ASARCO INC. v. IDAHO STATE TAX COMM'N
Legal provision: Due Process
ORAL ARGUMENT OF GEORGE W. BEATTY, ESQ., ON BEHALF OF THE APPELLANT
Chief Justice Burger: We will hear arguments next in Asarco Incorporated against Idaho.
I think you may proceed whenever you are ready, now.
Mr. Beatty: Mr. Chief Justice, and may it please the Court, the taxpayer Appellant in this state income tax case is ASARCO, a New Jersey company which has its corporate headquarters in New York.
ASARCO's business consists of mining, smelting, and refining copper and various other metals at locations throughout the United States.
Its principal activity in Idaho is the operation of a silver mine.
Because all of ASARCO's mining and processing operations are closely integrated in a functional sense, everyone agrees that it is appropriate for Idaho to apply its three-factor apportionment formula to ASARCO's total operating income in order to determine what portion of that income is properly attributable to the Idaho activities and therefore subject to Idaho tax.
Unidentified Justice: Their total business--
Mr. Beatty: Their total business income from the coordinated operation of their mining, smelting, and refining operations in the United States.
Unidentified Justice: --Yes.
Mr. Beatty: The issue here is whether Idaho can apply the same apportionment formula to dividends, interest, and capital gains that ASARCO received from investments in five other companies which conducted all of their operations totally outside Idaho.
Unidentified Justice: Doing what kind of business?
Mr. Beatty: Three of them were in the mining business comparable to ASARCO's.
The other two were metal fabricators who did no mining themselves but simply manufactured metal products.
Unidentified Justice: Would it be any different in your view if they had a chain of hotels and a chain of supermarkets?
Mr. Beatty: I think there is no question, Your Honor, at all, that if ASARCO operated a chain of hotels, either as a division of ASARCO or as a separately incorporated subsidiary that was wholly owned by ASARCO, that Idaho would be constitutionally barred by the due process clause from taxing any of the income from the hotel operations, whether paid to ASARCO as a share of divisional profits or as a dividend from a separately incorporated subsidiary.
The reason for that is, I think, clear from this Court's prior decisions.
Absent functional integration at the operational level, there is no basis for combining the income of two distinct operations and treating them as though it were one unitary business which earned its income as a whole.
Unidentified Justice: Unless they had a hotel in Idaho.
Mr. Beatty: I am assuming, Your Honor, that the hotel operations are conducted entirely outside Idaho.
I think this point was first established in a dictum in the Adams Express case years ago, when this Court posited exactly the type of question that the Chief Justice just raised, and assumed that a single party owned two separate and distinct operations in different states.
Despite the fact that those operations were wholly owned by the same party so that there was complete common control, this Court indicated that there would be no basis for treating them as parts of a unitary operation, precisely because they were separate and distinct at the operational level.
I think the same point came out very clearly in the dialogue between Justice Stevens and Mr. Dexter of the MTC during the Mobil oral argument several years ago, when you posited the case very similar to the Chief Justice's of a toy operation being conducted by Mobil as a division totally outside Vermont, the taxing state in that case, and I think Mr. Dexter properly recognized that Vermont would be constitutionally barred from taxing any portion of the profits generated by the toy business in that type of situation precisely because there is no functional integration that would call into question the accounting for the separate and distinct operations.
Unidentified Justice: That is whether it was operated as a division or as a sub--
I think that Justice Blackmun's opinion in Mobil makes it absolutely clear that the focal point for the inquiry ought to be the economic realities and not the legal form of doing business.
Specifically, what the Court said in Mobil was that the legal distinction between a subsidiary and a division doesn't affect the economic realities and ought not to affect the apportionability of the income the parent receives, and so--
--On that subject, let me ask you, Mr. Beatty, now, I suppose as to the short-term interest earnings that ASARCO might have in the money market, or short-term securities to maintain cash needs, you concede that that can be taxable by Idaho.
Mr. Beatty: We do.
That, it seems to us, is clearly income earned from ASARCO's regular business activities.
It is employing its--
Unidentified Justice: Well, all right.
Mr. Beatty: --working capital on a short-term basis.
Unidentified Justice: Now, what if it is places it on a little longer term basis, then?
What is the difference?
Mr. Beatty: I think if it places it in permanent investments, in sizeable stock investments, or in debentures, which are involved here to an extent, that that type of permanent investment becomes disassociated from the normal operating--
Unidentified Justice: But it is kind of hard to draw the line, isn't it?
Some of these investments are for longer periods, and some for shorter, and all of a sudden you have a stock acquisition.
How do you reasonably draw the line there?
Mr. Beatty: --I think as in all instances that basically involve factual determinations, that you've got to do it gradually, on a case by case basis, as you see appropriate factual situations developing.
I think there is a clear difference between a very short-term investment, which we are not contesting here, and a permanent long-term investment that is held for many years, as the investments here were.
Precisely where the dividing line should be drawn, whether it should be at a five-year, ten-year, or some other stated maturity, I don't frankly know, but I think--
Unidentified Justice: Well, what standard are we to lay down constitutionally then to make the distinction?
Mr. Beatty: --The basic issue, it seems to me, in these cases is not the treatment of the interest income, but rather the treatment of the dividend income flowing from investments in major operating companies, and there, I think it is clear that the test that you ought to apply is the one suggested in Mobil, Justice Brennan, and that is, are the underlying operations that generate the income used to pay the dividends functionally related with the business activities of the recipient, so that it is impossible to unscramble the business and break it into separate component parts.
If so, then it is a unitary business and the dividends ought to be apportioned along with all the other income of the unitary business.
Unidentified Justice: Without otherwise affecting the apportionment formula?
Mr. Beatty: Certainly not.
If the dividends are going to be treated as apportionable income, then I think it is absolutely essential that the property, payroll, and sales that generated that income be taken into account in the apportionment factors.
Unidentified Justice: All of them?
Mr. Beatty: All of them.
Unidentified Justice: So you think there are only two categories in this business.
They are either unitary or not.
Mr. Beatty: I think that is correct.
