Physical Presence Bright-line Nexus Standard Rejected for Income Tax
On October 12, 2006, the New Jersey Supreme Court issued a per curiam opinion affirming a lower court decision that held that the Commerce Clause “substantial presence” test did not require a physical presence for purposes of the state’s Corporation Business Tax (corporate income tax). Lanco, Inc. v. Director, Div. of Taxation, Docket No. A-89-05 (N.J. October 12, 2006).
At issue was whether New Jersey could constitutionally subject a foreign corporation to the Corporation Business Tax when the corporation had no physical presence in New Jersey but derived income through licensing agreements with a company conducting retail operations in the state.
Lanco, Inc. (“Lanco”) licensed intellectual property, consisting principally of trademarks, trade names, and service marks, to Lane Bryant, a clothing retailer. Lanco had no real or personal property or personnel in the state. The Tax Court held that the lack of physical presence in the state constitutionally precluded New Jersey from imposing its income tax on Lanco. On appeal, the New Jersey Superior Court (Appellate Division) held in Lanco, Inc. v. Director, Div. of Taxation, 879 A.2d 1234 (N.J. Super. 2005) that the physical presence requirement applicable to sales and use taxes as laid down by the U.S. Supreme Court in Quill Corp. v. North Dakota, 504 U.S. 298, 112 S. Ct. 1904 (1992) did not apply to income taxes and reversed the Tax Court.
In affirming the Superior Court decision, the Supreme Court noted that a split of authority had developed regarding whether Quill was limited to sales and use taxes but believed that the better interpretation of Quill was the one adopted by those states that have limited the U.S. Supreme Court’s holding to sales and use taxes. Consequently, the New Jersey Supreme Court affirmed that New Jersey could constitutionally apply the Corporation Business Tax to a taxpayer without physical presence in New Jersey.
New Jersey is the second state whose highest court has sanctioned an economic nexus approach to taxing corporations without physical presence. South Carolina was the first with its Supreme Court decision in Geoffrey, Inc. v. South Carolina Tax Comm’n, 437 S.E 2d 13 (S.C. 1993). A number of state lower courts have also ruled on this issue, and it was to these decisions that the New Jersey Supreme Court was referring when it noted that there was a split of authority on the issue of physical presence for income tax nexus.
Lanco has 90 days from the New Jersey’s Supreme Court’s decision to file a petition for certiorari with the U.S. Supreme Court.