NOTICE: IC § 6-8.1-3-3.5 and IC § 4-22-7-7 require the publication of this document in the Indiana Register. This document provides the general public with information about the Department's official position concerning a specific set of facts and issues. This document is effective as of its date of publication and remains in effect until the date it is superseded by the publication of another document in the Indiana Register. The "Holding" section of this document is provided for the convenience of the reader and is not part of the analysis contained in this Letter of Findings.

A holding company that had a partnership interest in a limited liability company (LLC) could have a non-unitary relationship with that LLC; holding company established that it was entitled to an abatement of the ten percent negligence penalty.

I. Income Tax–Unitary/Non-Unitary.

Authority: IC § 6-8.1-5-1; IC § 6-3-1-19; IC § 6-3-2-2; Allied-Signal, Inc. v. Director, Div. of Taxation, 504 U.S. 768 (1992); Hunt Corp. v. Department of State Revenue, 709 N.E.2d 766 (Ind. Tax Ct. 1999); 45 IAC 3.1-1-153.

Taxpayer protests that it does not a have a unitary relationship with LLCs it has a partnership interest in.

II. Tax Administration–Penalty.

Authority: IC § 6-8.1-5-1; IC § 6-8.1-10-2.1; 45 IAC 15-11-2.

Taxpayer protests the imposition of penalty.

Taxpayer is a holding company. Taxpayer was audited by the Indiana Department of Revenue ("Department"). The audit found that Taxpayer held interests in multiple companies. As a result of the audit, the Department issued a proposed assessment for Indiana income tax, interest, and penalties for periods June 30, 2009 through June 30, 2011. Taxpayer filed a protest. An administrative hearing was held, this Letter of Findings results. More facts will be provided below as needed.

I. Income Tax–Unitary/Non-Unitary.

At the outset, the Department notes that the burden of proving a proposed assessment wrong rests with the person against whom the proposed assessment is made, as provided by IC § 6-8.1-5-1(c).

The audit report states that Taxpayer is "a holding company" and that "[i]ts business existence and economic substance is the receipt of income from the entities it owns." The audit report further states that for fiscal year ending June 30, 2009, Taxpayer "held a 37[percent] interest in [Company S] and a 50[percent] interest in [Company A]." In "FYE 6/3010 and FYE 6/30/11, [Taxpayer] held a 50[percent] interest in [Company A] and a 65[percent] interest in [Company L]."

Taxpayer, in a company overview, describes its LLC subsidiaries. Taxpayer states that Company A "is an independent seed company" and that Company A's "activities within Indiana include field and farming operations, as well as conducting data analysis and laboratory research." Company L is described by Taxpayer as "an independent cereal seed producer" that "maintains" a location at an Indiana school "and in various wheat-growing regions within Indiana and other states." Taxpayer further states:

Taxpayer states that the Department's audit of it "focused on the relationship between [Taxpayer] and its subsidiaries, [Company A] and [Company L] (the 'LLC subsidiaries')." Taxpayer states that the "Department did not agree with [Taxpayer's] treatment of its share of partnership income resulting from its ownership of [Company A] and [Company L]."

Taxpayer's argument is that "the activities of [Taxpayer] and the LLC subsidiaries are not unitary" and that Taxpayer's "share of partnership income attributable to Indiana should instead be determined by calculating apportionment at the partnership level." Taxpayer states that the "only tax attribute that should then flow up from the LLC subsidiaries to [Taxpayer] is the share of partnership income–as opposed to the share of partnership factors."

Turning to Taxpayer's specific arguments, Taxpayer states that the "LLC subsidiaries' filing status was erroneously mischaracterized and ignored . . . ." The audit report states that Taxpayer's "ownership in the LLC's is not that of a partner," and that:

Taxpayer states that the audit finding "is in direct contradiction to settled Indiana law."

The Department's audit report asserts that since Taxpayer is a "member in operating LLC's that conduct business in Indiana" that it is "not necessary to look further than that to establish whether [Taxpayer's] relationship to its LLC's is unitary or not." Taxpayer argues that the "Department's reliance on [Taxpayer's] status as a holding company does not satisfy the established standards for showing unity." Taxpayer states that the audit report "indicate[s] that, because [Taxpayer] is a holding company, its activities must be unitary with the entities it holds."

