Explore the tax implications of a $309 million stock sale and California Franchise Tax. Gain insights into the Fidelity National Info. Services, Inc. v. Franchise Tax Board case and how it impacts cross-state stock sales.
July 8, 2020
Introduction:
When a business sells the stock of a subsidiary across different states, there’s a tax risk involving various state rules and tax rates for the gained amount.
The Deal:
In this case, the selling company provides card processing, electronic banking, risk management, and related services to financial institutions. It bought 29% of another company’s stock in 2004. This acquisition helped the buyer gain expertise and services at a lower cost. They structured the deal so the buyer had some control over the target company. The goal was to influence the target’s marketing strategy favorably, and the target’s smaller size reduced the risk of losing customers.
However, the plan between the buyer and the target company didn’t go well. By 2006, the buyer wasn’t meeting the minimum purchase requirement as agreed upon. Issues arose about penalties, business models, and market strategies. After the target company approached one of the buyer’s customers directly, the buyer considered buying the entire target to control operations and strategy. Eventually, the buyer chose to sell its stock in the target company.
This sale happened in 2007. In the buyer’s California tax return for that year, they reported a $309 million capital gain from the stock sale as nonbusiness income. This means they allocated all the gain to their home state, Florida, which had a franchise tax rate of 5-6%.
The Lawsuit:
California’s Franchise Tax Board challenged this, arguing that the $309 million gain should be divided among states using property, sales, and payroll criteria. California’s franchise tax rate was around 9%. The buyer paid the California tax but sued the Tax Board for a refund. The Sacramento Superior Court sided with the Tax Board, stating that the gain should be partly taxable in California as business income. They argued that the buyer’s management and acquisition of the target company’s stock were integral to its regular business operations.
The buyer appealed, and the California Court of Appeals overturned the trial court’s decision. In an unpublished opinion, they determined that the crucial factor was whether the target company’s stock was essential to the buyer’s business when it sold its interest in the company—not whether it had been crucial to the business at any previous time. They instructed the trial court to reconsider the issue based on this perspective.
Comment:
State franchise taxes can significantly affect post-deal earnings projections. Dividing the tax gain isn’t always straightforward, so it’s crucial to anticipate potential conflicts with state tax agencies, especially if the stakes are high.
This case is referred to as Fidelity National Info. Services, Inc. v. Franchise Tax Board, No. C081522, Court of Appeals of California, Third District, Sacramento, (Filed July 27, 2017)
By John McCauley: I help manage the tax risks associated with buying or selling a business.
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
Legal Disclaimer
The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.
Recent Comments