NECESSITY, FUNCTION, AND CONFORMITY:
141.202 establishes the general rules for
combined unitary reporting in Kentucky.
131.130(1) authorizes the
Department of Revenue to promulgate administrative regulations necessary to
administer and enforce Kentucky's tax laws.
141.050(4) requires the
Department of Revenue to promulgate administrative regulations and rules
necessary for the proper administration of KRS Chapter 141. This administrative
regulation establishes terms and procedures required for the implementation of
combined unitary reporting in
group" is defined by
(2) "Corporation" is defined by
(3) "Designated Filer" means the taxpayer
member of the combined group annually designated per
141.202(9) to file the
(4) "Person" is defined by
(5) "Taxpayer" is defined by
(6) "Unitary Business" is defined by
Fifty (50) Percent Ownership Test.
Separate corporations may be part of a combined group only if they meet the
fifty (50) percent ownership test in
The fifty (50) percent test shall be
satisfied in the following circumstances:
A parent corporation and one (1) or more corporations or chains of corporations
which are connected through voting stock ownership with the parent, whether the
ownership is direct or indirect, but only if:
1. The parent owns more than fifty (50)
percent of the outstanding voting stock of at least one (1) corporation;
2. If applicable, more than
fifty (50) percent of the outstanding voting stock of each of the corporations,
other than the parent, is owned by the parent, one (1) or more corporations
owned by the parent as described in subsection (1) of this section, or one (1)
or more corporations that satisfy the conditions of this
(b) Any two
(2) or more corporations, if over fifty (50) percent of the outstanding voting
stock of each of the corporations is owned, or indirectly owned, by the same
(c) Any two (2) or more
corporations, over fifty (50) percent of whose voting stock is cumulatively
owned (without regard to the indirect ownership rules described in subsection
(2) of this section) by, or for the benefit of, members of the same family.
Members of the same family shall be limited to an individual, his or her
spouse, parents, brothers or sisters, grandparents, children and grandchildren,
and their respective spouses.
Except as otherwise provided in this
section, voting stock is "owned" if title to the stock is directly held or if
the voting stock is indirectly owned. The stock attribution rules of Section
318(a) of the Internal Revenue Code,
, shall be used to
determine if the voting stock is indirectly owned except if a person has an
option to acquire stock or other ownership interests in an entity, the stock or
ownership interests are not considered owned by the person unless the
department determines it to be necessary to prevent tax avoidance.
(3) In determining ownership, effective
control over election of the board of directors shall be considered. For
example, a group of shareholders acting in concert who collectively own over
fifty (50) percent of the voting stock of each of two (2) or more corporations
shall be considered to be common owners of more than fifty (50) percent of the
voting stock of each of those corporations. "Voting stock" refers only to those
shares of voting stock having the power to elect the corporation's board of
directors. If the power otherwise held in corporate stock to vote the
membership of the board is transferred to another, other than a transfer of
proxy only, the holder of that power shall be considered to be the owner of
that stock to the exclusion of the transferor of that power.
(4) In addition to the tests in subsection
(1) of this section, the department may consider any other circumstance that
tends to demonstrate that the fifty (50) percent direct or indirect common
ownership test was met, or was not met.
Membership in a combined group shall be
treated as terminated in any year, or fraction thereof, in which the conditions
of subsection (1) of this section are not met, except as follows:
(a) If stock of a corporation is sold,
exchanged, or otherwise disposed of, the membership of a corporation in a
combined group shall not be terminated if the requirements of subsection (1) of
this section are again met immediately after the sale, exchange, or
(b) The department may
treat the combined group as remaining in place if the conditions of subsection
(1) of this section are again met within a period not to exceed two (2)
Unitary Business Principle.
The concept of a Unitary Business.
(a) The flow of value to an entity located in
this state that comes from being part of a unitary business conducted both
within and without this state is what provides the constitutional due process
"definite link and minimum connection" necessary for this state to apportion
appor-tionable income of the unitary business, even if that income arises in
part from activities conducted outside the state.
This sharing or exchange of value may
also be described as:
1. Requiring that the
operation of one (1) part of the business be dependent upon, or contribute to,
the operation of another part of the business: or
2. If the activities of one (1) business
either contribute to the activities of another business or are dependent upon
the activities of another business, those businesses are part of a unitary
Constitutional requirement for a Unitary Business.
(a) The sharing or exchange of value
141.202(2)(f) and subsection
(1) of this section that defines the scope of a unitary business shall require
more than the mere flow of funds arising out of a passive investment or from
the financial strength contributed by a distinct business undertaking that has
no operational relationship to the unitary business.
(b) In this state, the unitary business
principle shall be applied to the full extent allowed by the U.S. Constitution.
