the
minimum contacts/purposeful availment of a state’s market
that are sufficient to satisfy the modern Due Process Clause;
and at least to this point, “substantial nexus” sufficient to
satisfy the Commerce Clause has always involved some
degree of physical presence with the state.
Constitutional Limitations on Jurisdiction to Tax and the
Impact of Quill and Geoffrey, State Tax Notes, Aug. 7, 1995,
at 423 (emphasis added). ;
Certainly, this Court has never suggested that the meaning
of “substantial nexus” varies from one context to another, and
it would be strange indeed to do so. This shifting standard
would yield the bizarre result that a state could establish sub-
stantial nexus with an out-of-state taxpayer for one type of tax
but not for another. On the contrary, this Court has not hesi-
tated to apply “substantial nexus” principles derived in cases
involving sales and use taxes to cases involving other types of
state taxes. See, e.g., Tyler Pipe Indus., Inc. v. Washington
State Dep't of Rev., 483 U.S. 232 (1987) (relying on Scripto,
Inc. v. Carson, 362 U.S. 207 (1960)), which involved a state
use tax, to analyze whether a taxpayer had a substantial nexus
with a state that subjected it to a direct business tax).
1]
Moreover, this Court has never intimated that Quill’s definition
of “substantial nexus” applies only to sales and use taxes;
indeed, this Court has characterized the constitutional question
decided in Quill as “whether the state has the authority to tax
the corporation at all.” Allied Signal, 504 U.S. at 778
(emphasis added). This treatment is consistent with the
Court’s steadfast refusal to draw artificial distinctions among
various types of state taxes, which could cause their validity to
turn on “legal terminology” and “draftsmanship and
phraseology.” See Complete Auto Transit, 430 U.S. at 281.
The Commissioner’s position also would yield the bizarre
result that the Commerce Clause’s substantial-nexus test
imposes a rigorous physical-presence standard for a use-tax
collection obligation—an obligation which merely imposes
administrative burdens on the out-of-state company—but
allows direct taxation of an out-of-state bank’s net income and
net worth (and imposes administrative costs on the taxpayer)
under a much more relaxed and amorphous standard. Contrary
to the Commissioner’s submission, however, this Court has
expressly refused to distinguish jurisdiction to tax from
junsdiction to compel collection of taxes as agent for the state.
National Geographic Soc'y v. California Bd. of Equalization,
430 U.S. 551, 558 (1977); see also Quill, 504 U.S. at 319
(Scalia, J. concurring) (“As an original matter, it might have
been possible to distinguish between jurisdiction to tax and
junsdiction to compel collection of taxes as agent for the State,
but we have rejected that.”).
Although the court below pointed out that the
“Commissioner [was] unable to provide any authority as to
why the [substantial nexus] analysis should be different for
franchise and excise taxes” (Pet. App. 19a), she attempts in her
petition to make the case that direct income taxes are less
burden-some than use-tax collection obligations (Pet. 15). Her
attempt is far from compelling.
12
First, she does not account for the direct financial burdens
that income taxes place on the taxpayer beyond the associated
administrative costs. This Court itself has remarked that these
direct burdens and their associated risk of unconstitutional
multiple taxation make the case for striking down an income
tax imposed upon an out-of-state business even stronger than
the case for striking down the imposition of a mere use tax
collection obligation. See National Geographic Soc’y, 430
U.S. at 557-58; Standard Pressed Steel Co. v. Washington
Rev. Dep't, 419 U.S. 560 (1975).°
Second, notwithstanding her reliance upon the difference in
the number of filing jurisdictions for sales and use taxes, and
the relative administrative burdens associated with such taxes,
the Commissioner developed no record that would support this
“burden” argument below—an omission that would severely
handicap plenary review—and her submission on this point is
dubious in any event.°
Finally, the Commissioner has ignored the myriad of other
compliance burdens that multistate businesses face when pre-
paring and filing corporate net-worth and income-tax returns
> Indeed, the Tennessee statute imposes precisely that risk of multi-
ple taxation. JCPNB paid an income tax to the state of Delaware
based on 100% of its net income, yet Tennessee does not even
provide for a credit mechanism by which this multiple taxation
burden may be alleviated. Tenn. Code Ann. § 67-4-808; Pet. App.
