This document provides an overview of multistate taxation issues in Arizona. It discusses how Arizona corporate income tax piggybacks off the federal corporate income tax. It also covers apportionment of business income among states, with Arizona generally using a three-factor formula of property, payroll, and sales. The unitary concept allows Arizona to tax the total apportioned income of related entities operating as a single business unit. Transaction privilege taxes also have to be apportioned to comply with the Commerce Clause.

1. Arizona Multistate Taxation
Overview
Presented by
Mike Galloway
Member
Bancroft Susa & Galloway, PC
www.arizonatax.com
Bancroft Susa & Galloway
A PROFESSIONAL CORPORATION

2. Multistate Issues—Corporate Income
Tax
• Flow Through/Piggybacking
• Apportionment
• Unitary

3. The Corporation Rules
• The old law—Arizona had its own
independent corporate tax code
• Now—Arizona taxable income “piggy
backs” from federal income—the federal
“flows through” to the state
– Federal taxable income equals Arizona
gross income

4. The Corporation Rules
• Make the statutory additions and
subtractions
• The result at this point is Arizona taxable
income
• Apply the corporate income tax rate of
6.968% of the taxable income
• Apply the applicable corporate state tax
credits
• Be aware of special state rules for certain
types of corporations

9. Who Is Subject To Taxation?
• Generally if you are residing or engaged in business
• In Arizona:
– Nonresident individuals and corporations are
taxable on their Arizona source income
– Resident individuals are taxable on all of their
income
• A state is subject to the limitations imposed by the Due
Process and Commerce Clauses of the U.S.
Constitution
– Quill says there must be physical presence (for
Commerce Clause purposes)
• If a corporation is subject to tax in more than one state,
it must apportion the tax burden among the states

10. Arizona Apportionment Rules
They are generally based on the following
formulas:
– These are the current Arizona
versions of the traditional
UDITPA three factor formula

11. Apportionment Is Based
On Two Concepts
• Business Income
– Business income arises “from
transactions and activity in the regular
course of the taxpayers business . . .”
• Non Business Income
– Non business income is “all income
other than business income”

12. Apportionment Is Based
On Two Concepts
• Business income is apportioned
among the states where the
taxpayer engages in business
• Non business income is generally
allocated to the one state where the
income is generated

13. Non Business Income
• Non business income consists of:
– Rents
– Royalties
– Capital Gains
– Patent Royalties
– Copyright Royalties
– Dividends
– Interest

14. Business Income
• Business income consists of all income
arising from the taxpayer’s regular
business activity
• It is apportioned among all of the states
where the taxpayer is doing business
based on the percentage of three factors
from the above formula:
– The property factor
– The payroll factor
– The sales factor

15. The Property Factor
• The percent of the taxpayer’s total
property that is in Arizona
– Does not include intangible property
– The value of the property is its original
cost as adjusted for improvements and
dispositions but not depreciation
– If leased, the value is eight times the
annual rent
– Property used to produce nonbusiness
income is nonbusiness

16. The Payroll Factor
• The percent of the taxpayer’s total
payroll that is in Arizona
– Only what is paid to employees, not
independent contractors
– Applies to services performed entirely or
mostly in Arizona

17. The Sales Factor
• The percent of the taxpayer’s total
sales that are in Arizona
• Sales includes sales but also:
– Services
– Leasing
– Licensing
– Etc.

18. Different Rules--Sales of Tangible and
Intangible Property
• Tangible Personal Property
– Arizona uses the “destination” rules for sourcing
TPP
– A sale is Arizona source if it is shipped into
Arizona
– The “throwback” rules have been repealed
• Intangible Personal Property
– It is Arizona source if:
• The income producing activity is in Arizona, or
• Most of the income producing activity is in
Arizona
• See Heller Western

19. Miscellaneous
• There are rules that allow alternative
methods or factors to be used
• Many states, although not Arizona (with
one exception), have special
apportionment formulas for certain
industries (banks, railroads, publishing)

20. The Unitary Concept
• Even though, for example, only one corporation
may be physically present or doing business in
Arizona, related entities may contribute to the
income produced in Arizona.
• Under the unitary theory, Arizona may tax the
total (apportioned) income of all of the related
entities.
• The related entities must be unitary—effectively
operating as a single unit (an “organic whole’)
for business purposes.
• In Arizona, the test is “operational integration”
– Contrast with California’s “functional integration”
• Arizona has a big regulation on point.

21. The Unitary Concept
• In Arizona, the limit on taxing is
“water’s edge”
• Contrast with California’s “world
wide” combined reporting
• Unitary businesses subject to tax in
Arizona must file a combined report
• Arizona also has consolidated
reporting
• R.R. Donnelley, Home Depot
appeals

22. Multistate Issues—Transaction
Privilege Tax
• Apportionment

23. Must the TPT Be Apportioned?
• The Commerce Clause allows Congress
to regulate interstate commerce.
– Dormant Commerce Clause
• Historically, there was no state taxation
of interstate commerce
• Complete Auto Transit v. Brady
– Four factor test
• Later Supreme Court cases

24. Recent Apportionment Decisions
• There have been many recent apportionment cases
• Philadelphia, Pennsylvania (external consistency)
• Upper Moreland, Pennsylvania (external
consistency)
• Modesto, California (external consistency)
• Los Angeles, California (internal consistency)
• Los Angeles, California (equal protection)
• San Francisco, California (internal consistency)

25. The Arizona Court of Appeals has
Ruled on this Issue
• So. Pacific Trans. Co. v. State and Town
of Clifton, 202 Ariz. 326, 44 P.3d 1006
(Ct. App. 2002)
• “Arizona Revised Statutes § 42-5062(A)
cannot constitutionally be applied to tax
Southern Pacific’s gross receipts from
shipping goods . . . .

26. Southern Pacific Also Ruled On the Model
City Tax Code
• Southern Pacific also ruled on the Town
of Clifton transportation for hire tax
• MCTC § 475
• EMC v. City of Phoenix

27. Arizona Multistate Taxation
Overview
Presented by
Mike Galloway
Member
Bancroft Susa & Galloway, PC
www.arizonatax.com
Bancroft Susa & Galloway
A PROFESSIONAL CORPORATION