The unitary business principle shall not be applied to result in the
combination of business activities or entities under circumstances where, if it
were adverse to the taxpayer, the combination of the activities or entities
would not be allowed by the U.S. Constitution.
(3) Separate trades or businesses conducted
within a single entity. A single entity may have more than one (1) unitary
business. In these cases, the apportionable income attributable to each
separate unitary business as well as its non-apportionable income, which is
specifically allocated, shall be determined. The apportionable income of each
unitary business shall then be apportioned by a formula that takes into
consideration the in-state and the out-of-state factors that relate to the
respective unitary business whose income is being apportioned.
(4) Unitary Business unaffected by formal
business organization. A unitary business may exist within a single entity or
among a group of entities meeting the fifty (50) percent ownership test in
141.202(2)(a) and in Section
2 of this administrative regulation.
Determination of a Unitary
(1) A unitary business shall be
characterized by significant flows of value evidenced by factors such as
functional integration, centralization of management, and economies of scale.
These factors provide evidence of whether the business activities operate as an
integrated whole or exhibit substantial mutual interdependence. Facts
suggesting the presence of these factors shall be analyzed in combination for
their cumulative effect and not in isolation. A particular business operation
may be suggestive of one (1) or more of the factors mentioned above.
Description and illustration of
functional integration, centralization of management, and economies of scale.
Functional integration. Functional
integration shall refer to transfers between, or pooling among, business
activities that significantly affect the operation of the business activities.
Functional integration shall include transfers or pooling with respect to the
unitary business's products or services, technical information, marketing
information, distribution systems, purchasing, and intangibles such as patents,
trademarks, service marks, copyrights, trade secrets, know-how, formulas, and
processes. A specific type of functional integration shall not be required. The
following is a list of examples of business operations that may support the
finding of functional integration. The order of the list does not establish a
hierarchy of importance.
1. Sales, exchanges,
or transfers (collectively "sales") of products, services, or intangibles
between business activities may provide evidence of functional integration. The
significance of the intercompany sales to the finding of functional integration
shall be affected by the character of what is sold or the percentage of total
sales or purchases represented by the intercompany sales. For example, sales
among entities that are part of a vertically integrated unitary business are
indicative of functional integration. Functional integration shall not be
negated by the use of a readily determinable market price to effect the
intercompany sales, because those sales may represent an assured market for the
seller or an assured source of supply for the purchaser.
2. Common Marketing. The sharing of common
marketing features among entities shall indicate functional integration if the
marketing results in significant mutual advantage. Common marketing exists if a
substantial portion of the entities' products, services, or intangibles are
distributed or sold to a common customer, if the entities use a common trade
name or other common identification, or if the entities seek to identify
themselves to their customers as a member of the same enterprise. The use of a
common advertising agency or a commonly owned or controlled in-house
advertising office shall not by itself establish common marketing that is
suggestive of functional integration. That activity, however, shall be relevant
to determining the existence of economies of scale or centralization of
3. Transfer or Pooling
of Technical Information or Intellectual Property. Transfers or pooling of
technical information or intellectual property, such as patents, copyrights,
trademarks and service marks, trade secrets, processes or formulas, know-how,
research, or development, shall provide evidence of functional integration if
the matter transferred is significant to the businesses' operations.
4. Common Distribution System. Use of a
common distribution system by the entities, under which inventory control and
accounting, storage, trafficking, or transportation are controlled through a
common network shall provide evidence of functional integration.
5. Common Purchasing. Common purchasing of
substantial quantities of products, services, or intangibles from the same
source by the entities, particularly if the purchasing results in significant
cost savings or if the products, services or intangibles are not readily
available from other sources and are significant to each entity's operations or
sales, shall provide evidence of functional integration.
6. Common or Intercompany Financing.
Significant common or intercompany financing, including the guarantee by, or
the pledging of the credit of, one (1) or more entities for the benefit of
another entity or entities shall provide evidence of functional integration, if
the financing activity serves an operational purpose of both borrower and
lender. Lending which serves an investment purpose of the lender shall not
necessarily provide evidence of functional integration.
Centralization of Management.
Centralization of management shall exist if directors, officers, or other
management employees jointly participate in the management decisions that
affect the respective business activities and that may also operate to the
benefit of the entire economic enterprise. Centralization of management may
exist whether the centralization is effected from a parent entity to a
subsidiary entity, from a subsidiary entity to a parent entity, from one (1)
subsidiary entity to another, from one (1) division within a single entity to
another division within an entity, or from any combination of the foregoing.
Centralization of management may exist even if day-to-day management
responsibility and accountability has been decentralized, if the management has
an ongoing operational role with respect to the business activities. An
operational role may be effected through mandates, consensus building, or an
overall operational strategy of the business, or any other mechanism that
establishes joint management.