8a. ;
© The Commissioner ignores the fact that, although there may be
filing requirements in 6,000-plus jurisdictions imposing sales and use
taxes, the sales and use tax rules are generally uniform among the
various filing jurisdictions in a given state. Thus, businesses must
contend only with about 50 sets of rules for and exemptions to the
use tax—approximately the same number of sets of rules for
determining net worth and income taxes owed to the various states.
(See Pet. at 15)
13
and paying the taxes shown thereon. The process of filing a
state income-tax return is far more complicated and burden-
some than simply applying a tax rate to the number shown as
federal taxable income on the corporation’s federal income-tax
return. Indeed, a treatise cited by the Commissioner devotes
approximately 800 pages to the legal principles and compliance
issues associated with state corporate income taxes.
Hellerstein & Hellerstein, State Taxation (3d ed. 1998).’ For
7 The following highlights only some of these numerous compliance
issues:
First, there is the threshold issue of identifying the taxpaying unit.
Affiliated groups filing consolidated income tax returns for federal
purposes must determine, with respect to each state, which of their
various member corporations are subject to tax in each state. Not
only may the affiliates with direct jurisdictional nexus vary from state
to state, but so also may the legal standards for determining both
nexus and those group members that are engaged in a unitary
business. See generally Hellerstein, supra, at 8-57 to 8-211. Ifa
corporation is part of a “unitary business” with its affiliates, many
states will include its income in the apportionable tax base for the
unitary group. The petition may provide the best evidence of the
convoluted analysis that every multistate business would have to
perform when determining whether the “economic presence” of the
business within the state is sufficient to subject it to a state’s taxing
jurisdiction. Even if the legal issues are clear, tax record keeping by
the overall group may be complicated by the varying sets of in-state
taxpayers. Moreover, if some affiliates are deemed outside the
state ’s taxing jurisdiction, transactions between the inside and outside
affiliates are subject to review under statutory provisions giving the
revenue administrator the power to reallocate income among
affiliated taxpayers if the administrator determines that the taxpayer
is inappropriately shifting income to other states. See, e.g., Tenn.
Code Ann. § 67-4-804(c).
Second, once the precise taxpaying unit is identified, taxpayers
must then determine the potential tax base that is within each state’s
14
these reasons, if there were to be different standards for
“substantial nexus” for different types of taxes, a taxpayer
should have a more substantial connection to a state to be
reach. States follow different income apportionment formulas—in
some cases, for example, giving extra weight to the sales factor to a
variety of degrees. See generally Hellerstein, supra, at 9-114 to 9-
258. For example, New York double weights the sales factor for
regular tax (but not for minimum tax) purposes; Illinois, Connecticut,
Kentucky, Massachusetts, Ohio and Tennessee, among others, simply
double-weight the sales factor; and Minnesota’s three-factor formula
is weighted 70-15-15 in favor of sales. Some states, including
Tennessee, single out financial institutions for special apportionment
formulas. See generally id. In Tennessee, a single factor sales
formula is used for financial institutions. Tenn. Code Ann. § 67-4-
815. Even where the formulas are facially the same, their precise
meaning may differ from state to state. As an example, the
includability, and if includable, the location, of intangible property
and the income derived from such property under what appear to be
identical formulas vary widely from state to state.
Third, income tax compliance involves applying the rules for
determining taxable income once the potential tax base is known.
Contrary to the Commissioner’s argument, it is in the sales and use
tax area where determination of the tax is simply a matter of
multiplying gross receipts by the sales tax rate. States’ rules for
computing taxable income, however, vary from the federal rules and
from each other in significant respects. For example, California and
New York have their own depreciation systems for business property.
