December 04, 2017
On November 28, the New Jersey Tax Court issued an opinion in Infosys Limited of India, Inc. v. Director, Division of Taxation, Dck. No. 012060-2016, that denied the Division of Taxation’s attempt to tax foreign income subject to an income tax treaty between India and the U.S. and thus, not taxable for federal income tax purposes. In granting summary judgment and a significant refund in favor of the taxpayer, the Tax Court addressed New Jersey’s position on what is included in a taxpayer’s entire net income subject to the Corporation Business Tax (“CBT”). Entire net income with state-specific adjustments is the tax base for CBT purposes.
Infosys is an international company engaged in the business of providing services and support in technology, software engineering and information technology outsourcing. The company maintains its largest presence in India, but also has a branch in the U.S. In accordance with Internal Revenue Code section 8833 and Article 7 of the Convention for the Avoidance of Double Taxation between the U.S. and India (the “treaty”), Infosys reports as federal taxable income only the amount of income attributable to its U.S. branch office.
On its original CBT returns, Infosys reported its worldwide income to New Jersey. However, it subsequently filed amended returns which reported its entire net income for CBT excluding any income not attributable to the U.S. Branch office. The company’s position is that since its federal taxable income before net operating loss and special deductions excludes the foreign income, its entire net income for CBT purposes should exclude the same income. This position is based on the CBT statute defining entire net income to be:
deemed prima facie to be equal in amount to the taxable income, before net operating loss deduction and special deductions, which the taxpayer is required to report…to the United States Treasury Department for the purpose of computing its federal income tax… N.J.S.A. 54:10A-4(k).
The company’s amended return position is also supported by the Tax Court’s decision in IBM Corp. v. Director, Division of Taxation, 26 N.J. Tax 102 (2011), which stands for the proposition that the Division cannot try and tax extraterritorial income which is not included in federal taxable income before net operating loss deduction and special deductions absent a specific legislative directive to do so. Or in other words, for CBT purposes, the state and the taxpayer are stuck with taxable income before net operating loss and special deduction as reported for federal income tax purposes unless there is a specific New Jersey statute which deviates from this tax base.
The Division tried to argue that its regulations and other Tax Court decisions (Toyota Motor Credit and Ford Motor Credit) call for a departure from the IBM case because the CBT is imposed on “total net income from all sources, whether within or without the United States…” N.J.S.A. 54:10A-4(k). The Tax Court, however, rejected the Division’s arguments and granted the taxpayer’s refund predicated on excluding the foreign-source income.
The takeaway from the case is that New Jersey CBT taxpayers that included foreign income in the tax base that was not included in federal taxable income should have a significant refund opportunity. This would apply to treaty-exempt income as well as income that is not sourced to the U.S. in accordance with federal income tax rules.