It seems to me that if the operations are going to be treated as unitary, and the income is going to be apportioned, Justice White, that it is essential in order to get true apportionment to reflect all of the factors associated with the earning of that income.
Unidentified Justice: So no dividend income can be taken into account unless the denominator changes, too.
Mr. Beatty: Let me indicate our recognition of conceivable exceptions to that rule.
We noted in our brief the possibility that ownership of stock could be a necessary part of the taxpayer's business in the sense that applying the functional standards of Mobil, the ownership is an indispensable adjunct to the conduct of the business, as it would be clearly if the taxpayer holding the stock investments that produced the income were a securities dealer whose business was the buying and selling of stocks.
Another possible example would be that of a contractor who has to post bond in order to bid and perform on jobs, and for that purpose maintains a portfolio of investment securities, be they debt or equity securities that he can use to fulfill his bonding obligations.
There, the ownership of the stock and securities is clearly an adjunct to the actual conduct of the taxpayer's own business, and in that type of situation I think the proper application of Mobil is to look at the functional relationship between the ownership of those securities and the conduct of the taxpayer's business, but nothing of that sort is involved here.
Unidentified Justice: Well, what if ASARCO, in order to develop some sources for materials, wants to get some copper out of some foreign country, and it finds out that in order to do it it has to form a domestic corporation, domestic in that other country, and it can only buy 48 percent of it, and if it wants any of that copper, that's the way it has to do business.
Now, is that one of your exceptions or not?
Mr. Beatty: We have several situations here, and I think it might be helpful to deal with the facts of those situations, because one of the dividend-paying companies here, Southern Peru, comes approximately into the range that you are describing.
Unidentified Justice: Well, are you going to address that?
Mr. Beatty: I will indeed.
Let me describe the two polar cases that we see presented here.
The first is MIM's situation.
The record shows that MIM is a publicly held mining company operating in Australia and England.
Unidentified Justice: Mr. Beatty--
Mr. Beatty: Yes, sir.
Unidentified Justice: --does the record show why ASARCO acquired its interest in MIM?
Mr. Beatty: It does not.
Unidentified Justice: Here it owns--
Mr. Beatty: It is simply described as a long-term investment.
Unidentified Justice: --53 percent of it.
Mr. Beatty: We own 53 percent.
Unidentified Justice: I suppose you know, but if it isn't in the record, I won't ask.
Mr. Beatty: The operations of MIM, as I said, are conducted entirely in Australia and England.
The state district court made an undisputed finding that those operations were carried on entirely independently of ASARCO.
There were virtually no inter-company transactions between the two companies, and there were no common officers or directors.
Unidentified Justice: Well, there is an intimation in the other briefs that economic realities were the cause of this.
Do you agree with that?
Mr. Beatty: Well, there was testimony at trial to the effect that ASARCO decided not to exercise its controlling stock interest in order to elect the board of directors or the officers of MIM because MIM was performing admirably on its own.
It was a separate, free-standing enterprise, run and managed by Australians.
I think that our capacity theoretically to control should not be controlling.
What ought to be controlling is the actual undisputed facts, and there is no dispute about the fact that ASARCO played no role whatsoever in the management or the operation of MIM's mining and smelting activities in Australia and England.
Unidentified Justice: Well, let me go back to my question.
It was in response, I thought, to you statement that there were practically no inter-company transactions with MIM.
Mr. Beatty: Correct.
Unidentified Justice: And I was concerned, I thought there was an inference in the other briefs that this was because of economic realities.
Mr. Beatty: I am sorry, I misunderstood the question.
Unidentified Justice: And I would like your comment on that.
Mr. Beatty: There was an indication that because of the distance between Australia and the United States, it would have been uneconomic in most instances to ship ores and concentrates from Australia to the United States, but I think it is immaterial why there were no inter-company transactions.
The important fact is that there were none.
Unidentified Justice: Do you think it would make a difference if ASARCO had exercised its control and elected all members of the board?
Mr. Beatty: By simply electing board members, Justice White, I don't think ASARCO should have changed the result here.
To me it would be significant only if there were an indication that the management of the working operations was being dictated by ASARCO.
Any major stock investment is going to involve participation by the investor in an oversight manner.
Unidentified Justice: May I ask you, assume that ASARCO did manage it intimately ran the day-to-day operations.
Why would that make it different from a hotel company in which they ran the day-to-day operations?
Mr. Beatty: I don't think that participation in management in and of itself would be significant, Justice Stevens.
I think it would begin to point in the direction of functional integration, and would perhaps call for a closer inquiry as to--
Unidentified Justice: Would that be because you are allocating part of the central office expense--
Mr. Beatty: --Yes.
Unidentified Justice: --to the management?
Is that what it would be?
Mr. Beatty: Yes.
Unidentified Justice: Why wouldn't that be true of a hotel company, too?
Mr. Beatty: Well, to the extent that there is overlapping centralized management so that the hotel company benefits in some way from the operations of the mining company or vice versa, you start to approach the functional integration that was involved in the Exxon case, but you only start to approach it.
Again, I think, as I indicated to Justice O'Connor, all these questions are ones of degree.
Unidentified Justice: Do you think, Mr. Beatty, our cases have laid down any criteria by which one determines functional integration?
Mr. Beatty: I think you have certainly suggested it in the sense that every case--
Unidentified Justice: Have we listed them?
Mr. Beatty: --No, you haven't.
Unidentified Justice: Have you any suggestions what they ought to be?
Mr. Beatty: I think basically you need to look at three factors, Justice Brennan.
Ownership of the different enterprises is clearly necessary, but not sufficient.
Unless there is a substantial degree of common ownership, clearly, there is no basis for finding a unitary business simply because of transactions between the various elements of the activity that you are looking at.
As I indicated earlier, though, 100 percent common ownership I don't think is sufficient to create a unitary business.
You have got to go beyond that.
The second factor that I think should be looked at is the management aspect, and by that I am not referring to the board of directors' supervision of a stewardship nature.
I am referring to management participation at an operational level.
Unidentified Justice: In other words, ASARCO's management has to participate at the operational level of the subsidiary before you have functional integration.
