WENTWORTH, J.
Columbia Sportswear USA Corporation challenges the Indiana Department of State Revenue's assessment of adjusted gross income tax (AGIT) for the 2005, 2006, and 2007 tax years (the "years at issue"). The matter is currently before the Court on the parties' cross-motions for summary judgment.
The following facts are not in dispute. Columbia Sportswear, an Oregon corporation, was formed in October of 2003 to sell and distribute throughout the United States, including Indiana, the sporting/hiking apparel, footwear, and related accessories/equipment (collectively, "Products") of its parent, Columbia Sportswear Company, Inc. (CSC), and its affiliate, Mountain Hardwear, Inc. (See Second Stipulation of Facts ("Second Stip.") ¶¶ 3-12; Pet'r Des'g Evid., App. E at 661 ¶¶ 32-34.) CSC engaged an independent accounting firm to conduct a Transfer Pricing Study to determine arm's-length pricing for its and Mountain Hardwear's 2005, 2006, and 2007 sales of the Products to Columbia Sportswear (the "Intercompany Transactions"). (See Second Stip. ¶ 16, Exs. 19-21; Pet'r Des'g Evid., App. F at 879-80 ¶¶ 27, 29.)
During each of the years at issue, Columbia Sportswear filed an Indiana corporate AGIT return on a separate company basis reporting that it was entitled to an overpayment credit. (See First Stipulation of Facts ("First Stip.") ¶ 1, Exs. 2-4). In August 2008, Columbia Sportswear filed two amended returns that requested a refund of AGIT paid for the 2005 and 2006 tax years only. (See First Stip. ¶ 2, Exs. 6-7.) The Department subsequently audited Columbia Sportswear and determined that it needed to adjust Columbia Sportswear's net income pursuant to Indiana Code § 6-3-2-2(l)(4) and Indiana Code § 6-3-2-2(m) because the Intercompany Transactions had distorted Columbia Sportswear's Indiana source income. (See First Stip. 3-4, Ex. 8 at 7-10.) On September 24, 2010, the Department issued Proposed Assessments for the years at issue to Columbia Sportswear, assessing it with an additional $948,369.69 in AGIT, penalties, and interest. (See First Stip. ¶¶ 5-6, Exs. 9-11.) Columbia Sportswear protested, and after conducting a hearing, the Department issued its final determination upholding the assessments of additional AGIT and interest only. (See First Stip. ¶¶ 7-8, Exs. 12-13.)
On April 28, 2011, Columbia Sportswear initiated an original tax appeal. On March 5, 2013, the Department filed its motion for summary judgment and designated, among other things, the Proposed Assessments as evidence. On April 22, 2013, Columbia Sportswear filed a cross-motion for summary judgment. The Court held a hearing on the parties' motions on July 31, 2013. Additional facts will be supplied as necessary.
Summary judgment is proper when the designated evidence demonstrates that no genuine issues of material fact exist and the moving party is entitled to judgment as a matter of law. Ind. Trial Rule 56(C). When the Department moves for summary judgment, it may make a prima facie case that there is no genuine issue of material fact regarding the validity of an unpaid tax by properly designating its proposed assessments as evidence. Indiana Dep't of
Each corporate taxpayer with Indiana adjusted gross income derived from sources within Indiana is required to report its AGIT liability on a separate company basis. IND.CODE § 6-3-2-1(b) (2005) (amended 2011); see also Kohl's Dep't Stores, Inc. v. Indiana Dep't of State Revenue, 822 N.E.2d 297, 301 (Ind.Tax Ct.2005). The computation of this liability "begins with federal taxable income, to which [the] taxpayer makes expressly enumerated adjustments under Indiana Code § 6-3-1-3.5(b)[.]" Indiana Dep't of State Revenue v. Caterpillar, Inc., 15 N.E.3d 579, 581 (Ind.2014).
Upon determining its Indiana tax base in this manner, a taxpayer doing business in more than one state must next determine what portion of its adjusted gross income is derived from sources within Indiana. See I.C. § 6-3-2-1(b). This determination requires the taxpayer to apply the applicable allocation and apportionment rules set forth in Indiana Code § 6-3-2-2(a)-(k) (the "Standard Sourcing Rules"). See IND.CODE § 6-3-2-2(a)-(k) (2005) (amended 2006). See also RAC II, 963 N.E.2d at 465. The Standard Sourcing Rules provide that a taxpayer's "business income is apportioned between Indiana and other states using a three-factor formula,
In the event that the Department determines, as it has here, that the use of the Standard Sourcing Rules does not fairly reflect the taxpayer's Indiana source income, it may apply one of the alternative allocation and apportionment methods under Indiana Code § 6-3-2-2(l) through (p) (the "Alternative Apportionment Rules"). See I.C. § 6-3-2-2(l)-(p). The Department will, however, only
45 IND. ADMIN. CODE 3.1-1-62 (2005). See also Twentieth Century-Fox Film Corp. v. Dep't of Revenue, 299 Or. 220, 700 P.2d 1035, 1039 (1985) (stating that "some alternative method must be available to handle the constitutional problem[s] as well as the unusual cases" (citing William J. Pierce, The Uniform Division of Income for State Tax Purposes, 35 Taxes 747, 781 (1957))).
