Multistate Tax Compact Amendments May Have Major Effect on States

By Jamie C. Yesnowitz, J.D., LL.M., Washington; Dale Busacker, J.D., Minneapolis; Chuck Jones, J.D., CPA, Chicago; and Lori Stolly, CPA, Cincinnati

Editor: Greg A. Fairbanks, J.D., LL.M.

State & Local Taxes

The Multistate Tax Commission (MTC) approved amendments to key provisions of Article IV of the Multistate Tax Compact at its annual meeting on July 30, Article IV concerns the division of income and incorporates the provisions of the Uniform Division of Income for Tax Purposes Act (UDITPA). These amendments address such topics as apportionment factor weighting, the definition of business income, the adoption of market-based sourcing, the definition of sales, and alternative apportionment. Furthermore, on July 31, the MTC's Executive Committee approved separate proposed amendments concerning the use of alternative apportionment that were sent to the member states for consideration in September 2014. As discussed below, these amendments address significant issues and may result in statutory amendments in some states.


In 1957, the Uniform Law Commission (ULC) promulgated UDITPA to provide uniform laws that states could adopt to assign the taxable income of multistate corporations among the states in which they do business. The MTC created the compact in 1967 and included the UDITPA provisions as Article IV. Significant changes in the U.S. economy during this time led some to think that a number of the important uniform provisions were outdated, and many states have enacted legislation that departs from these provisions. As a result, the MTC recommended in 2006 that the ULC start a project to revise UDITPA. After public hearings and comments, the ULC decided to discontinue its work on revising UDITPA in 2009.

The MTC then started to consider its own revisions to Article IV, and its Uniformity Committee completed its work in March 2012. The Executive Committee approved the proposed model for public hearing in 2012. In October 2013, Prof. Richard Pomp released a detailed document, termed the Report of the Hearing Officer, which analyzed the proposals and made recommendations for amending key provisions of Article IV. In March 2014, the Uniformity Committee decided to recommend to the Executive Committee that its original draft language be retained. However, in May 2014, the Executive Committee accepted some of Pomp's recommendations and sent a survey to the member states to determine whether each state would adopt the proposed draft language.

Apportionment Factor Weighting

Before amendment, the compact provided for a three-factor apportionment formula consisting of equally weighted property, payroll, and sales factors. The amended compact allows a state to define its own factor-weighting fraction, but it recommends a double-weighted sales factor (Multistate Tax Compact, Art. IV.9).

Business (Apportionable) Income

The compact previously defined "business income" as "income arising from transactions and activity in the regular course of the taxpayer's trade or business and includes income from tangible and intangible property if the acquisition, management, and disposition of the property constitute integral parts of the taxpayer's regular trade or business operations." Also, "non-business income" was "all income other than business income."

The amendment changes the term "business income" to "apportionable income" and revises the definition to all income that is apportionable under the Constitution of the United States and is not allocated under the laws of a state, including:

  1. income arising from transactions and activity in the regular course of the taxpayer's trade or business, and
  2. income arising from tangible and intangible property if the acquisition, management, employment, development, or disposition of the property is or was related to the operation of the taxpayer's trade or business. [Multistate Tax Compact, Art. IV.1(a)]

Similarly, the term "non-business income" is changed to "non-apportionable income" and defined as "all income other than apportionable income" (Multistate Tax Compact, Art. IV.1(e)).

Market-Based Sourcing

Under the previous version of the compact, sales other than sales of tangible personal property were sourced to a state (on an all-or-nothing basis) if (1) the income-producing activity is performed in the state; or (2) the income-producing activity is performed both in and outside the state and a greater proportion of the income-producing activity is performed in the state than in any other state, based on costs of performance (COP).

This provision was completely revised to replace the COP standard with a market-based sourcing approach that reflects the destination principle used to source sales of tangible personal property (Multistate Tax Compact, Art. IV.17). Specifically, sales are sourced to a state if the taxpayer's market for the sales is in the state. The market for a sale of a service is in a state if, and to the extent, the service is delivered to a location in the state. In addition, the provision includes a series of subrules that describe the sourcing for different types of transactions, including transactions involving intangible property. If the taxpayer is not taxable in a state to which a sale is assigned or if the state of assignment cannot be determined or reasonably approximated, the sale is excluded from the denominator of the sales factor. (This is commonly termed a "throwout rule.")

Sales (Receipts) Factor

Before amendment, the compact defined "sales" as all of a taxpayer's gross receipts that are not allocated. The amendment replaces the term "sales" with "receipts." The amended provision defines "receipts" as the gross receipts of the taxpayer that are not allocated and that are received from transactions and activity in the regular course of the taxpayer's trade or business (Multistate Tax Compact, Art. IV.1(g)). However, the definition excludes receipts from hedging transactions and from treasury functions such as the maturity, redemption, sale, exchange, loan, or other disposition of cash or securities.

Alternative Apportionment

Under the compact, if the general allocation and apportionment provisions do not fairly represent the extent of the taxpayer's business activity in the state, the taxpayer may petition for, or the tax administrator may require, an alternative apportionment method (Multistate Tax Compact, Art. IV.18(a)). Specifically, the compact provides for (1) separate accounting; (2) the exclusion of one or more of the factors; (3) the inclusion of one or more additional factors that will fairly represent the taxpayer's business activity in the state; or (4) the employment of any other method to effectuate an equitable allocation and apportionment of the taxpayer's income.