As preliminary matter, the Department notes the following relevant law. For example, the term "Partnership" is defined at IC § 6-3-1-19:

And 45 IAC 3.1-1-153 states:

Turning to case law, the Indiana Tax Court in Hunt Corp. v. Department of State Revenue, 709 N.E.2d 766, 777 (Ind. Tax Ct. 1999) stated:

And in Allied-Signal, Inc. v. Director, Div. of Taxation, 504 U.S. 768, 783 (1992), the United States Supreme Court discussed the unitary business principle of taxation:

The audit report cites to the "fairly reflect" language found in IC § 6-3-2-2, treating "the pass through income as business income and include the LLC's factors in the apportionment computation." Taxpayer's argument is that for the audit report to get to that conclusion there must be a showing of a unitary relationship ("the Court must determine whether the members of the affiliated group and the partnerships were engaged in a unitary business or not," Hunt, 709 N.E.2d at 777). Thus Taxpayer's argument in the case at hand focuses on the issues of integration, centralization of management, and economies of scale (i.e., the test found in Allied-Signal). The latter argument is examined below.

Taxpayer asserts that "no functional integration existed." Taxpayer states in its follow-up written protest that there are "a number of restrictions in the LLC Agreement" that "keep [Taxpayer] from functionally integrating with [Company A]." Taxpayer states that it "entered into a Non-Competition and Non-Solicitation of Employees agreement with regard to [Company A]." Taxpayer stated that as part of that agreement:

Taxpayer concludes:

The Department notes that Taxpayer's follow-up written protest does not develop this argument with regards to Company L.

Taxpayer owns 50 percent of Company A. Taxpayer states that the "LLC Agreement does not provide any member, acting individually, nor any member representative, acting individually, with the 'authority to act for or to undertake or assume, any obligations, debt, duty or responsibility on behalf of [Company A], except as specifically authorized' by the LLC Agreement."

Taxpayer further states that since it owns 50 percent in Company A that it "cannot maintain more than three positions on the membership committee" and that it "is never able to make key decisions without the consent of the other partner." Taxpayer then lists an array of decisions that require the other partner's consent, which include:

• "Any amendment of the [Company A] Certificate of Formation or the LLC Agreement;"

• "Issuance by [Company A] of any additional interests or other equity participations in [Company A] and [] admission of any new Member; provided that a person acquiring an interest in compliance with the LLC Agreement shall be deemed to have been admitted as a Member;"

• "Except as otherwise provided . . . the initiation or settlement by [Company A] of third-party litigation or arbitration or other third-party legal proceedings other than in the ordinary course of business . . . ;"

• "Any change in the scope of the [Company A] business;"

• Subject to provisions of the LLC Agreement, "the appointment or removal of the Chairman, the CEO, the CFO, or the Vice President-Marketing and Sales;"

• "Approval of, or any material amendment to or deviation from, any Business Plan

• "Any determination that additional capital contributions shall be made;"

• "Any change in the scope of the [Company A] business;" and the

• "adoption or modification of any employee compensation, incentive or other benefit plans (other than employee welfare plans)."

Taxpayer concludes that it "cannot centrally control the activities of [Company A], so no centralization of management can be said to exist."

Taxpayer states that the "LLC Agreement restricts [Company A] from enjoying any benefits simply because of [Taxpayer's] ownership." Taxpayer, citing to the LLC Agreement, states that:

Taxpayer also cites to the LLC Agreement to state that the "Members intend that [Company A] shall, at its own cost and expense, at all times take out an [sic] maintain full and adequate insurance in respect of all risks which are customarily insured against by an entity engaged in a business similar to the [Company A] Business." Taxpayer concludes that "[Company A] could not benefit from [Taxpayer's] ownership interest for the purposes of taking on debt or even purchasing insurance. No economies of scale existed in this holding company relationship, and a unitary relationship, therefore, cannot be found." Taxpayer states that the "Limited Liability Company Agreement between [Taxpayer] and [Company G] demonstrates that [Taxpayer] did not maintain 'functional integration, centralization of management, or economies of scale' with regard to [Company A] . . . ."