Columbia Sportswear, in response to the Department's prima facie case that its assessments are correct, contends that the Department's adjustments were improper because neither Indiana Code § 6-3-2-2(l)(4) nor Indiana Code § 6-3-2-2(m) authorized the Department to increase its net income tax base for purposes of assessing Indiana AGIT.
The undisputed material facts establish that the Department sought to "adjust the business income [of Columbia Sportswear that would] be apportioned to Indiana ... [to] give a more realistic view of the income and expense figures of the entire [consolidated] group[.]" (First Stip., Ex. 8 at 9.) The Department's adjustments consisted of the following steps:
(See First Stip., Ex. 8 at 6-9.) Thereafter, the Department did not recalculate Columbia Sportswear's apportionment percentage, but instead, applied the original apportionment percentage from its Indiana AGIT returns to the applicable Step 3 amount. (Compare First Stip., Ex. 2 at 1, line 15(d), Ex. 3 at 1, line 15(d), and Ex. 4 at 1, line 15(d) with Ex. 8 at 12-14.)
The Department maintains that Indiana Code § 6-3-2-2(l)(4) authorized its adjustments because it merely "allocated" back the sales that Columbia Sportswear improperly sent away from Indiana to ensure that the Department had "an accurate starting point" for determining Columbia
During the years at issue, Indiana Code § 6-3-2-2(l)(4) provided that:
I.C. § 6-3-2-2(l)(4). "When income is allocated, it is deemed to come in its entirety from a particular state, thereby making that income taxable by only one state." Hunt, 709 N.E.2d at 772, n. 15. "When income is apportioned, it is divided for tax purposes among the various states in which the taxpayer receives such income." Id. (citation omitted). Thus, the concepts of allocation and apportionment under Indiana Code § 6-3-2-2(l)(4) involve the division of the tax base among the states, not the computation of the tax base itself.
The Uniform Division of Income for Tax Purposes Act ("UDITPA") supports this conclusion. UDITPA was drafted in the mid-1950s to "`promote uniformity in allocation practices among the states that impose tax on or measured by the net income of a corporation.'" May, 749 N.E.2d at 656-57. As such, Professor William J. Pierce, UDITPA's principal drafter, has explained that this uniform rule "assumes that the existing state legislation has defined the base of the tax and[, thus,] the only remaining problem is the amount of the base that should be assigned to the particular taxing jurisdiction." (Pet'r Des'g Evid., Ex. H at 1015-16 (emphasis omitted).) Thus, UDITPA "does not deal with the problem of ascertaining the items used in computing income or the allowable items of expense." (Pet'r Des'g Evid., Ex. H at 1015-16.)
Indiana has not formally adopted UDITPA. May, 749 N.E.2d at 656. Nevertheless, the allocation and apportionment provisions of Indiana Code § 6-3-2-2 generally follow the provisions of UDITPA, which the Department's regulations expressly recognize. See 45 Ind. Admin. Code 3.1-1-37 (2005). In fact, Indiana Code § 6-3-2-2(l) uses nearly the same language as Section 18 of UDITPA. Compare, e.g., I.C. § 6-3-2-2(l) with (Pet'r Des'g Evid., Ex. H at 1015.) Specifically, Indiana Code § 6-3-2-2(l) provides:
I.C. § 6-3-2-2(l). By comparison, Section 18 of UDITPA provides:
(Pet'r Des'g Evid., Ex. H at 1015.) Accordingly, the plain language of Indiana Code § 6-3-2-2(l), like that of Section 18 of UDITPA, "deals only with the question of the fairness of the [allocation or apportionment] of income, not with the determination of the tax base itself." (See Pet'r Des'g Evid., Ex. H at 1015.)
