Arkansas Alternative Apportionment Upheld

The Arkansas Office of Hearings and Appeals (OHA) recently ruled in five separate corporate income tax decisions¹ that the Department of Finance and Administration (DFA) did not abuse its discretionary power in requiring the use of alternative apportionment. In each case, the exclusion of the property factor from the apportionment factor was ruled not fraudulent, arbitrary, or capricious.

The OHA noted that the DFA had the power to require the use of an alternative method of apportionment when the state’s provisions under the Uniform Division of Income for Tax Purposes Act do not fairly represent the business of the taxpayer in the state. It was also determined that the DFA was not required to follow tax treatments from previous audits, adhering to the policy that each year stands alone. 

In one case, Docket No. 22-700, the DFA rejected the taxpayer’s claim that the interest income should be sourced to where the taxpayer does business, even though it was incorporated in Arkansas as a domestic corporation. In its assessment, the DFA sourced that income to Arkansas and included it in the numerator of the Arkansas sales factor and removed the taxpayer’s property factor. The DFA noted that almost all of the taxpayer’s income was the interest income from a loan issued by an Arkansas corporation to another corporation operating solely in Arkansas that deducted the associated interest expense. The DFA believed that the only way to avoid the sourcing of the income to Arkansas is if the income was nonbusiness income sourced to the taxpayer’s commercial domicile. Unfortunately, the income was conceded to be business income in the taxpayer’s protest. The DFA considered any other interpretation to present a matching issue where deductible expenses in Arkansas may be related to income not taxed by Arkansas.

In three of the five cases involving a net operating loss—Nos. 22-457, 22-699, and 22-700—the Administrative Law Judge concluded that the statute of limitations does not bar adjustment to prior years’ net operating loss. Ark. Code Ann. § 26-18-306(a) (Repl. 2020) provides that generally an assessment must be issued within “three (3) years from the date the return was required to be filed or the date the return was filed, whichever period expires later.” Ark. Code Ann. § 26-18-306(e) (Repl. 2020), however, provides that “if a taxpayer understates a state tax due by an amount equal to or greater than twenty-five percent (25%) in any return or report or in the case of an income tax, if the taxpayer underreports net taxable income by twenty-five percent (25%) or more, the Secretary of the Department of Finance and Administration may assess the tax due or begin an action in court for the collection of the tax due at any time prior to the expiration of six (6) years after the return was required to be filed or the date the return was filed, whichever period expires later.” In these cases, the adjustments were being made within the timeframe allowed by the statute.

¹ Arkansas Department of Finance and Administration, Opinions No. 22-457, 22-017, 22-069, 22-700, 22-701. (09/12/22).

TECHNICAL INFORMATION CONTACTS:

Mark L. Nachbar
Principal
Ryan
630.515.0477
mark.nachbar@ryan.com

Mary Bernard
Manager
Ryan
401.272.3363
mary.bernard@ryan.com

The material presented in this communication is intended to provide general information only and should solely be seen as broad guidance and not directed to the particular facts or circumstances of any individual who may read this publication. No liability is accepted for acts or omissions taken in reliance upon the content of this piece. Before taking (or not taking) any action, readers should seek professional advice specific to their situation from Ryan, LLC or other tax professionals. For additional information about this topic, please contact us at info@ryan.com.