Mr. Beatty: I think so, yes.
But again, I don't think that that is sufficient.
The third and most important criteria that I think you have to look at is the degree to which the various business activities involved are interrelated in some sort of functional working or operational sense.
Mobil's and Exxon's cases presented, I think, clear examples of that.
In each instance, you were looking at a vertically integrated petroleum enterprise that performed all of the functions from exploration to drilling to production to refining to marketing of the end product, and clearly--
Unidentified Justice: But it wouldn't be enough that both are copper mines.
Mr. Beatty: --The fact that both are engaged in the same line of business doesn't thus mean that there is any functional integration.
It simply means that there are two parallel lines of business which may never intersect, and in the case of MIM virtually never did intersect.
Your earlier decisions, I think, reflect this same emphasis on functional integration.
If we go back to the early apportionment cases, Underwood Typewriter, and Bass, Ratcliff, and Moorman, and Northwestern State Cement, all of those cases involved situations where a common owner was manufacturing a product in one jurisdiction and selling it in another, and clearly, that is the classic example of a unitary business that earns its income as a whole.
The manufacturing portion of the enterprise obviously can't earn any income until its products have been sold by the marketing organization.
Unidentified Justice: So that if you had both in the copper business and the subsidiary's product was marketed to customers of the parent, that would be enough?
Mr. Beatty: That is certainly a normal indication of a unitary business, yes.
It is conceivable you might have exceptions, and--
Unidentified Justice: But if it is all marketed in England, and never sees any of the... no customer in the United States so the parent ever gets to it, then there is no functional integration.
Mr. Beatty: --I am not necessarily suggesting that geographical boundary lines determine the extent of a functionally related business.
In Bass, Ratcliff, in fact, ale manufactured in Great Britain was sold in New York by the same company, and you, I think properly, treated that as one unitary business.
Obviously, as you pointed out there, the manufacturing arm earned no income until the product was sold, and it is equally clear that the sales organization could have earned no income unless it had a manufactured product to sell, so that is the classic type of functional integration case.
Unidentified Justice: Now, you were going to get to another polar case, I guess.
Mr. Beatty: The other case that we do need to deal with is Southern Peru, which is at the opposite end of the spectrum from MIM in the array of individual situations presented to you here, because we admittedly did have substantial business dealings with Southern Peru, and it was a source of supply to ASARCO.
The important factors, though, I think, are that ASARCO is the major custom smelter of copper in the United States.
The record shows that at that time it handled roughly 80 percent of the custom smelting business in this country.
ASARCO had numerous supply contracts with many other unrelated parties who sold copper ores and concentrates to ASARCO under long-term contracts comparable to those which ASARCO had with Southern Peru.
There was testimony establishing that the prices charged under those contracts were the same as the prices paid to Southern Peru.
Under those circumstances, it seems clear to us that ASARCO's unrelated suppliers can't be viewed as part of ASARCO's unitary business.
Why should the result be any different in the case of Southern Peru?
Unidentified Justice: What if one of the smelters had been in Idaho?
Mr. Beatty: Hm?
Unidentified Justice: What if one of ASARCO's smelters had been in Idaho?
Mr. Beatty: We are recognizing, Justice Rehnquist, that all of ASARCO's mining, smelting, and refining activities in the United States are one unitary business.
That is our business that is comparable to Exxon's business.
We have included all of our operations from exploration through sale of the refined product in the apportionable income which has been taxed in Idaho and all the other jurisdictions where we operate.
What we are trying to carve out from the apportionable income is the dividend income which ASARCO received from independently operated and managed affiliates and subsidiaries operating overseas and also the income received from customers, General Cable and Revere, in which we had an ownership interest.
Unidentified Justice: So it would have made no difference then even if all the smelters had been--
Mr. Beatty: None whatsoever.
Unidentified Justice: --Mr. Beatty, would you concede that any state can include this income for tax purposes, the domiciliary state, for example?
Mr. Beatty: I think that the domiciliary state can take no more than its fair share of apportionable income.
Unidentified Justice: It is your position that the domiciliary state can't include it all?
Mr. Beatty: Whatever may not be properly apportioned to the non-domiciliary states may be properly available to the domiciliary state under the due process clause.
Under the foreign commerce clause, which we have discussed in our brief, there may be additional problems with the domiciliary state tax.
If I could, I would like to briefly turn to the alternative issue that is raised by this case, involving--
Unidentified Justice: Are you finished with Peru?
You just say, well, why should it be any different than--
Mr. Beatty: --I was trying to suggest that our relationships with Southern Peru, Justice White, were no different from the relationships which we had with many other totally unrelated suppliers of ores and concentrates, all of whom are admittedly not part of our business.
Unidentified Justice: --Well, except you own... how much do you own of Southern Peru?
Mr. Beatty: We own 51.5 percent.
Unidentified Justice: Fifty-one, and you have the power to control it, I suppose.
Mr. Beatty: We have the power to control, but there is--
Unidentified Justice: Do you?
Mr. Beatty: --clear testimony in the record establishing that ASARCO does not control Southern Peru by virtue of bylaws that--
Unidentified Justice: Well, one of your factors is present here that isn't true with the other.
Mr. Beatty: --That is absolutely correct, and we recognize that Southern Peru is not as strong a case from our standpoint as MIM for that precise reason.
But I don't think that it reaches the point of functional integration or unity that is involved in a situation like Exxon's, where a wholly owned enterprise was being conducted in a way that maximized the operating efficiencies.
Unidentified Justice: Well, I suppose you would say Mr. Beatty, that even if the third criterion is met, the second is not, in the case of Southern Peru.
Mr. Beatty: Correct, although we have the capacity to manage, and although ASARCO's officers--
Unidentified Justice: But you don't in fact.
Mr. Beatty: --ASARCO's officers do in fact serve in some years as officers of Southern Peru, we cannot unilaterally control Southern Peru by virtue of this bylaw structure that ensures that the other shareholders collectively can outvote us.
Unidentified Justice: Would your claim on Southern Peru be equally strong if Southern Peru were in fact in southern Florida?