Finally, the method by which a corporate taxpayer computes its Indiana AGIT liability also supports the conclusion that the concepts of allocation and apportionment under Indiana Code § 6-3-2-2(l)(4) solely involve dividing the tax base among the states, not computing the tax base. As stated above, Indiana's AGIT liability calculation begins with federal taxable income ("FTI"): specifically, a corporate taxpayer first transfers the amount of its FTI from line 28 of its federal income tax return (Form 1120) to the state tax return (IT-20) as the starting point for its Indiana liability calculation. See IND.CODE § 6-3-1-3.5(b) (2005) (amended 2006). (Compare also, e.g., First Stip., Ex. 2 at 13 (Columbia Sportswear's Federal Pro Forma)
The effect of each of the Department's audit adjustments was to increase Columbia Sportswear's Indiana net income tax base by approximately $100,000,000 for each of the years at issue,
During the years at issue, Indiana Code 6-3-2-2(m) provided that:
I.C. § 6-3-2-2(m). This language is nearly identical to the language of IRC § 482, indicating that both have a similar purpose. See, e.g., Rent-A-Center E., Inc. v. Indiana Dep't of State Revenue (RAC III), 42 N.E.3d 1043, 1049-51 (Ind.Tax Ct.2015), petition for review filed. The purpose of IRC § 482, and accordingly Indiana Code § 6-3-2-2(m), is "to ensure that taxpayers clearly reflect income attributable to controlled transactions and to prevent the avoidance of taxes with respect to such transactions." See 26 C.F.R. § 1.482-1(a)(1) (2015). A transfer pricing study done in accordance with IRC § 482 and its associated regulations provides evidence of a range of pricing for intercompany transactions between related entities that is similar to the pricing of comparable transactions between unrelated third parties (i.e., arm's-length pricing). See generally, e.g., 26 C.F.R. § 1-1482-1; 26 C.F.R. § 1.482-3 (2015). This arm's-length standard is relevant for evaluating whether intercompany transactions are inappropriate tax avoidance mechanisms that distort the true generation of income in various jurisdictions for both federal and state tax purposes. See, e.g., RAC III, 42 N.E.3d at 1049-52. In fact, Indiana's Legislature has acknowledged the value of this arm's-length standard by expressly incorporating IRC § 482 and its associated regulations
If the Standard Sourcing Rules do not fairly reflect a taxpayer's Indiana source income, Indiana Code § 6-3-2-2(m) authorizes the Department to adjust intercompany expense deductions that reduce a taxpayer's Indiana tax base, such as deductions for the costs of goods sold to an affiliate. See I.C. § 6-3-2-2(m). The Department claims, therefore, that its adjustments to Columbia Sportswear's net income tax base were authorized by Indiana Code § 6-3-2-2(m). (See, e.g., Resp't Reply Br. at 8.) Indeed, the Department maintains that Columbia Sportswear's state tax treatment of its Intercompany Transactions improperly "reduced [its] profit by almost two-thirds" because CSC and Mountain Hardwear purchased the Products from independent foreign manufacturers and then resold them to Columbia Sportswear "at an inflated price[.]" (See Resp't Reply Br. at 2; First Stip., Ex. 8 at 7.) The Department points out that Columbia Sportswear's net income must be distorted because the consolidated group's effective tax rate decreased from 33.6% in 2006 to 30.6% in 2007 despite the fact that its net sales increased by at least 5% during each of the years at issue, its gross profit increased from 42.0% in 2006 to 42.8% in 2007, and its net income increased from $123.0 million in 2006 to $144.5 million in 2007. (See Resp't Br. at 2 (citing Resp't Des'g Evid., Exs. B at 25, C at 25, Ex. D at 25-26).)
Columbia Sportswear, in response, presented three Transfer Pricing Studies as evidence that its Intercompany Transactions were conducted at arm's-length rates and, therefore, its Indiana source income was fairly reflected under the Standard Sourcing Rules. (See Pet'r Br. at 17, 21-22, 30-32; Second Stip., Exs. 19-21.) Columbia Sportswear also maintains that its Indiana source income was fairly reflected because "[m]ost of the value inherent in the Products [was] derived from [CSC and Mountain Hardwear's out-of-state] research, design, sourcing, manufacturing, and advertising activities[,]" and not derived from Columbia Sportswear's in-state distribution and sale activities as evidenced by, among other things, the Transfer Pricing Studies. (See Pet'r Br. at 26-29 (citing Pet'r Des'g Evid., App. E at 657 ¶ 11, 662-69 ¶¶ 37-42, 45-46, 48-56, App. F. at 876-77 ¶¶ 14-16).)
The Department counters, however, that these Transfer Pricing Studies do not rebut its prima facie case that its assessments are correct because:
(See Resp't Reply Br. at 5-6 (citing Pet'r Des'g Evid., App. D, Ex. 19 at 331); Hr'g Tr. at 90-92.) The Department's arguments fail for the following two reasons.