All property subject to these systems therefore has a different basis
and, as a result, a different amount of gain or loss upon disposition.
Tennessee itself has modified federal depletion rules, federal
charitable contribution rules, rules with respect to interest earned on
certain municipal bonds, federal capital loss and net operating loss
carry forwards, certain federal depreciation allowances related to
leasing transactions, and federal accounting for bad debt reserves.
See Tenn. Code Ann. § 67-4-805.
15
subject to an income tax because there is in that situation a
higher potential to burden interstate commerce.
This Court has noted on several occasions that “our law in
this area is something of a ‘quagmire’ and its ‘application of
constitutional principles to specific state statutes leaves much
room for controversy and confusion and little in the way of
precise guides to the states in the exercise of their indispensable
power of taxation.” Quill, 504 U.S. at 315-16 (citing
Northwestern States Portland Cement Co. v. Minnesota, 358
U.S. 450, 457-458 (1959)). Indeed, Quill concluded that,
despite some “artificial[ity] at its edges,” the “bright-line
[physical presence] rule . . . furthers the ends of the dormant
Commerce Clause” by “firmly establish[ing] the boundaries of
state authority” to tax and “reduc[ing] litigation concerning
those taxes.” 504 U.S. at 314-15. The benefits of certainty
and predictability in the administration of state taxing statutes,
and the resulting reduction in litigation, are at least as worthy |
of protection in the context of state franchise and excise taxes
as in the context of state sales and use taxes. As further noted
in Quill, this consistency “encourages settled expectations, and
in doing so, fosters investment by businesses” such as JCPNB
that are confronted with a plethora of state taxing schemes. Jd.
at 316.
By contrast, the Commissioner’s “economic presence” test
for state income and net worth taxes would result in different
As further proof of the complexity of state franchise and excise tax
issues, one need only compare the Tennessee sales and use tax return,
which consists of two pages, with the Tennessee franchise and excise
(“F&E”) tax return, which consists of ten pages. Furthermore,
financial institutions and their unitary affiliates must file a special
Tennessee F&E Tax Return that similarly consists of ten pages. See
Tennessee Dep’t of Revenue Franchise and Excise Tax Forms
(visited Aug. 31, 2000) <http://www-:state.tn.us/revenue/forms/fae/
index.htm>.
16
tests for the same “substantial nexus” standard—one applicable
to sales and use taxes, another for state income and net worth
taxes. This test would only further confuse this area of the
law. The Commissioner’s murky “I know nexus when I see it”
standard would introduce significant uncertainty—and
protracted litigation—into this otherwise well-settled area.
C. No Conflict Exists Among State Courts of Last
Resort Regarding a State’s Power to Subject an
Out-of-State Taxpayer to a State Income Tax
Contrary to the Commissioner’s claims, state courts have
not, in the wake of Quill, “fallen into disarray” (Pet. at 21)
concerning the proper standard for evaluating substantial nexus
under the Commerce Clause in the context of other state taxes.
Only two state courts of last resort—not, importantly,
including the decision of Tennessee’s intermediate appellate
court below—have specifically addressed Quill’s application to
other types of state taxes. These two decisions, by the
Commissioner’s own admission (Pet. App. 21a-22a), do not
“conflict” with one another, so there is no conflict among state
courts of last resort. See S. Ct. Rule 10(b). Moreover, the
Commissioner’s asserted “obviou[s] . . . direct conflict” (Pet.
at 22) between those two decisions and the decision below
dissolves upon examination.
The Commissioner relies (id.) on dicta from Couchot v.