Mr. Beatty: I think it would be the same issue.
Unidentified Justice: And I take it then if ASARCO bought a different metal mine in Utah, and sold all the product from that mine to a Utah smelter, and it was a completely different metal, you just bought the metal, you were in the mining business, but none of that metal ever came to Idaho, that would be an MIM case.
Mr. Beatty: No.
I doubt that, because our domestic operations are so functionally integrated, Justice White, that we would, I think, have to recognize that the--
Unidentified Justice: Well, there would just never be any transactions between the two companies.
Mr. Beatty: --Perhaps we have been unduly generous to Idaho and the other states in the reaction that we have pursued thus far.
But we have not challenged the idea that all of our domestic metals operations are unitary.
We operate only a silver mine in Idaho, as we indicated in our brief.
We could have taken the position that all of our operations involving copper should be totally excluded from any apportionment formula that Idaho applies.
Unidentified Justice: All right.
Mr. Beatty: Let me, if I could, turn just briefly to the alternative questions relating to adjustment of the apportionment factor.
The state urges that no adjustment be made because the income that we are receiving is income from intangibles, and that somehow those intangibles should be viewed as being owned everywhere where our domestic business is being conducted.
That is not the economic realities of this case at all.
The economic realities are that the income in question was generated by the property, payroll, and sales of Mount Isa and Southern Peru and General Cable.
The stipulated record shows that the five dividend-paying companies had aggregate sales in each year of over $1,100,000,000.
Idaho didn't take into account one cent of that money in its apportionment formula.
The record shows that the five dividend-paying companies owned smelters, refineries, mines, seaports, a whole host of property values, none of which Idaho took into account.
Unidentified Justice: But you are saying they have to take all of it into account.
Mr. Beatty: They should take into account, we believe, a pro rata portion--
Unidentified Justice: Oh, so not all of it.
Mr. Beatty: --equivalent to the pro rata portion of the earnings of the enterprise that flow to ASARCO.
Unidentified Justice: Because otherwise you would have to take into account all of the gross income, all of the net income.
Mr. Beatty: We are talking here, the state has conceded in its brief that these operations are not unitary, and it has conceded that a combined report of the sort you will hear about this afternoon would be inappropriate.
We are talking only about the income that was actually received.
The question is--
Unidentified Justice: So you would take a pro rata share.
Mr. Beatty: --what property, payroll, and sales properly belongs to that pro rata share.
I would like to reserve my remaining time, if I could, for rebuttal.
Chief Justice Burger: Very well.
ORAL ARGUMENT OF THEODORE V. SPANGLER, JR., ESQ., ON BEHALF OF THE RESPONDENT
Mr. Spangler: Mr. Chief Justice, and may it please the Court, Idaho's position in this case is really quite simple, and very fundamental, and, we think, entirely consistent with the previous decisions of this Court.
That is that when intangible assets such as, for example, shares of stock, are found to be a part of a taxpayer's own unitary business, that is, when they, the intangibles, contribute to or relate to or are some way in furtherance of the taxpayer's own trade or business, there is no logical or constitutional reason why the income from those same intangibles should be treated any differently than any other business income that that taxpayer might earn.
Unidentified Justice: How about the income from the hotel chain, or the dividends from the hotel chain?
Mr. Spangler: Mr. Justice, I might answer that question by pointing out that the Idaho Supreme Court in this case did not permit apportionment of dividends from a company that was engaged in asbestos mining in Canada.
What the Idaho court found there was that the intangible asset was not held for purposes that were specifically related to or in furtherance of this unitary business that ASARCO admittedly conducts partly in the state of Idaho.
The issue for due process purposes, we think, is whether or not the intangible asset itself, like any other asset that the taxpayer may own, is held for purposes relating to or in furtherance of that unitary business.
Unidentified Justice: I am sorry, Mr. Attorney General.
How did your Supreme Court distinguish the asbestos from what we have here?
Mr. Spangler: What they said, sir, was that these particular asbestos companies, that the shares of stock in those asbestos companies that ASARCO had clearly and convincingly and cogently segregated by showing that those intangible assets--
Unidentified Justice: Was there record evidence on this question?
Mr. Spangler: --Yes, sir, there was record evidence.
There was testimony, and the Idaho court said that because they had shown a complete lack of relationship between the asset, the intangible asset, the shares of stock, and their mining, smelting, and refining of non-ferrous metals activities that they conducted in the United States, that those were not apportionable, and that, I think, is responsive probably to the--
Unidentified Justice: Whereas there are contrary findings as to the affiliates and subsidiaries we have here.
Is that it?
Mr. Spangler: --Precisely, sir.
In regard to the five corporations at issue here, the Idaho court specifically said that ASARCO had acquired and maintained its ownership interest in these companies as an integral and necessary part of its mining and smelting business.
Unidentified Justice: Again based on record evidence?
Mr. Spangler: Yes, sir.
Unidentified Justice: Had those findings been made by your trial court as well?
Mr. Spangler: At the trial court level, the trial judge had concluded to the contrary in regard to these particular subsidiaries, and what the Idaho court said was that in regard to these particular subsidiaries, the trial court's conclusion was not consistent with the evidence that was in the record.
Unidentified Justice: Well, do you think the standard you are urging on us here is the same as the Idaho court applied?
Mr. Spangler: Yes, sir, I do.
Unidentified Justice: You mean, in furtherance of?
Mr. Spangler: The language of the Uniform Act, the Uniform Division of Income for Tax Purposes Act, which is really... the constitutionality of which is really at issue here, the statutory standard that the Idaho court followed was, were these... was this income from tangible or intangible property acquired, managed, or disposed of in the regular course of the taxpayer's trade or business, and that is... before they ever got to the constitutional issue, the Idaho court had to conclude under that uniform statute standard that the intangible assets were related to and in furtherance of the unitary business activity.
Unidentified Justice: Why?
Mr. Spangler: Clearly because--
Unidentified Justice: Those words aren't in the Uniform Act.
Mr. Spangler: --What, the acquisition, management, and disposition?
Unidentified Justice: No, the related to or in furtherance of.