The audit report does not contain an analysis of the unitary relationship (i.e., integration, centralization of management, and economies of scale) and the audit report does not address whether or not Taxpayer is in compliance with its LLC Agreement with Company A. The audit report does contain background information on the company history of Taxpayer (i.e., the various acquisitions and formations), noting that "[a]fter the formations of these LLC's [Taxpayer's] business operations were that of a holding company. Its only activity is the receipt of income from the entities it owns and based on the membership agreement it directs operations and financial decisions of these LLC's." And as previously noted, the audit report stated that since Taxpayer is a member in operating LLCs that it was "not necessary to look further than that to establish whether [Taxpayer's] relationship to its LLC's is unitary or not."

Under IC § 6-8.1-5-1(c) the Department's proposed assessment is "prima facie evidence that the department's claim for the unpaid tax is valid," thus that is the starting point and it is then a taxpayer's burden to show why a proposed assessment is wrong. The audit report did not develop the unitary/non-unitary partnership analysis, whereas Taxpayer did develop that argument as it relates to Company A. In the present case, given the minimal analysis in the audit report, Taxpayer has met its burden of proof–for the specific audit years at issue–and shown that it is not unitary with Company A. Taxpayer's agreement regarding Company A is with an unrelated third party (i.e., Company G). The Department notes that if an ownership or operational relationship between Taxpayer and Company G existed, this would be a relevant fact that could lead to a different finding for the protest. Regarding the other LLCs, Taxpayer did not sufficiently develop its argument and is thus denied regarding all other LLCs.

It should be noted that Taxpayer argues, in the alternative, that if the Department were to find a unitary relationship between Taxpayer and the LLC subsidiaries, then according to Taxpayer two additional companies would need to be included as part of the unitary group (Company H and Company V, at least one of which is a corporation and not an LLC). As noted above, Taxpayer's argument was sustained regarding Company A, but denied with regards to Company S and Company L since Taxpayer did not sufficiently develop the latter arguments. Taxpayer states that "although a unitary relationship cannot be found based on ownership alone, the Department must include all [Taxpayer's] subsidiaries, if it expects to include any." These other companies (Company H and Company V) are not addressed in the audit report and are given less than two pages of discussion by Taxpayer in its follow-up material. That argument is not sufficiently developed, and is also beyond the scope of this Letter of Finding since the audit report does not address it.

Taxpayer's protest that it is not unitary with Company A is sustained. Taxpayer's argument that it is not unitary with the other LLC is denied. Taxpayer's alternative argument is also denied.

II. Tax Administration–Penalty.

Taxpayer "requests that the Department exercise its discretion to abate the ten-percent penalty . . . ." Under IC § 6-8.1-5-1(c), "The burden of proving that the proposed assessment is wrong rests with the person against whom the proposed assessment is made." An assessment - including an assessment of a penalty - is presumptively valid.

Departmental regulation 45 IAC 15-11-2(b) defines negligence as "the failure to use such reasonable care, caution, or diligence as would be expected of an ordinary reasonable taxpayer." Negligence is to "be determined on a case-by-case basis according to the facts and circumstances of each taxpayer." Id.

IC § 6-8.1-10-2.1(d) allows the Department to waive the penalty upon a showing that the failure to pay the deficiency was based on "reasonable cause and not due to willful neglect." Departmental regulation 45 IAC 15-11-2(c) requires that in order to establish "reasonable cause," the taxpayer must demonstrate that it "exercised ordinary business care and prudence in carrying out or failing to carry out a duty giving rise to the penalty imposed . . . ."

Taxpayer states that, "there is a substantial amount of federal and Indiana-specific support" for its position that it was unitary with the LLCs. Taxpayer was, in fact, sustained regarding its argument as it relates to Company A. The Department finds that Taxpayer has met its burden of proof for its request for penalty waiver.

Taxpayer's protest of the penalty is sustained.

Taxpayer's protest that it is not unitary with Company A is sustained. Taxpayer's argument that it is not unitary with the other LLC is denied. Taxpayer's alternative argument is also denied. Taxpayer's protest of the penalty is sustained.