State Lottery Commission, 659 N.E.2d 1225 (Ohio 1996), in
which the Supreme Court of Ohio mused that this Court had
affirmatively limited the physical-presence substantial nexus
standard to sales and use taxes. However, as the Ohio
Supreme Court noted, the peculiar facts in that case did
demonstrate physical presence: A Kentucky resident
purchased a winning Ohio lottery ticket in Ohio. Not
surprisingly, the court held that the Ohio lottery winnings were
subject to Ohio income taxation: “Couchot played the Ohio
lottery. He purchased his winning ticket in Ironton and
redeemed it in Columbus. The entire income received by
17
Couchot .. . is directly related to his physical presence in
Ohio.” Jd at 1230. Thus, the taxpayer’s physical presence in
Ohio satisfied Quill’s standards. Id®
In Geoffrey, Inc. v. South Carolina Tax Commissioner, 437
S.E.2d 13 (S.C. 1993), the South Carolina Supreme Court
summarily concluded, in two brief paragraphs, that “[i]t is well
settled that the taxpayer need not have a tangible, physical
presence in a state for income to be taxable there. The
presence of intangible property alone is sufficient to establish
nexus.” Jd. at 18 (emphases added).? The South Carolina
court thus relied upon a standard of “intangible” physical
presence to force-fit its case within the “substantial nexus”
standard of Quill; it concluded that the taxpayer had
established a presence in South Carolina through its licensees’
substantial use of a license and trademark within the state,
which gave its property a business situs or “presence” in South
Carolina sufficient to establish “substantial nexus.” /d. at 16-
17. But that holding does not conflict with the Tennessee
* The Commissioner’s characterization of the Illinois intermediate
appellate court decision in Borden Chemicals and Plastics, L.P. v.
Zehnder, 726 N.E.2d 73 (Ill. App. Ct. 2000), is similarly flawed.
Borden involved an Illinois operating limited partnership and an out-
of-state limited partner. Finding that the operating partnership was
an “agent or conduit” through which the out-of-state limited
partnership’s income passed, the court concluded that the limited
partnership had a physical presence in Illinois. Jd. at 80.
° The authority on which the South Carolina Supreme Court relied
for these supposedly “well-settled” principles was a dubious line of
pre-Quill intermediate appellate court cases from New Mexico and
this Court’s decision in Jnternational Harvester Co. v. Wisconsin
Department of Taxation, 322 U.S. 435 (1944). These pre-Quill
cases, however, applied the minimal Due Process nexus standard and
never considered the higher hurdle imposed by the Commerce Clause
in light of the Quill principles discussed above.
18
courts’ holdings below: Here, the trial court found that the
“situs of JCPNB’s intangible property is located in Delaware”
(Pet. App. 41a), and the Commissioner did not challenge that
finding on appeal. Thus, whatever flaws the Geoffrey opinion
may have had, its “intangible physical presence” holding
presents no conflict with the decision below.
Contrary to the Commissioner’s view of this area of the law,
the state courts have consistently held that some meaningful
physical presence must be established by an out-of-state
taxpayer to subject it to a state’s taxing jurisdiction for income-
based taxes as well as collection obligations. In addition to
Couchot and Geoffrey, see Cerro Copper Products, Inc. v.
State of Alabama, F. 94-444 (Admin. Law Div. 12/11/95)
(Alabama franchise tax); Magnetek Controls, Inc. v.
Department of Treasury, 562 N.W.2d 219 (1997) (Michigan
single business tax); Guardian Indus. Corp. v. Department of
Treasury, 499 N.W.2d 349 (1993) (same); Rylander v. Bandag
Licensing Corp., 18 S.W.3d 296 (Tex. App. 2000) (Texas
franchise tax). Like the court below, none of these courts has
distinguished sales and use taxes on the one hand, and other
forms of state taxes on the other, in a way that would justify
the radically different constitutional “substantial nexus” tests
for each proposed by the Commissioner here."°
'° The Texas Court of Appeals in Bandag summed up the issue in
words generally appropriate to this case:
The term “substantial nexus” is a term of art. In the context of
sales and use taxes, the Supreme Court has held that the term re-
quires a physical presence in the taxing state when the vendor’s
only activity within the state is interstate communication with its
customers via common carrier and the United State mail. See
Quill Corp., 504 U.S. at 311, National Bellas Hess, Inc. v
Department of Revenue, 386 U.S. 753, 758, 87 S. Ct. 1389, 18
L. Ed. 2d 505 (1967). BLC is not physically present in Texas.
The Comptroller argues, however, that Quill Corp. and Bellas
19
In sum, there is no conflict, and certainly no “disarray,”
among the lower courts that warrants certiorari review.
