It is unlikely that the first word you think of when you hear the word “apportionment” is “predictable.” Most likely it is “equitable” (AKA “fair”), “uniform,” “alternative,” or maybe even a “factor” (“single-” or “three-”). But for corporate tax departments, predictability in income tax apportionment is of enormous value. A company needs to be able to reasonably forecast its liability in states where it is doing business. And not just at year end, but when making business decisions, estimating effective tax rates, setting reserves, and for other planning.
That was part of the promise of uniform apportionment. Before the Uniform Division of Income for Tax Purposes Act (UDITPA), states used a bewildering array of apportionment formulas, factors, definitions, and rules. UDITPA promised something much simpler: the same basic rules applied to the same business activity would, in theory, produce a reasonably predictable division of income among the states where that activity took place.
The sales (AKA receipts) factor was always going to be a challenge, and the UDITPA drafters and their contemporaries knew it. Uniformity in the sales factor was touted as perhaps the most urgently needed element of uniform apportionment. But they also acknowledged that some receipts could be difficult, if not impossible, to assign geographically with precision. Two safeguards limited the risk. First, the more stable property and payroll factors dampened sales factor volatility, so sourcing uncertainty affected only one-third of the calculation. Second, alternative apportionment was available when the statutory formula produced an unreasonable result.
The erosion began when some states gave the sales factor more weight, and then more and more states abandoned the property and payroll factors altogether. Sourcing uncertainty in the sales factor thus became uncertainty in apportionment itself. Now the formula is simpler, but states use a bewildering array of sourcing methodologies, case-by-case determinations, judgments, and rulings. Little of whatever predictability was gained remains.
Perfect precision in apportionment is likely impossible, but predictability is not. States should strive for sourcing rules that are clear enough to be applied prospectively. They should publish guidance on how those rules apply in difficult situations, and they should resist jettisoning those rules whenever they produce a less-than-hoped-for result. A company should not have to wait for an audit to learn where the state thinks its sales occurred.
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