Vermont: Gain from sales of FCC licenses nonbusiness income allocated to Vermont

The Vermont Supreme Court recently held that gain from the sale of two Federal Communication Commission (FCC) telecommunication licenses was allocated to Vermont. The taxpayer initially purchased the licenses for investment purposes. The licenses gave it the exclusive right to broadcast over parts of upstate New York. Other than a certain area, the taxpayer never utilized the licenses to provide telecommunications services in the covered areas.  In 2013, the taxpayer sold its licenses- excluding the carved-out area- which resulted in a substantial capital gain. Following the advice of an accounting firm, the taxpayer reported the gain as nonbusiness income allocated entirely outside of Vermont. On audit, the Department disagreed with this treatment and assessed corporate income tax, interest, and an automatic underpayment penalty against the taxpayer. The taxpayer lost appeals directly to the Commissioner and before a trial court and subsequently appealed to the Vermont Supreme Court.

There was no dispute that the gain from the sale of the licenses qualified as nonbusiness income. A Vermont regulation provides that nonbusiness income is allocated to the state where the income-producing assets are “located” or have “situs.” The regulations further provide that if an asset has neither a location or a situs, “the income is allocated to the state of the business’s commercial domicile, which is defined as “the principle place from which the business is directed or managed.” On appeal, the taxpayer first argued that the licenses were located in New York, rather than Vermont, because the licenses provided the taxpayer a right to broadcast only in specific locations in New York. The taxpayer further argued that, even if the licenses were not located in New York, the taxpayer was commercially domiciled in Connecticut, thus the gain should not be allocated to Vermont.

The Court first rejected the taxpayer’s position that the licenses— intangible assets— were located or had a situs in New York. In reaching this conclusion, the court determined that the terms “location” and “situs” were not intended to mean the same thing and that the term “situs” was a term of art referring to where an intangible asset is constitutionally subject to taxation. Although intangible assets can obtain a business situs regardless of business use, the right associated with the intangible must be fixed in a particular place and laws of that place must have provided protection and benefits. In the instant case, the FCC licenses granted the taxpayer rights to broadcast in New York, but the rights were never used there. In addition, the rights under the licenses were created by the FCC and were never subject to the protection of New York or benefits provided by New York.  Because the licenses lacked a location or situs, under Vermont’s regulation, the gain was required to be allocated to the taxpayer’s commercial domicile. The Commissioner and lower court had concluded that Vermont was the taxpayer’s commercial domicile based on applying a test that gave equal weight to a number of factors, such as the location of the principal office, where the conduct of the day-to-day operations occurred, and where business records and taxes returns were prepared and kept.  In the taxpayer’s view, the most important factor was where the center of authority and control existed. The taxpayer argued that this was the place where its President made decisions and the board of directors met, which was in Connecticut. The court disagreed, holding that the principal inquiry for determining commercial domicile is to consider where a business is managed and directed and that this should be determined by considering a variety of factors. While the location where the board of directors met was relevant to the issue of commercial domicile, it was not dispositive nor was it to be given greater weight than other relevant factors. In the court’s view, the Commissioner did not err in concluding that the taxpayer’s commercial domicile was Vermont and the gain was allocated to Vermont. The court next engaged in a rather lengthy discussion as to whether the imposition of a 23 percent automatic underpayment penalty was constitutionally excessive. The court concluded that it was not. For more information on Vermont National Telephone Company v. Vermont Dep’t of Taxes, please contact Jennifer Bates at 585-263-4004.