United States

Georgia Tax Tribunal rules Texas franchise tax is an income tax

Tax paid by flow-through can be deducted on individual returns

TAX ALERT  | 

Update:

On July 13, 2015, the Georgia Tax Tribunal issued its final consent order in Rosenberg, under which the parties agreed not to appeal the tribunal’s ruling. Pursuant to the order, Georgia-resident owners of pass-through entities subject to the Texas franchise tax may apply a subtraction modification for his or her distributive share of entity-level Texas franchise tax paid. This modification is calculated by multiplying the entity’s pre-apportioned Georgia-adjusted income by its Texas apportionment factor, and then multiplying this amount by the owner’s distributive share of partnership income. Georgia-resident owners of pass-through entities subject to the Texas franchise tax should consider the impact of the finalization of this case on their 2014 returns and all other years open for adjustment.


On Nov. 25, 2014, the Georgia Tax Tribunal issued its decision in H. Alan Rosenberg v. Douglas J. Macginnittie, Commissioner, Georgia Department of Revenue, holding that that a Georgia resident individual taxpayer who indirectly owned an interest in a flow-through entity that paid the Texas franchise tax was entitled to adjust his federal taxable income under Ga. Code Ann. section 48-7-27(d)(1)(C) for the amount of entity-level tax paid to Texas because the Texas franchise tax is a tax "on or measured by income."

The taxpayer owned an interest in a Georgia limited liability company (LLC 1) treated as a partnership for federal and Georgia tax purposes and an interest in a Georgia corporation that has elected to be treated as a S corporation (S Corp 1) for federal and Georgia tax purposes. LLC 1 and S Corp 1, in turn, owned interests in a number of other pass-through entities, including a limited liability company (LLC 2) that operated in Texas and was subject in its separate capacity to the Texas franchise tax on its taxable margin. In his original Georgia personal income tax return for the tax year in question, the taxpayer reported his flow through income from LLC 1 and S Corp 1, but did not reduce his tax base by the amount of Texas franchise tax paid by LLC 2. The end result of this approach was that the taxpayer effectively incurred two layers of tax on the same income even that all income was earned in a flow-through solution.

Pursuant to Ga. Code Ann. section 48-7-27(d)(1)(C), provides that a "Georgia individual resident who is a partner in a partnership, who is a member of a limited liability company taxed as a partnership, or who is a single member of a limited liability company which is disregarded for federal income tax purposes may make an adjustment to federal adjusted gross income for the entity's income taxed in another state which imposes on the entity a tax on or measured by income." Based on this provision, the taxpayer filed an amended Georgia income tax return for the year in question reflecting a refund resulting from the adjustment of the taxpayer’s federal adjusted gross income by the amount of Texas franchise tax paid by LLC 2. The Georgia Department of Department denied the refund claim stemming from this adjustment on the grounds that (1) the Texas franchise tax, a privilege tax on gross receipts, is not a tax on or measured by income as required by Ga. Code Ann. section 48-7-27(d)(1)(C), and (2) even if the Texas franchise tax was on or measured by income, it is not a tax on or measured by net income, which term must be read into the language of Ga. Code Ann. section 48-7-27(d)(1)(C). The Georgia Tax Tribunal strongly disagreed with the contentions of the Department, concluding that (1) the Texas franchise tax is clearly on or measured by income, regardless of whether the tax liability is calculated using 70percent of total revenue, total revenue minus cost of goods sold, or total revenue minus compensation, because the calculation always begins with total revenue, which, by definition, is interchangeable with "income" and "gross income" for statutory interpretation purposes, and (2) the Departments attempt to read the term "net" into Ga. Code Ann. section 48-7-27(d)(1)(C) violates the basic tenets of statutory construction and runs contrary to established precedent.

Georgia resident individuals who own interests in flow-through entities should review their Georgia personal income tax filings in light of this decision to determine whether any refunds would be due.

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