United States: NJ Tax Court: Extraterritorial Income Not Subject To Corporation Business Tax

At a Glance...

In a decision released today, the New Jersey Tax Court determined in Infosys Limited of India Inc.¹ that a foreign corporation was not subject to New Jersey corporation business tax ("CBT") on its income from sources outside the United States.

Background

Infosys was a multinational corporation headquartered and incorporated in India. It had originally reported its New Jersey CBT using worldwide income. But Infosys amended its returns to exclude foreign-source income and claim the benefits of the U.S.-India tax treaty. (Under the treaty, Infosys was subject to federal income tax only on profits attributable to its business in the United States conducted through a permanent establishment.) As amended, therefore, Infosys computed its New Jersey CBT based on the income it reported on Line 29 of its federal income tax return on Form 1120-F.

The New Jersey Division of Taxation ("Division") denied the requested refund. Relying on its regulation,² the Division determined that the CBT base includes "all income from sources outside of the United States which has not been included in computing taxable income." The Division also determined that it was not bound by the U.S.-India tax treaty.

Tax Court's Decision

Previously, in International Business Machines v. Director, Division of Taxation,³ the Tax Court ruled that entire net income for CBT purposes is coupled to federal taxable income and is presumptively the same as the taxpayer's taxable income before net operating losses and special deductions (federal taxable income). Although that case involved extraterritorial income that was excluded from federal income tax under I.R.C. § 114, the court in Infosys relied heavily on IBM.

In Infosys, the Tax Court stated that "entire net income" is limited to federal taxable income—just as it did in IBM. The court acknowledged that the CBT statute provides for a number of exceptions authorizing the Division to adjust a taxpayer's federal taxable income, but it reasoned there was no specific exception for foreign-source income. Importantly, the court found that legislative intent prohibited the Division from piercing treaty protections and taxing income that is not subject to federal income tax.

Takeaways

Other cases involving the same issue are currently pending before other Tax Court judges. And because Tax Court judges are not bound by other judges' opinions,⁴ whether the Division will capitulate on the issue remains unclear. Nonetheless, there are several takeaways from the decision:

• If a foreign corporation included income in its CBT base that was not included in its federal taxable income, it should seek a refund.
• A foreign corporation is not subject to CBT on items excluded from federal taxable income either as a result of applying the federal sourcing provisions under I.R.C. § 861, or the protection of a U.S. tax treaty.
• Although not specifically addressed in Infosys, a foreign taxpayer may be able to include its worldwide property and payroll in its apportionment-factor denominators—even though its tax base includes only U.S. source income. (The CBT was apportioned using a three-factor formula prior to 2014.)

Footnotes

1. Docket No. 012060–2016.

2. N.J.A.C. 18:7-5.2(a)(1)(xi).

3. See 26 N.J. Tax 102 (N.J. Tax Ct. 2011).

4. Murphy v. Director, Div. of Taxation, 26 N.J. Tax 432, 452 n.1 (N.J. Tax Ct. 012).

This article is presented for informational purposes only and is not intended to constitute legal advice.