Providing Evidence of Centralization of Management. Evidence of centralization
of management shall be provided if common officers participate in the decisions
relating to the business operations of the different segments. Centralization
of management may exist if management shares or applies knowledge and expertise
among the parts of the business. Existence of common officers and directors,
while relevant to a showing of centralization of management, shall not alone
provide evidence of centralization of management. Common officers may be more
likely to provide evidence of centralization of management than are common
Distinguished. Centralized efforts to fulfill stewardship oversight shall not
provide evidence of centralization of management. Stewardship oversight shall
consist of those activities that any owner would take to review the performance
of or safeguard an investment. Stewardship oversight shall be distinguished
from those activities that an owner may take to enhance value by integrating
one (1) or more significant operating aspects of one (1) business activity with
the other business activities of the owner. For example, implementing reporting
requirements or mere approval of capital expenditures may evidence only
Economies of Scale. Economies of scale
shall refer to a relation among and between business activities resulting in a
significant decrease in the average per unit cost of operational or
administrative functions due to the increase in operational size. Economies of
scale may exist from the inherent cost savings that arise from the presence of
functional integration or centralization of management. The following are
examples of business operations that may support the finding of economies of
scale. The order of the list does not establish a hierarchy of importance.
1. Centralized Purchasing. Centralized
purchasing designed to achieve savings due to the volume of purchases, the
timing of purchases, or the interchangeability of purchased items among the
parts of the business engaging in the purchasing shall provide evidence of
economies of scale.
Administrative Functions. The performance of traditional corporate
administrative functions in common, such as legal services, payroll services,
pension and other employee benefit administration, among the parts of the
business may result in some degree of economies of scale. An entity that
secures savings in the performance of corporate administrative services due to
its affiliation with other entities that it would not otherwise reasonably be
able to secure on its own because of its size, financial resources, or
available market, shall provide evidence of economies of scale.
Indicators of a Unitary Business.
type of business. Business activities that are in the same general line of
business shall generally constitute a single unitary business, as, for example,
a multistate grocery chain.
Steps in a vertical process. Business activities that are part of different
steps in a vertically structured business almost always constitute a single
unitary business. For example, a business engaged in the exploration,
development, extraction, and processing of a natural resource and the
subsequent sale of a product based upon the extracted natural resource, is
engaged in a single unitary business, regardless of the fact that the various
steps in the process are operated substantially independently of each other
with only general supervision from the business's executive offices.
(3) Strong centralized management. Business
activities tha might otherwise be considered as part of more than one (1)
unitary business may constitute one (1) unitary business if there is a strong
central management, coupled with the existence of centralized departments for
functions such as financing, advertising, research, or purchasing. Strong
centralized management shall exist if a central manager or group of managers
makes substantially all of the operational decisions of the business. For
example, some businesses conducting diverse lines of business may properly be
considered as engaged in only one (1) unitary business if the central executive
officers are actively involved in the operations of the various business
activities and there are centralized offices which perform for the business
activities the normal matters which a truly independent business would perform
for itself, such as personnel, purchasing, advertising, or financing.
Taxable Year of the
Combined Group. The combined group's taxable year shall be determined as
(1) If two (2) or more members of a
group file a federal consolidated return, the combined group's taxable year
shall be the taxable year of the federal consolidated group; or
(2) In all other cases, the taxable year
shall be the taxable year of the designated filer.
Members with Different Accounting
If the taxable year of a member
differs from the taxable year of the combined group, the designated filer shall
elect to determine the portion of that member's income to be included in one
(1) of the following ways:
(a) A separate
income statement prepared from the books and records for the months included in
the combined group's taxable year; or
(b) Including all of the income for the year
that ends during the combined group's taxable year.
(2) Except as provided by subsection (3) of
this section, the same method shall be used for each member with a different
accounting period. Once an election is made under this section by attaching a
statement to the return, it shall be the only method that may be used with
respect to members of the combined group.
A designated filer may request to change
the method in subsection (1) that is used to determine the portion of a
member's income to be included in a combined group by utilizing the method to
petition for alternative apportionment as established in
Designated Filer. Responsibilities
of designated filer.
Access to records.
In addition to the information required to be included in the combined group
return, upon request of the department, the designated filer shall provide
(a) The tax and financial records
of members of the combined group that are part of the combined group but do not
have Kentucky nexus; and
Non-financial records of the combined group.
(2) Filing. The designated filer shall file a
combined group return on behalf of the combined group together with all returns
and schedules required by the Department.
(3) Payment. The designated filer shall
timely remit to the department the Kentucky corporate income and limited
liability entity tax imposed on the combined Kentucky net income and receipts
of the combined group.
Notices mailed to the designated filer shall be deemed to have been mailed to
each of the members in the combined group.