Mr. Spangler: No, those words are not, but they are an integral and necessary part--
Unidentified Justice: That is the standard you are urging on us.
Now, did the Idaho court apply that standard, or not?
Mr. Spangler: --Well, I think... I am intending to use those words with virtually the same meaning, that is, that they are--
Unidentified Justice: Well, why don't you use the Idaho court's words?
Mr. Spangler: --The Idaho court's words were the statutory words which were, are an integral and necessary part.
Unidentified Justice: Well, why don't you use them?
Why don't you use them?
Mr. Spangler: Yes, sir.
Unidentified Justice: Well, you don't... I just wondered why you don't.
Mr. Spangler: I guess because I didn't perceive a constitutional difference between those.
If they are an integral--
Unidentified Justice: I am not sure there is, but it just sounds like a different standard.
Mr. Spangler: --Yes, sir.
If they are an integral and necessary part in the statutory language of the taxpayer's trade or business.
Here, for example, you have heard of Southern Peru being a source of raw materials, copper concentrates for the smelters that were part of the unitary business in the United States.
Other companies were... and under the record, major customers of ASARCO.
Unidentified Justice: On that customer point, directing your attention to General Cable, which I understand was partially owned and then sold, and as I understand the business relationship continued to be the same before and after the sale.
Is that correct?
Was it a necessary part of the integrated business at one time and not at another time, or at both times, or neither?
Mr. Spangler: No, the... we don't see that the continuing customer-supplier relationship before and after the sale is necessarily relevant.
What we think was that the... that ASARCO did not, and the Idaho court properly concluded did not show that the shares of stock were unrelated to the business activity.
I think there are a couple of things that are sort of getting confused here.
One of the prior questions was, are there two things here.
Are there just unitary and not unitary.
We don't think there are just two things here.
We think there are three things.
That is, you have this situation like with the asbestos companies where the shares... the companies are not functionally integrated with the taxpayer, nor are the shares of stock held for purposes related to the business activities.
You then have on the other end of the spectrum, and there were six subsidiaries with ASARCO that were held to be so functionally integrated, so interdependent in their business operations that they should be included in a combined report, with the result that all of the income was in the apportionable base, the dividends were eliminated, and the property, payroll, and sales of all six were included in the apportionment formula.
That is the issue that you will have later this afternoon in the Chicago Bridge and Iron v. Caterpillar case.
This is really the third case.
This is the case where the payor and the payee corporations are not so functionally integrated that they are together conducting one single unitary business operation, but the shares of stock, the assets are held for purposes that are an integral and necessary part of that unitary--
Unidentified Justice: May I ask, to be sure we have it clearly understood, do you concede that this intermediate category is not part of the unitary business?
Mr. Spangler: --We have conceded, or we have not asserted that those subsidiary corporations are themselves together engaged with ASARCO in one unitary business.
We do not concede--
Unidentified Justice: And you have conceded that they are not part of the unitary business?
Mr. Spangler: --The companies themselves are not.
The intangible assets--
Unidentified Justice: But the income from the companies is what you say is the only part of unitary business.
Mr. Spangler: --The intangible asset and the income earned from the intangible asset.
Unidentified Justice: Then explain to me, how does that income either increase or decrease the profitability of the Idaho operations?
That is ultimately what we are searching for, the earnings of the Idaho operation, is it not?
Mr. Spangler: Because the Idaho operations are part of this overall unitary business, and were apportioning unitary income, what we are looking to is those activities that relate to the entire unitary income--
Unidentified Justice: But you are only looking to out-of-state activities insofar as they affect the profitability of the in-state activities.
Is that not true?
Mr. Spangler: --Yes, sir, but because the in-state activities are part of this inseparable unitary business that--
Unidentified Justice: Well, but we are talking about now, a group of companies that are not, as I understand your concession, part of the unitary business.
Mr. Spangler: --Yes, sir, but the point I seem not to be getting across is that we don't see that there is a different due process standard for different kinds or classes of income.
The due process standard is, first, you know, is there a nexus--
Unidentified Justice: Well, is it not clear that the purpose, the entire purpose of the due process standard is to measure the profitability of the in-state operations?
Mr. Spangler: --Well, yes, sir.
Unidentified Justice: And unless it affects the profitability of the in-state operations, you are constitutionally prohibited from taxing out of state income?
Mr. Spangler: Yes, sir, and our point is that it does affect the profitability of the in-state operation, because that in-state operation is part of this inseparable unitary business, and these intangible assets, as distinguished from the corporations, the other corporations themselves, are also part of that inseparable unitary business, and because intangibles by their very nature have no particular geographic source, then when they relate to where... to every place where the business activity occurs, that it is entirely reasonable and constitutional to say that all of the states where that unitary business activity occurs have a constitutional right to tax a fairly apportioned share of that income.
Unidentified Justice: Well, on that basis, your integral and necessary part standard goes right out the window.
You just say, if the unitary business as you define it, excluding these companies, has any kind of income whatsoever, whether it comes from an intangible asset that is an integral and necessary part or not, is to be taken into account.
Mr. Spangler: No, sir.
If they are part of the intangible asset being an integral and necessary part--
Unidentified Justice: Well, give me an example of some income of this unitary business that you wouldn't want to apportion.
I don't understand why you would agree to the asbestos set-aside, then.
Mr. Spangler: --Well, the question there, of course, was a question of--
Unidentified Justice: That is certainly... they owned a business in Canada.
And it is a mining business.
Mr. Spangler: --That is a mining business.
Unidentified Justice: And it is income, and you get dividends from it.
Mr. Spangler: Yes, sir.
Unidentified Justice: So how do you put that aside?
Mr. Spangler: The issue there is an issue of fact.
They were mining businesses.
They did own it.
But the record that was established was related to things like the technological differences in regard to asbestos as opposed to others, and the lack of any relationship or contribution of the asbestos company, very much like a motel chain--
Unidentified Justice: Well, income.
Income to the unitary business.
Mr. Spangler: --No, income from activities.
The activities that are relevant are the... in using the statutory standard... the management, acquisition, and disposition of intangible properties.
