MORTON INTERNATIONAL, INC. Plaintiff, v. ILLINOIS DEPARTMENT OF REVENUE; GLEN L. BOWER, as Director of Revenue; and JUDITH BAAR TOPINKA as State Treasurer, Defendants.

Case Information:

Docket/Court: 01 L 50752, Illinois Circuit Court

Date Issued: 07/08/2004

Tax Type(s): Corporate Income Tax

OPINION

MEMORANDUM DECISION AND JUDGMENT ORDER

This matter is before the Court on Motions for Summary Judgment by both Plaintiff and Defendants pursuant to 735 ILCS 5/2-1005 , where the Plaintiff, Morton International, Inc. (“Morton”), paid the Defendant State Treasurer monies under protest and asks for a determination of its Illinois income tax liability.

Under Illinois law, summary judgment is appropriate when there is no genuine issue as to any material fact and the moving party is entitled to judgment as a matter of law. 75 ILCS 5/2-1005 (c).

The parties have stipulated to much of the facts, and the remaining issue for the Court to decide is a question of statutory interpretation of the term “taxable” for purposes of 35 ILCS 5/304 (a)(3) (B). Under the “throwback statute” of 35 ILCS 5/304 (a)(3)(B)(ii), sales of tangible personal property that are not taxed in the destination state or country are taxed in Illinois at the Illinois tax rate, as long as “the person is not taxable in the state of the purchaser.”

Morton, an Indiana corporation with headquarters in Chicago, received two types of income for the tax year ending April 30, 1997: (1) proceeds from sales of tangible personal property shipped from an Illinois facility to buyers in one of six foreign countries—Australia, Belgium, Brazil, Canada, France and Mexico; and (2) royalties from patent licenses in the same countries and dividend income from an interest in foreign corporations in Belgium and Brazil. These royalties and dividend income had no direct relationship to sales of the tangible items. The issue in this case arises when determining Morton's taxable income for the tax year. To determine its Illinois- sourced business income for state taxation purposes, Morton's apportionable business income ($323 million) is multiplied by the apportionment factor, and that figure is the amount at which the Illinois tax rate is applied in determining Morton's Illinois income tax liability. The apportionment factor, explained in 35 ILCS 5/304 (a), contains a property factor, a payroll factor, and a sales factor. Only the sales factor is in dispute. The sales factor is arrived by dividing Morton's sales in Illinois by its sales everywhere. 35 ILCS 5/304 (a)(3)(A). Both parties agree that Morton's “sales everywhere” equals $2,639,000,000. The dispute arises over Morton's sales in Illinois. Morton contends that this figure is $200,000,000, while the Department of Revenue found that this figure needs to be increased by Morton's sales of approximately $13 million that it shipped to unrelated third-party purchasers located in the foreign countries named above.

Since the particular sales of tangible personal property of approximately $13 million were not taxed by the foreign governments, the Defendant, Illinois Department of Revenue (“Department”), seeks to “throw back” these sales to Illinois and tax them at the Illinois rate. The Department thus relies on 35 ILCS 5/304 (a)(3)(B)(ii), which states that Sales of tangible personal property are “Illinois sales,” and thus are included in the apportionment factor to determine a corporation's Illinois Income tax liability, if “The property is shipped from an office, store, warehouse, factory or other place of storage in this State and ... the person is not taxable in the state of the purchaser ” (emphasis added). 35 ILCS 5/304 (a)(3)(B)(ii). It is undisputed in this case that the first requirement of Section (ii) has been met, that the property be shipped from this State. The main dispute in this case is whether Morton has met the second requirement of Section (ii) for the tax year, that “the person is not taxable in the state of the purchaser.”

Morton clearly was “taxable in the state of the purchaser” for purposes of 35 ILCS 5/304 (a)(3) (B)(ii). The parties stipulated that Morton did pay a net income tax, but it was on income unrelated to the sales at issue. The statutory language at issue is clear; it simply states that the throwback rule does not apply if the person is “taxable in the state of the purchaser.” 35 ILCS 5/304 (a)(3)(B)(ii). “When the language of the statute is clear and unambiguous, it will be given effect without resort to other tools of construction.” Gem Electronics of Monmouth Inc. v. Department of Revenue, 183 Ill. 2d 470, 475 , 234 Ill. Dec. 189 , 702 N.E.2d 529 (1998) , citing People v. Woodard, 175 Ill. 2d 435, 443 , 222 Ill. Dec. 401 , 677 N.E.2d 935 (1997) . Thus, based on the plain meaning of the statute, the Department cannot cause the sales at issue to be “thrown back” to Illinois.

