June 28, 2013

MULTISTATE BUSINESSES: New California Apportionment Method for 2013

California FlagBusinesses that operate in more than one state apportion, or allocate, their taxable income on their annual state tax returns based on factors such as sales, property and payroll. With the passing of Proposition 39, multistate businesses (corporations, partnerships, LLCs) are now required to apportion their California income using a single sales factor formula with market-based sourcing. This represents two significant changes:

  • Single Sales Factor vs. Three Factors
    • Prior to Proposition 39, most taxpayers doing business in California apportioned their taxable income to California using three factors – property, payroll, and double-weighted sales.
    • Starting January 1, 2013, it is mandatory that those taxpayers switch to a single factor formula, apportioning income solely based on sales. Many other states have adopted this single sales factor approach in recent years.
  • Market-Based  vs. Cost-of-Performance 
    • Prior to Proposition 39, service-based sales were sourced to California according to the location of the costs of performance for those sales. Generally, sales were allocated to the state in which the services were performed.
    • Starting January 1, 2013, service-based sales will be sourced to California based on where the customer received the benefit of that service. This could be determined by the contract between the business and customer, or the billing address of the customer, or a reasonable approximation of where the customer received benefit. The regulations dictate which method to use, depending on the type of customer and the available transaction information.

These new apportionment rules present both opportunities and challenges to multistate entities. If you have any questions about them, we welcome the opportunity to speak with you.