That is, ASARCO is not mining in Canada or mining in Southern Peru.
That is, that is not the activity... excuse me.
That is not the activity--
Unidentified Justice: But you are conceding that it is income from operations that are not a part of the unitary business.
Mr. Spangler: --No, sir.
That is not what I am conceding.
What I am conceding is--
Unidentified Justice: Well, then, I misunderstood you earlier.
Mr. Spangler: --What I am conceding is that the--
Unidentified Justice: Let me ask again.
Are these intermediate companies part or not part of the unitary business?
Mr. Spangler: --The payor corporations--
Unidentified Justice: The payor corporations.
Mr. Spangler: --have not been found to be part of the unitary business.
Unidentified Justice: They are not.
Mr. Spangler: --If they were--
Unidentified Justice: Now, how does not income from those corporations differ from income from the asbestos company then?
Mr. Spangler: --Because we are failing to--
Unidentified Justice: They both paid to the unitary business.
Mr. Spangler: --We are failing to distinguish that the income is ASARCO's income not from mining in Southern Peru, but from its acquisition, management, and disposition of these shares of stock which assured it sources of--
Unidentified Justice: But then how are they different from acquisition, management, and shares of stock in a hotel company or an asbestos company?
Mr. Spangler: --Because if they did own stock in the hotel company, there would be no relationship with the mining business.
That is, that intangible asset would be unrelated to the mining business.
This intangible asset, the shares of stock in the mining company that provided them a guaranteed source of supply, is related to this unitary business, part of which is conducted in the state of Idaho.
Unidentified Justice: Well, just being related, then, satisfies the integral and necessary part standard?
Just being related.
As long as your intangible relates to the mining business, it is ipso facto an integral and necessary part.
Mr. Spangler: Well, sir, I guess I keep falling in that same... in that same trap.
I do think that the statutory--
Unidentified Justice: Well, it isn't a trap.
I am trying to figure out what your standard is.
Mr. Spangler: --Well, my standard, Your Honor, or the standard of the Idaho... was the standard of the Idaho court, which is statutory language.
The intangible asset has to be an integral and necessary part of the taxpayer's regular unitary business activities.
Unidentified Justice: Well, now you tell us all you have to do is satisfy that is to have some relationship.
Mr. Spangler: --Not... I suppose not any relationship.
Unidentified Justice: Well, that is what... that is the way you distinguished the hotel business.
You say, it just doesn't have any relationship to the mining business.
Mr. Spangler: It is not an integral and necessary part of the mining business.
It makes no contribution, does not act in furtherance of the mining business.
Here, the intangible assets did make contributions, or they were in furtherance of, they were... or at least ASARCO had failed to show that in the--
Unidentified Justice: What about asbestos in Canada?
Mr. Spangler: --The evidence that persuaded the Idaho court was that there was such a different... such difference in that business activity that it made no contribution at all, and--
Unidentified Justice: Well, do you agree the Idaho court was right in that respect?
Some of the things you have been saying suggest--
Mr. Spangler: --Well--
Unidentified Justice: --that maybe you don't, but in any event, you didn't seek any review of that, did you, by a court?
Mr. Spangler: --Well, because that was part of the Idaho court's interpretation of the Idaho statute, it would presumably--
Unidentified Justice: You were bound by it.
Mr. Spangler: --Right, we were bound by it, and part of the problem had to do--
Unidentified Justice: Well, maybe that is not a fair question to ask--
Mr. Spangler: --Well, part of it.
Unidentified Justice: --but I will ask it anyway.
Do you agree with the Idaho court as to the asbestos?
Mr. Spangler: In the sense that we probably didn't make as much... as good a factual record in regard to the asbestos companies as we maybe should have at trial.
If we had made a better record, we might have gotten a different result there.
But on the record that it had--
Unidentified Justice: Or if ASARCO hadn't made such a good one.
Who put in the evidence?
Mr. Spangler: --Either way, Your Honor.
Unidentified Justice: Mr. Spangler, let me approach this same question that I think is troubling others, and see if you can help my understanding as well.
One approach that would give the most latitude to the states in taxing income, I suppose, would be to say that making investments by a company is always part of the unitary business, so whether it is a short-term investment or a long-term investment, it is always part of the unitary business in that sense.
Is that right?
That would be the approach that would give the states the most latitude.
Mr. Spangler: Yes, ma'am.
That would be the approach that would give the state the most latitude.
Unidentified Justice: But you are not urging us to adopt that approach.
Is that right?
Mr. Spangler: That's right.
We're not saying that every investment--
Unidentified Justice: But short-term investments, you would urge us to adopt that approach.
Is that correct?
Mr. Spangler: --Yes, ma'am.
Unidentified Justice: But not long-term investments.
Mr. Spangler: No.
Unidentified Justice: And where would you draw the line?
Mr. Spangler: I would not draw the line between long-term and short-term investments at all.
I would look to what is the purpose for making this investment, whether it is an investment in a... whether it is a short-term investment of working capital, whether it is a long-term investment in shares of stock, whether it is an investment in tangible plant.
I would look to the purpose of the investment and say, is this investment being made for purposes which are an integral and necessary part of the taxpayer's unitary trade or business, and I would not apply, as ASARCO is asking the Court to do here, a different due process standard to one category of investment as opposed to another.
What ASARCO is saying is that fine, if it is an investment, a short-term investment of working capital, the fact that that is part of the unitary trade or business is sufficient to allow it to be fairly apportioned, but they want to establish a stricter or a more... a higher standard when the investment happens to be in shares of stock.
Now, we don't think that the standard is different, whether it is investments in shares of stock, whether it is investments in working capital, whether the income is being earned from short-term accounts receivable, or whether it is investment in the physical operating factories and mines, that the same due process standard applies, and once... you know, they have not contended that the Idaho court was wrong in its factual conclusion.
That is, they have not contended that the intangible shares of stock were not acquired and maintained as part of ASARCO's integral and necessary trade or business.