Il. THERE IS NO OTHER COMPELLING BASIS FOR
THIS COURT’S REVIEW
As shown in Part I above, the Commissioner has failed to
demonstrate a conflict between this Court’s prior decisions,
prior state-court decisions, and the decision of the Tennessee
Hess should be limited to the context of sales and use taxes and
that the benefit BLC derives from its possession of a certificate of
authority—the opportunity to do business in Texas under the
state’s protection regardless of whether it chooses to exercise that
privilege—constitutes the necessary “substantial nexus.” The
Supreme Court, however, addressed the flaw in this argument by
stating that “there is no economic consequence that follows
necessarily from the use of the particular words ‘privilege of
doing business’, and a focus on that formalism merely obscures
the question whether the tax produces a forbidden effect” under
the Commerce Clause. Complete Auto, 430 U.S. at 288.
Although written in the context of sales and use taxes, Quill Corp.
and Bellas Hess do not purport to apply a standard other than the
“substantial nexus” test applied in Complete Auto to a “privilege
of doing business” tax in Mississippi.
Like BLC in the present case, the sole activity the foreign
corporations in Quill Corp. and Bellas Hess conducted was by
interstate cCommerce—communication by United States mail and
common carriers. While the decisions in Quill Corp. and Bellas
Hess involved sales and use taxes, we see no principled distinction
when the basic issue remains whether the state can tax the
corporation at all under the Commerce Clause. As construed in
Quill Corp. and Bellas Hess, when the corporation conducts its
activity solely through interstate commerce and lacks any physical
presence in the state, no sufficient nexus exists to permit the state
to assess tax.
18 S.W.3d at 299-300.
20
intermediate appellate court below. That should be enough to
deny review. But there is an additional, and independent,
reason that certiorari should not be granted here: This Court’s °
intrusion would be particularly inappropriate at this time, when
Congress is actively reviewing this area of state taxation of
interstate commerce.
One of the fundamental reasons that this Court adopted and
reaffirmed the bright-line physical-presence test in Bellas Hess
and Quill was its recognition that “the underlying issue is not
only one that Congress may be better qualified to resolve, but
also one that Congress has the ultimate power to resolve”
because “Congress has the plenary power to regulate com-
merce among the states.” Quill, 504 U.S. at 305. Indeed, in
the years leading up to Quill, Congress had considered and
consistently rejected legislation that would “overrule” Bellas
Hess. See id. at 318. In Quill, this Court removed the Due
Process Clause nexus impediment to state taxation (which
could not have been altered by Congress), and left in place the
Commerce Clause’s “substantial nexus” requirement (which
could be altered by Congress). By doing so, the Quill Court
invited Congress to intervene, stating that “Congress is now
free to decide whether, when and to what extent the States may
burden interstate mail-order concerns with a duty to collect use
taxes.” Id.
In fact, since Quill, Congress has considered and debated
numerous legislative proposals, which only underscores the
fact that adjusting the allowable burdens on interstate
commerce involves delicate policy decisions and coordinated
efforts among interested parties that are far more suited to
congressional, rather than judicial, action and that have an
impact far beyond the mail-order use-tax-collection context.