Final amendment: The amendment adds a new paragraph, which provides that if the allocation and apportionment provisions do not fairly represent the extent of business activity of taxpayers engaged in a particular industry, transaction, or activity, the tax administrator may establish regulations for determining alternative allocation and apportionment methods (Multistate Tax Compact, Art. IV.18(b)). This regulation must be applied uniformly, except that the taxpayer may petition for, or the tax administrator may require, an adjustment to fairly represent the extent of the taxpayer's business activity in the state.

Proposed amendments: On July 31, the Executive Committee approved proposed amendments concerning alternative apportionment. A survey was sent to the affected member states on Sept. 5. The first proposed amendment concerns the burden of proof necessary to support alternative apportionment. Specifically, the taxpayer petitioning for, or the tax administrator requiring, the use of an alternative allocation or apportionment method must prove (1) that the standard allocation and apportionment provisions do not fairly represent the extent of the taxpayer's activity in the state; and (2) that the alternative to those provisions is reasonable (Proposed Multistate Tax Compact, Art. IV.18(c)).

States are allowed to determine their own burden of proof, but the same burden of proof must apply whether the taxpayer is petitioning for, or the tax administrator is requiring, the use of an alternative apportionment method. If the tax administrator can show that in any two of the prior five tax years, the taxpayer had used an allocation or apportionment method different from the method used for those other tax years, the tax administrator will not bear the burden of proof in imposing a different apportionment method.

The second proposed amendment provides that if the tax administrator requires an alternative apportionment method, the tax administrator cannot impose any civil or criminal penalty on the tax due that is attributable to the taxpayer's reasonable reliance solely on the standard apportionment provisions (Proposed Multistate Tax Compact, Art. IV.18(d)).

Under the final proposed amendment, a taxpayer that has received written permission from a tax administrator to use a reasonable alternative apportionment method may not have the permission revoked for transactions and activities that have already occurred unless there has been a material change in, or a material misrepresentation of, the facts the taxpayer provided upon which the tax administrator reasonably relied (Proposed Multistate Tax Compact, Art. IV.18(e)).


The amendments to the key provisions in Article IV of the compact reflect the MTC's substantial efforts to revise these provisions for many years. The MTC's decision to adopt these amendments was widely expected, particularly after the Executive Committee approved the amendments and they were supported by the results of the state survey.

The final amendments make five major changes that will have different levels of impact. The factor-weighting recommendation of double-weighted sales may not have a significant effect because states have shown that they want complete autonomy in determining their apportionment formula. Many states have already deviated from the prior and the newly recommended apportionment formula in the compact by adopting a single sales apportionment factor. Similarly, the expansion of the business (apportionable) income definition to encompass all amounts that can be classified as such under the U.S. Constitution is not likely to have a major effect, as many states consistently challenge most taxpayers' attempts to classify income as nonbusiness income. The changes to the definition of sales (receipts) may be important to certain taxpayers, particularly those that have substantial treasury functions and engage in significant hedging and other securities transactions. The new alternative apportionment provision allowing tax administrators to promulgate regulations for certain industries may have some impact, but it remains to be seen whether tax administrators will decide to adopt these rules.

The most significant final amendment concerns the change to market-based sourcing for sales other than sales of tangible personal property. During the past several years, market-based sourcing of sales has become a popular departure from the UDITPA COP method. Under market-based sourcing, states generally require that receipts from the sale of services are sourced based on the location of the service provider's customers, or on the location where the customer received the benefit from the service provided, rather than the location where the service provider performed the services. The nuances of market-based sourcing vary substantially among states. For example, states such as California, Illinois, and Michigan use a "benefit received" approach, but states such as Massachusetts and Pennsylvania use a location-of-delivery approach. For states that still use the COP method, the compact may provide a template if they decide to adopt market-based sourcing. However, states that already have enacted market-based sourcing statutes that differ from the compact may be reluctant to amend those laws.

The proposed amendment addressing the burden of proof when alternative apportionment is sought also is significant. This issue was addressed in a high-profile and controversial Mississippi Supreme Court decision, Equifax, Inc. v. Department of Revenue, 125 So. 3d 36 (Miss. 2013), which resulted in the enactment of Mississippi legislation (H.B. 799, Laws 2014) clarifying the burden of proof. The proposed amendment would clarify that the burden of proof is on the party invoking the alternative apportionment method. State tax authorities may argue that the burden of proof should always be on the taxpayer because assessments issued by the state are presumptively correct. But there is a strong equitable argument that the burden of proof should be the same for either the tax administrator or the taxpayer. Also, some controversy surrounds the proposed exception that the tax administrator does not have the burden of proof if the taxpayer used a different allocation or apportionment method in any two of the prior five tax years. This exception is based on the taxpayer's filing history rather than on whether the taxpayer had previously received permission to use an alternative apportionment method.

The final amendments to the compact are significant to compact member states to the extent they change their laws in response in upcoming state legislative sessions, as well as to nonmember states that may be considering changes in line with the policy changes made in the compact. Because these major changes to the compact are unprecedented, it will be interesting to see how compact member states respond. For example, compact member states will need to decide whether to enact legislation adopting these amendments.

Also, it is unclear if compact member states that fail to adopt these amendments will lose their member status after a period of time because their statutes are no longer in compliance with the compact. Furthermore, it is uncertain how soon the MTC will be able to complete and release for comment regulations that explain the amendments to the compact. In August 2014, work groups were formed to draft proposed model regulations for market-based sourcing and to define "receipts." With these open questions, the upcoming state legislative sessions and the MTC's ongoing efforts in this area will be closely watched.


Greg Fairbanks is a tax senior manager with Grant Thornton LLP in Washington.

For additional information about these items, contact Mr. Fairbanks at 202-521-1503 or

Unless otherwise noted, contributors are members of or associated with Grant Thornton LLP.

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