What they have said is that in the case of the shares of stock, there is an additional standard, that is, functional integration, and as we read Mobil, what this Court rejected in that Mobil decision was the idea that some special due process standard applied to dividends, that instead, whether... whatever the category of intangible or whatever the category of asset producing the income, the Court said that it was still incumbent upon the taxpayer to carve out some clear and cogent exception.
Now, the functional integration language in ASARCO is useful to help show that there was a business purpose, that the... was a part of or that... at least that Mobil had not shown that these assets were not part of its regular trade or business activities, but it is the business purpose for which those intangibles were held, in our view, that is the significant thing for due process purposes, not whether or not there was or wasn't functional integration.
If there was functional integration, then we would combine, and we would view that as one single business entity, and we would in Idaho recognize the property, payroll, and sales of the entire business activity, and we would eliminate the inter-company transfers, including the dividends.
Once that's clear, you know, once it's clear that the justification for the apportionment is the fact that this is an asset which is part of that business activity, then it becomes clear, we think, that there is no logic at all to reaching outside the confines of that unitary business activity to bring in the property, payroll, and sales of some other business for the purpose of apportioning that, any more than you would in the case of interest on a trade account receivable.
You would not say that the customer must be functionally integrated, or that you must reflect the property, payroll, and sales of that trade--
Unidentified Justice: Mr. Spangler, would you take the position that if they were part of the functionally integrated business, then you would apply the sales, property, and payroll factors?
Mr. Spangler: --Yes, sir, and that is exactly what we have done in this case.
Unidentified Justice: That is what you did with oh-six.
Mr. Spangler: Yes, sir.
Unidentified Justice: Yes.
Mr. Spangler: And that is why we say that rather than there being simply two circumstances, unitary or not unitary, there is really three, because we are talking about, are they functionally integrated as one business activity, or are they... are the assets held for business purpose or is neither true.
Unidentified Justice: How many states have the... follow the Idaho approach of there being a third category?
Do you know?
Mr. Spangler: Your Honor, not specifically.
A majority of the income tax states have adopted the Uniform Act, and--
Unidentified Justice: Yes.
They interpret it differently, I suppose.
Mr. Spangler: --Your Honor, at least all of the state supreme court cases that have reached the issue have interpreted it consistently.
Chief Justice Burger: You may proceed, counsel.
Mr. Spangler: Thank you, Your Honor.
Chief Justice Burger: Well, I think we will resume there at 1:00 o'clock.
Mr. Spangler: All right.
Chief Justice Burger: Mr. Spangler, you may continue.
ORAL ARGUMENT OF THEODORE V. SPANGLER, JR., ESQ., ON BEHALF OF THE APPELLEE -- CONTINUED
Mr. Spangler: Thank you, Mr. Chief Justice, and may it please the Court, returning to the discussion that we had this morning about the standard that was applied, of course, the standard that the Idaho court applied first, in the first instance, was a statutory standard, and then it proceeded to say that that statutory standard was consistent with the due process requirements of the Constitution.
That is not to say, of course, that the statutory standard is necessarily, as applied by the Idaho court, is necessarily equal to the full extent of what that constitutional standard might be.
I would think in terms of trying to formulate a constitutional standard there are probably two questions that should be asked in regard to income such as that that is at issue here, to determine whether or not there is a violation of the due process clause.
The two questions are, what is the purpose of the investment, and the second is, how is the income used?
If in answering those two questions the taxpayer is able to show that the purpose of the investment has no relation at all to its regular business activities--
Unidentified Justice: How could you show that?
How could you show that in any case?
Wouldn't it be bound, any income they had, wouldn't it be bound to enhance their total operations?
Mr. Spangler: --Depending upon how the income was used.
That was the second question.
If the income flows straight through, for example, and does not enhance... you know, to the ultimate shareholders, and does not in any way enhance the business activities or the ability to do business, that may well meet that standard.
If the taxpayer is able to show that total lack of relationship, then it would have done what this Court seemed to say in Mobil when it was talking about carving out something different about the particular income that distinguishes it from other business income of the taxpayer.
Unidentified Justice: Mr. Spangler--
--I gather you start with the presumption then, do you?
Mr. Spangler: I am sorry, sir?
Unidentified Justice: You start with a presumption.
You say the taxpayer has the burden of proving it.
Mr. Spangler: Yes, sir.
In fact, our statute starts with the presumption that statutorily the taxpayer has the burden of proof, and of course the assessment is being made by the state, which does procedurally put the taxpayer in the position of having the initial burden of proof.
Unidentified Justice: Initial burden of proof or ultimate burden of proof?
Mr. Spangler: Well, the ultimate burden of proof, I suppose.
The state has to make a conclusion, has to come to a conclusion before it makes the assessment in the first place.
Yes, that's true.
Unidentified Justice: Mr. Spangler--
Mr. Spangler: Yes, ma'am.
Unidentified Justice: --assuming that the dividend income is taxed at the source by the foreign government, is it your position that Idaho can also tax it?
Mr. Spangler: Yes, ma'am.
It is our position that there is no foreign commerce issue involved here at all, because the activities generating the income are the taxpayer's activities in the United States.
Mobil decision recognized the concurrent... or the established norm of concurrent state and federal taxation.
That is, both states and the federal government tax the same net income of taxpayers.
The mechanism that works at the federal level is conceptually entirely different than the mechanism that works at the state level.
The mechanism at the federal level is, the taxpayer is given the election of a credit or a deduction... most take credits... for the foreign taxes that have been paid.
Unidentified Justice: Well, it is a mechanism for avoiding double taxation, right?
Mr. Spangler: That's... yes, ma'am.
The mechanism that functions on that concurrent subsidiary level or the lower level at the state is the apportionment of the income based on where the activities occur.
Unlike the federal government, we don't claim that we can tax all of the income wherever earned and then give an offsetting credit.
It is mixing up these two different levels, if you try to say that you have to apply the credit mechanism to the apportionment process, which is conceptually an entirely different method for reaching the result of taxing only that--
Unidentified Justice: Do you think Congress could prescribe what is apportioned?
Mr. Spangler: --Yes, sir.
