Alabama: Composite Return Requirement is Constitutional

The Alabama Court of Civil Appeals recently upheld the state’s mandatory composite income tax return requirement for passthrough entities with nonresident members. The taxpayer, a Virginia LLC that earned income in Alabama, challenged the constitutionality of the statute imposing the requirement. The LLC, which had no members that were Alabama residents, argued that the statute violated the Due Process and Commerce Clauses of the U.S. Constitution.

Under Alabama law, passthrough entities are required to file a composite income tax return on behalf of their nonresident members. Tax is imposed on the nonresident members’ distributive share of the passthrough income at the highest applicable marginal rate, and the tax is to be remitted with the return. The taxpayer argued that because the tax is imposed on a passthrough entity only when it is owned by nonresident members, the statute was facially unconstitutional. The court disagreed, holding that the composite return acted as a withholding mechanism. Further, any nonresident member on whose behalf the tax was paid received a credit for the tax paid by the pass-through entity. Thus, the final amount paid by residents and nonresidents for their distributive shares of an entity's taxable income was equal, despite the distinction in the manner of collection. Please contact Irisa Wood with questions on Black Eagle Minerals LLC v. Department of Revenue.