Several other provisions enacted by the State also support this interpretation favorable to Morton. 35 ILCS 5/303 (f) defines when a taxpayer is taxable in another state:

(f) For purposes of allocation of income pursuant to this Section, a taxpayer is taxable in another state if:

(1) In that state he is subject to a net income tax, a franchise tax measured by net income, a franchise tax for the privilege of doing business, or a corporate stock tax; or

(2) That state has jurisdiction to subject the taxpayer to a net income tax regardless of whether, in fact, the state does or does not.

This definition of “taxable in another state” is for purposes of Section 303, not for Section 304 which contains the statute at issue, but it is instructive. Both sections have a similar statutory scheme and deal with allocation and apportionment of income. 35 ILCS 5/303 (f) does not make a reference to sales at issue when determining whether a corporation is “taxable in another state.” Only one of three requirements must be met to determine whether the taxpayer must allocate certain royalties back to the State: that the taxpayer was subject to a net income tax, a franchise tax, or a corporate stock tax. The legislature had an opportunity to require, for example, a net income tax be paid on the item at hand, but it simply used the term “subject to.”

Also, a regulation from the Department of Revenue supports a plain meaning interpretation. Under 86 Ill. Admin. Code § 100.3200(a)(1),

For purposes of ... the sales factor used in apportioning business income, a taxpayer is taxable in another state if:

A) in that state he is subject to a net income tax, a franchise tax measured by net income, a franchise tax for the privilege of doing business, or a corporate stock tax; or

B) that state has jurisdiction to subject the taxpayer to a net income tax regardless of whether, in fact, the state does or does not subject the taxpayer to such a tax. While this regulation is aimed at explaining “taxable in another state” for purposes of 35 ILCS 5/303 , it is instructive because it specifically addresses the “sales factor used in apportioning business income.” 86 Ill. Admin. Code § 100.3200(a)(1). Again, like the statute named above, 35 ILCS 5/303 (f), this regulation again simply uses the phrase “subject to a net income tax.” Both these provisions adopted by the State illustrate that a taxpayer is “taxable” in another state only where the taxpayer pays a net income tax, but neither mention that “taxable” includes any particular sale or the sale at issue.

The Department conceded in oral argument that the plain meaning of the statute, i.e. “taxable,” does not adequately address the sale at issue.

The Department instead argues that the Appellate Court has interpreted “taxable” to mean that the tax must be paid on the particular sales at issue, not just that the foreign country had jurisdiction to tax the corporation or that it taxed the corporation on unrelated income. The Department relies on three decisions in support of this construction: Dover Corporation v. Department of Revenue, 271 Ill.App.3d 700 , 648 N.E.2d 1089 (1st Dist. 1995) ; Beatrice Companies, Inc. v. Department of Revenue, 292 Ill.App.3d 532 , 685 N.E.2d 958 (1st Dist. 1997) ; Hartmarx Corporation v. Bower, 309 Ill.App.3d 959 , 723 N.E.2d 820 (1st Dist. 1999) .

All three cases support several policy determinations at the very least. First, “The throwback rule is designed to ensure that the taxpayer does not receive a windfall.” Hartmarx, 309 Ill.App.3d at 968 . Also, the legislature's intent is to ensure 100 percent taxation of business income. Dover, 271 Ill.App.3d at 707 ; Beatrice, 292 Ill.App.3d at 535 ; Hartmarx, 309 Ill.App.3d at 967 . Finally, there is a strong policy in avoiding “nowhere sales,” or sales that are not considered anywhere for purposes of tax liability, and the throwback rule is applied to avoid such “nowhere” taxes on the Illinois sales. Dover, 271 Ill.App.3d at 707 ; Beatrice, 292 Ill.App.3d at 538 ; Hartmarx, 309 Ill.App.3d at 965-66 .