There is no doubt in my mind that Congress could enact legislation in this area through its powers to regulate both interstate--
Unidentified Justice: And foreign.
Mr. Spangler: --and international commerce, but I think clearly they have not done that in this area.
The only thing they have done is limit... enact some nexus requirements.
That same reasoning is also fallacy in the idea that it is logical to reach out beyond the confines of this unitary business to attribute the property, payroll, and sales of the payor corporation to the payee, and I think there is a lot of confusion that gets caused by this business... by this term "unitary", because we are really talking about two related but somewhat different things.
The first is the contours of the unitary business itself.
The unitary business may be, that business enterprise, the enterprise, may be conducted by one corporation or a group of corporations.
Here, it was seven corporations that were conducting the unitary business enterprise.
The other aspect of it is what income of that enterprise is attributable to its regular business activities.
Unidentified Justice: You don't regard the term "unitary business" as a word of art, but simply kind of a descriptive phrase?
Mr. Spangler: --It is a phrase that has been used in a lot of these cases.
Unidentified Justice: Yes.
Mr. Spangler: It is not a statutory phrase at all, and I think it has been used to describe in some of these cases and some of the arguments, to describe those two different things, and because it has, it has caused some confusion.
Unidentified Justice: Well, it was used in connection with deciding constitutional issues.
Mr. Spangler: --Yes, sir.
Unidentified Justice: I wouldn't think it would be some statutory standard.
Mr. Spangler: Well, yes, sir.
You did say in Mobil that the unitary business principle is the touchstone of apportionability, but we still... we do see--
Unidentified Justice: You talk as though the Uniform Act governed us or something.
Mr. Spangler: --Sir, I don't follow the question.
Unidentified Justice: You needn't.
It is just my observation.
Mr. Spangler: All right.
But the underlying concept that we keep coming back to is understanding that distinction between the contours of the enterprise that constitute a unitary business.
Conceivably that unitary business could be less than the full activities of one corporation, or it could be a group of corporations or only one corporation.
Unidentified Justice: Mr. Spangler, can I ask you, is this a correct understanding of your test of relatedness for the intermediate category?
Would it be that the security is owned by the taxpaying entity or the unitary business for a reason related to the unitary business other than the income that it produces?
In other words, for example, you own stock in a customer because you think it will buy from the--
Mr. Spangler: Yes, sir.
Unidentified Justice: --You have to find a reason other than the mere fact that it generates income.
Mr. Spangler: Yes, sir.
The mere fact that it generates income--
Unidentified Justice: In other words, a sufficient reason for having the investment other than--
Mr. Spangler: --Other than the mere generation of the income, and the two questions that I suggest are, you know, what is the purpose for the investment, is it a customer or source of raw materials, or conceivably what is the income used for.
Unidentified Justice: --But if you answer the first question in a way that is favorable to your position, you really don't need to answer the second one, do you?
Mr. Spangler: Yes, sir.
That would be correct.
Unidentified Justice: Yes.
Chief Justice Burger: Thank you, counsel.
Mr. Spangler: Thank you.
Chief Justice Burger: You have one minute remaining, Mr. Beatty.
ORAL ARGUMENT OF GEORGE W. BEATTY, ESQ., ON BEHALF OF THE APPELLANT
Mr. Beatty: In Mobil, the Court stated that the lynchpin of apportionability is the unitary business principle.
You repeated that statement--
Unidentified Justice: Everyone repeats that in his brief.
Mr. Beatty: --Right.
You repeated the statement in Exxon.
Unidentified Justice: Did we say what a unitary business was?
Mr. Beatty: --No, I think it is defined, Your Honor, but the cases, and I hope that in response to Justice Brennan's question I outlined the three factors that we think are important, ownership, management, and most important of all, the degree of functional relationship at the operational level.
The state here has conceded in its brief, and Mr. Spangler has twice said during oral argument today that the five dividend-paying companies involved in this case were not part of ASARCO's unitary business.
We think the undisputed facts in the record of this case, and there is absolutely no dispute about those facts, bears out the correctness of that concession, and on that we rest our case.
Unidentified Justice: But may I ask one question?
That just makes this income from those companies like the income in Mobil from, say, the utility company.
Remember the list of subsidiaries.
Now, clearly, the utility companies were not part of Mobil's unitary business.
But supposing Mobil could... or supposing the state in that case could have proved that Mobil could only sell its products to one of those utilities if it was also a shareholder, that it was just necessary in order to generate the sales.
Would the income from the utility stock then have been treated as part of the unitary business?
Mr. Beatty: May I first begin with the observation that in Mobil, there was absolutely no proof at all of the relationship--
Unidentified Justice: I understand.
Mr. Beatty: --between Mobil and those companies, so the decision in Mobil, it seems to me, proves nothing.
The taxpayer lost in that case because of the failure of proof.
Unidentified Justice: I understand.
Mr. Beatty: If the record showed that an investment was made purely and simply for the purpose of obtaining needed supplies or providing a customer outlook, if that were the only purpose of the investment, I think it might indeed be relevant.
It might be one of the cases that you were suggesting earlier where ownership of the stock was so integrally involved in the taxpayer's own business activities that it would be a part of the unitary business.
Unidentified Justice: So you would acknowledge then there could be an intermediate category, but you just define it more strictly than the state would.
Mr. Beatty: I do.
You might in that connection want to take a look at a case called W.W. Windell, 65 TC 694, which discussed somewhat similar problems as they arise under federal tax law.
That case held that the existence of a significant business motivation for an investment did not convert the business investment from the normal capital asset status that it would have for federal tax purposes into a business asset that would give rise to ordinary income or loss on disposition.
I do not want to suggest in any sense that the constitutional test ought to be the same as the federal income tax test, but if you wanted to pursue that line of inquiry, it seems to me that that is a line of cases that you might want to look at.
Unidentified Justice: Mr. Beatty, when you answered Justice Stevens, yes, there is an intermediate category, but you would define it more strictly, I take it you would still insist on the other leg of your argument, that there should be a change in the denominator.
Mr. Beatty: Absolutely.
Chief Justice Burger: Thank you, gentlemen.
The case is submitted.