First, the Court has recently addressed the Department's first two arguments and found them unpersuasive. See RAC III, 42 N.E.3d at 1049-52. The Court will not restate its RAC III rationale here, but incorporates it by reference. See id.
Second, the disclaimers in Columbia Sportswear's Transfer Pricing Studies state:
(See, e.g., Pet'r Des'g Evid., App. D, Ex. 19 at 331.) Both the above language in the Transfer Pricing Studies and the affidavit of the economist that prepared them indicate that this standard disclaimer is provided to "limit [the accounting firm's] professional responsibility to only the question of whether ... the purchase price paid between related entities satisfies the requirements of [IRC § 482]." (See Pet'r Des'g Evid., App. G at 966-67 ¶¶ 27, 30.) Therefore, the Court is not persuaded that the disclaimers render the Transfer Pricing Studies irrelevant to the issue of whether Columbia Sportswear's income is fairly reflected under the Standard Sourcing Rules.
In this case, the Department's Trial Rule 30(B)(6) witness testified that the Department did "not take exception to" the comparable profits method that was utilized in the Transfer Pricing Studies because that method is "generally accepted... [by] everybody." (See Pet'r Des'g Evid., App. H, Ex. 46 at 1009-10.) The Department has neither subsequently alleged nor provided designated evidence to show that Columbia Sportswear's Transfer Pricing Studies are invalid or unreliable because they failed to comply with IRC § 482 and its related regulations. (See generally Resp't Br.; Resp't Reply Br.; Hr'g Tr.) Rather, the Department merely alleged that the Standard Sourcing Rules must have distorted Columbia Sportswear's Indiana source income because of the "big variance" between the percentages of gross profit for the consolidated group in comparison to Columbia Sportswear. (See First Stip., Ex. 8 at 6-7; Pet'r Des'g Evid., App. H, Ex. 45 at 1004-05.) (See also Hr'g Tr. at 23-24 (where the Department states the determination of whether a taxpayer's Indiana source income is distorted involves "something of a common sense test[ or] a gut feeling approach").) The Department's allegation, however, is insufficient to entitle it to judgment as a matter of law. See C & C Oil Co. v. Indiana Dep't of State Revenue, 570 N.E.2d 1376, 1379-80 (Ind.Tax Ct.1991) (providing that while suppositional musings create hypothetical, hypothetical do not create genuine issues of material fact); Herb v. State Bd. of Tax Comm'rs, 656 N.E.2d 890, 893 (Ind.Tax Ct.1995) (stating that "[a]llegations, unsupported by factual evidence, remain mere allegations"). The designated evidence establishes that Columbia Sportswear's Intercompany Transactions were conducted at arms-length rates and, therefore, the Standard Sourcing Rules fairly reflected Columbia Sportswear's Indiana source income for purposes of Indiana Code § 6-3-2-2(m). Accordingly, the Department was not authorized to make its adjustments under Indiana Code § 6-3-2-2(m), and it is not entitled to summary judgment on this basis either.
Finally, even if the Court assumed that the Standard Sourcing Rules distorted Columbia Sportswear's Indiana source income for purposes of Indiana Code § 6-3-2-2(m), the Department's summary judgment claim would still fail because its adjustments to Columbia Sportswear's net income tax base were unreasonable. Specifically, the Department has explained
The Department is an administrative agency and may exercise only those powers expressly or impliedly conferred by the General Assembly. See IND.CODE § 6-8.1-2-1 (2005); Auburn Foundry, Inc. v. State Bd. of Tax Comm'rs, 628 N.E.2d 1260, 1263 (Ind.Tax Ct.1994). Any ambiguous grants of power, therefore, must generally be resolved against the Department. See Gary Cmty. Sch. Corp. v. Indiana Dep't of Local Gov't Fin., 15 N.E.3d 1141, 1146 (Ind.Tax Ct.2014). In this case, the Department's reliance on Indiana Code § 6-3-2-2(l)(4) was improper because that statute permits the Department to use only methods that divide the tax base, not methods that recalculate the tax base. The Department's reliance on Indiana Code § 6-3-2-2(m) was also improper because the designated evidence simply does not show that the Standard Sourcing Rules failed to fairly represent Columbia Sportswear's Indiana source income. Finally, even if Columbia Sportswear's Indiana source income was not fairly reflected under the Standard Sourcing Rules, the Department's adjustments would still be improper because they were unreasonable. For all of these reasons, the Court therefore GRANTS summary judgment in favor of Columbia Sportswear and against the Department.
SO ORDERED.