These policies are simply not enough for this Court to alter the plain meaning of 35 ILCS 5/304 (a)(3)(B)(ii). First, the statement above from the Hartmarx Court must be given context. “The throwback rule is designed to ensure that the taxpayer does not receive a windfall.” Hartmarx, 309 Ill.App.3d at 968 . The statement addressed a challenge to the constitutionality of the throwback rule; it does not appear to be a statement setting broad precedent. Also, the Department's reliance on Dover is misplaced. In Dover , the taxpayer did not pay a tax in any state on the sales at issue, but one of its corporate affiliates did pay an income tax to the various states. It was clear that none of the members of Dover's Illinois unitary business group paid taxes in any state “on any of the income the Department is seeking to have thrown back to Illinois.” Dover, 271 Ill.App.3d at 709 . Since the Dover Court relied on the fact that the sales at issue were not taxed, the Defendants reason that Morton also did not pay any tax to any state or foreign country on the sales at issue here. However, Dover does not resolve the issue in this case. It did not interpret “taxable” to clarify whether a corporation that did pay an income tax in another country is “taxable” under the throwback statute when it did not pay a tax on the sales the Department seeks to “throw back.” Dover simply interpreted the term “taxable” to mean that the taxpayer itself must pay the tax; it does not count that a member of the unitary business group paid an income tax. Id. at 706, 710-11.

Similar situations arise in both Beatrice and Hartmarx. In both cases, there was no question that the individual sellers did not file tax returns or pay a tax in the destination states, so each Court found that they were not taxable in those states. Both Courts addressed the meaning of “taxable” only in the context that the taxpayer itself must pay an income tax, regardless of taxes paid by subsidiaries. Here it is stipulated that the Taxpayer, Morton, did pay a net income tax in the destination countries.

The Department also quotes Dover out of context. Defendants stated that “The Dover Taxpayers have not paid taxes in any state on any of the income the Department is seeking to have thrown back to Illinois.” Dover, 271 Ill.App.3d at 709 . The Department interpreted this statement to mean that the fact that the sales at issue were not taxed in any other jurisdiction was one reason the Court ruled in favor of the Department. However, this statement refers to particular income, not to particular sales. Again, there was no question in Dover that the individual sellers did not file tax returns at all or did not pay a tax at all in the destination states, whereas here Morton did pay a net income tax in the destination countries. This statement in the Court's brief further refuted Dover's argument that they were subject to multiple taxation. The Court was concerned when double taxation is caused through no fault of the taxpayer, so the statement alleviated that concern by illustrating that Dover did not pay any tax, so it could not be subject to a double tax. Dover could have filed a tax return on the income at issue in the case. Here there is no evidence whether Morton could have filed a tax return on the income generated by the sales at issue. The only evidence is that Morton did file a return on unrelated dividends and royalty income. It is unclear why the foreign countries chose to tax the dividends and royalties but not the sales at issue, and such foreign taxation schemes have not been presented to this Court. Finally, there is no language present in the quotation above to suggest that the Dover Court meant the statement to be broad precedent.

There is thus no support in Dover, Beatrice, or Hartmarx, that “taxable” for purposes of the throwback statute of 35 ILCS 5/304 (a)(3)(B)(ii) means anything other than “subject to an income tax.” The Court then cannot substitute its own meaning into the statute when the plain meaning is unambiguous. It is important to note, however, that there is an underlying policy of avoidance of “nowhere sales,” and this decision results in a “nowhere sale.” Other sections of Illinois' Income Tax Act allow some situations that will result in a “nowhere sale.” For example, the Dover Court interprets 35 ILCS 5/303 (f)(2) to mean that a sale by a taxpayer to a state that does not impose a net income tax will not be “thrown back” to Illinois even though the result is a “nowhere sale.” Dover, 271 Ill.App.3d at 706 . There is also an example in the Illinois Administrative Code that results in a “nowhere sale,” where a manufacturer of farm equipment is not required to throw back sales to countries that exempt manufacturers of farm equipment. 86 Ill. Admin. Code § 100.3200(b)(2). Thus, a similar situation results here, where Morton is not required to “throw back” the sales at issue.

This Court is bound by rules of statutory construction, and this statute clearly states that the throwback rule only applies where “... the person is not taxable in the state of the purchaser.” 35 ILCS 5/304 (a)(3)(B)(ii). Morton was “taxable in the state (or country) of the purchaser.” It is unclear why the State has continued to rely on this language both in other statutes and regulations, and this Court cannot assume the State has an unpronounced meaning. The issue is simply beyond the scope of review of this Court. The Department conceded that the statute would otherwise be interpreted on its face and in favor of Morton, but the Department argued that the Appellate Court has substituted its own interpretation of “taxable.” Since this Court does not interpret the Appellate Court cases the Department offered in support of substituting “taxable on the sale at issue” for “taxable,” summary judgment cannot be awarded in favor of the Defendants.

THEREFORE IT IS HEREBY ORDERED: that Morton International's motion for summary judgment is GRANTED. This case is hereby dismissed. ENTER: ______Judge Sheldon Gardner