The fact that those extensive efforts have not yet resulted in
enacted law is understandable, however, since the Quill
decision came just as the Internet, and “e-commerce,” was
emerging onto the national (and international) scene. This new
21
commercial medium has presented Congress with new and
complex issues to consider in the context of state-taxation
nexus, and Congress has approached that subject with
appropriate care and deliberation. In fact, Congress has
become so alarmed at state efforts to push the constitutional
envelope and expand their taxing jurisdiction into this area that
it has imposed a three-year moratorium on “Internet related”
taxes, during which the Advisory Commission on Electronic
Commerce (“ACEC”) will study this and related issues and
make its recommendations. See Internet Tax Freedom Act of
1998, Pub. L. No. 105-277. While the primary focus of that
Act is the Internet, the ACEC was created to study a wide
variety of tax issues, including, among other options, the
adoption of a uniform nexus standard for ail taxes (income
taxes, as well as sales and use taxes). Accordingly, the
appropriate boundaries of state taxing jurisdiction are receiving
a significant amount of national attention and careful study in
the political branches, with many of the leading proposals
urging a single nexus standard for all taxes."
"' See, e.g., Proposal of Governor James S. Gilmore, III (Document
No. 107 of the E-Commerce Commission Document Library located
at www.ecommercecommission.org, which would adopt a physical
presence standard for income and for sales and use taxes); Proposal
of Dean Andal, Vice Chairman of the California State Board of
Equalization (Document No. 64, which suggests the adoption of a
“substantial physical presence” nexus standard for all state and local
taxes). For other examples of Congress’ ongoing efforts in this area,
see, e.g., $.1825, 103d Cong. (1994) (authorizing collection of ©
certain state and local taxes with respect to the sale, delivery, and use
of tangible personal property); $.545, 104th Cong. (1995) (same);
H.R. 3039, 104th Cong. (1996) (proposing a national sales tax to be
administered primarily by the states); Internet Tax Freedom Act,
S.442, 105th Cong. (1998) (to impose a moratorium on new,
multiple, or discriminatory state taxes on the Internet); Internet
Nondiscrimination Act of 2000, H.R.3079, $.2028, & $.2255, 106th
Cong. (2000) (to extend the Internet Tax Freedom Act until
22
What all of this demonstrates is that any conceivable
confusion regarding the Commerce Clause’s “substantial
nexus” standard can be, and is likely to be, resolved by
Congress in the near term. This Court should not accept the
Commissioner’s invitation to insinuate itself into the middle of
this national debate, for such judicial intervention would surely
stall the ongoing legislative efforts to develop a national nexus
standard for all types of taxes. “In this situation, it may be that
‘the better part of both wisdom and valor is to respect the
judgment of the other branches of the Government.” Quill,
504 U.S. at 318-19 (quoting Commonwealth Edison Co., 453
U.S. at 637-38 (White, J. concurring)).
October 21, 2006); Internet Tax Reform and Reduction Act of 2000,
H.R. 4267, 106th Cong. (2000) (to adopt certain recommendations
of the ACEC); Internet Tax Simplification Act of 2000, H.R.4460,
106th Cong. (2000) (to adopt certain recommendations of the
ACEC); New Economy Tax Simplification Act, $.2401, 106th Cong.
(2000) (to adopt, based upon Quill, a uniform jurisdictional standard
for nexus from Internet related business activities); Internet Tax
Elimination Act, H.R.3252, 106th Cong. (2000) (to make the Internet
a tax-free zone); Fair and Equitable Interstate Tax Compact
Simplification Act of 2000, H.R.4462, 106th Cong. (2000) (to
facilitate the states’ creation of a streamlined sales tax collection
system); Internet Tax Moratorium and Equity Act, $.2275, 106th
Cong. (2000) (to extent the Internet Tax Freedom Act moratorium
and promote the adoption of state sales tax simplification measures);
Interstate Use Tax Collection: Hearing Before the Senate
Committee on Small Business, 103d Cong. (1994); Internet
Taxation in the New Millenium: Hearing Before the Senate Budget
Committee, 106th Cong. (2000).
23
CONCLUSION
For these reasons, the Commissioner’s petition for writ of
certiorari should be denied.
Respectfully submitted,
MICHAEL D. SONTAG
(Counsel of Record)
BRYAN W. METCALF
BASS, BERRY & SIMS, PLC
315 Deaderick Street, Suite 2700
Nashville, Tennessee 37238
(615) 742-6200
Counsel for Respondent
September 7, 2000
This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.