Insights on California Tax Law with Michael Cataldo (Part 1)

Hosts & Guests

Stacey Roberts, State and Local Tax Director

Meredith Smith, State and Local Tax Senior Manager

Michael Cataldo, Shareholder at Cataldo Tax Law, P.C.


Insights on California Tax Issues with Michael Cataldo (Part 1)

[00:00:00] Introduction: Welcome to SALTovation. The SALTovation show is a podcast series featuring the leading voices in SALT, where we talk about the issues and strategies to help you make sense of state and local tax. Today, we share with you part one of our conversation with Michael Cataldo of California based Cataldo Tax Law, P.C.

In these conversations, we share with you insights into publications released by the franchise tax board related to public law 86-272 sourcing for sales apportionment purposes and some recent tax cases. SALTovation is joined by special guest host, Stacey Roberts, follow us and let us know your thoughts.

[00:00:40] Meredith Smith: Hi everyone, and welcome back to the SALTovation podcast. Today. We have a special guest with us to talk kind of all things, California, and learn about what they're doing, what some stuff has been pushed out as our, you know, one of our more populous states. We, uh, have a lot to learn from. So Michael, if you wanna kind of give us an introduction, we'll get right in.

[00:01:00] Michael Cataldo: Absolutely. Thank you, Meredith. Thank you, Stacey. So my name is Michael Cataldo and just a little background about myself. I graduated USF law school in 1999. Went to NYU, uh, to get my L O M, which I completed in 2001. At which point I became employed by the franchise tax board in their legal division and stayed there for about three years.

And I went onto, uh, big four accounting and works at ERs and young for three years, mainly I was doing, uh, consulting work in memos and whatnot at ERs and young. And then later became more compliance, which led me to then part, because that was really not my cup of tea. And I went over to a, uh, big off feels, very, went through up shop Pitman, their law firm and their salt practice.

I was there for a little over 12 years and then in 2018, Started my own practice tax law, which is where I am now doing largely the same thing, which is, uh, mainly California income franchise tax, as well as sales and use tax. But my practice is, and has always really been, uh, multi jurisdictional. So I take matters in any state.

And then there's also the, the local. Issues, uh, San Francisco is a, is a big one Oakland and then also property tax work. Yep.

[00:02:24] Meredith Smith: WEAs Colorado residents love those locals. That's right. So we're very familiar.

[00:02:29] Michael Cataldo: Oh yeah. I'm sure you are on a different

[00:02:31] Meredith Smith: scale scale, right?

[00:02:33] Michael Cataldo: I don't have the nightmare. You have no, ,

[00:02:36] Meredith Smith: it's a different nightmare.


[00:02:39] Michael Cataldo: like, California's got. You know, in San Francisco, Oakland, Los Angeles, mm-hmm mm-hmm . Those are like the main local ones where there's a lot of on their, on their local, like gross seats, taxes. Mm-hmm property tax disputes are also local as well. So those are all over the place, depending on the property values.

[00:03:00] Meredith Smith: Right. Which you know, in California are really low. So I don't understand how it could be material at all.

[00:03:06] Michael Cataldo: Yeah. Not to mention all of the crazy rules for, uh, assessments and, uh, prop 13, um, like to keep your base year value. Low is a, is a big one, which is, uh, unusual for folks outside of California to see.

[00:03:21] Meredith Smith: all good stuff. So with that, you know, with that range of experience, right, you've got franchise tax board, you've got public accounting, you've got private law practice. Do you find that kind of throughout the span of your career and kind of focusing, you know, being based in California, you know, for seems like a large chunk of your career, if not the whole time, do you think there's just like a reoccurring thing?

That keeps coming up with the FTB and in the state, or is it just kind of all over the place or, you know, do they like to pick on something in particular, you know, or is it kind of what's on top of the mind at that moment?

[00:04:03] Michael Cataldo: Well, and this is probably speaks to just the multi-state practice in general, but over the years there's been sort of.

Gradual shifts where my clients used to be mainly located in California and now more and more of them are located outside the state. Like my clients are like, yeah, California's great. I don't pay. I pay, pay nothing. Now with all market based sourcing, all my stuff is outta state. Don't really need you that much anymore, but Hey, I've got a friend, who's got a business in New Jersey, New York or somewhere else, and California's knocking on their door and all of a sudden their bills are a lot, a lot higher.

So this big shift, uh, in multi-state practice because of, because of this really sort of exporting the, uh, tax revenue to, uh, out Staters. But as far as like FTDs favorites, uh, I don't think that's really changed a lot. Residency is a huge one. California's personal income tax rate is sky high. And then when you consider, uh, that there's no special rate for capital gains, California becomes almost as significant as federal when you have a large transaction.

So there is an incentive to, uh, leave several re. For these large transactions and FTB is, is all over that. And then there's always the secondary issue with residency as well. How about source? Because if you're a, non-resident perhaps this massive gain has a source in California. So they're big on that unitary determinations for the, uh, for the corporate folks.

That's, that's a, a pretty hot area as far as activity. And I really think we're just starting and it's gonna become, it's gonna O. It's gonna be the main thing that isn't already is sourcing sales of other than tangible personal property under market based sourcing. The main reason is we have a single sales factor in California have economic, not even economic factor presence, nexus standard, which is triggered based on sales.

So you're looking at these market based sourcing rules, not only to determine what your portion of percentage is, but do you even have filing applic? And the answer's not always clear or the rules and guidance that, that we've been given. So a really, uh, huge issue is, is market based sourcing, cuz not only does it determine nexus and you know, you owe zero, zero, do you have a 0% or a hundred percent depending on how you interpret a particular rule or anywhere in between.

So that's where I see it. So you going,

[00:06:42] Stacey Roberts: yeah. Which is not too uncommon from what, from what we deal with and then kind of wrapping those all into one, you know, we, especially then when you're dealing with kind of humans on the opposite end of that versus corporations, when, you know, we have a client who.

Kind of a, a really unique business that is doing really, really well. They're a pass through entity with, with unique set of facts where their customers are insurance companies. Right. But insurance, if it's state farm based in Bloomington, Illinois is ensuring houses in California. You know, it's not Illinois, that's getting that benefit.

It's actually the residents in California where the policyholders are that, you know, this company supports. So there's that sourcing challenge, but then it's flowing up to an individual who's a non-resident but also ping tax at 12.3%, or just shy of that based on, you know, the ratios of federal AGI and all that nonsense.

So it's yeah, we. Those are kind of those top three, all, you know, nicely packaged to one of our, our large human clients.

[00:07:53] Michael Cataldo: Right? Yeah. And there's a lot of folks like that. And I don't know if you're familiar with this metropolis case that just was released by a court of appeals in California, which talks about just that as far as like business entities, income flowing up into ultimately, what is an individual tax under personal income tax laws?

And the personal income tax laws have a rule. It's the mobile rule. It says you source gain from intangibles to the state of residency. But in this metropolis case, the gain was the sale of business at the S Corp level. And what the court held was that, Hey, we look at the apportionment at the S Corp level and whatever, California apportioned income at the S Corp level flows through to the individual.

And. Becomes California source income for that individual. The taxpayer argued. This was an intangible income because almost all the gain, all the gain I believe was, um, from the sale of Goodwill, which is an intangible. Well, the court didn't agree and said, you just basically, you flow it through portionment equals California source income for non-residents.

So was

[00:09:07] Stacey Roberts: that case board decided on, well, or maybe a combination of sourcing and unitary

[00:09:13] Michael Cataldo: rules, it didn't go up on unitary. Uh, it, it, I mean, you have to have a unitary business, right. Apply any of these rules, but there was no question that there was unitary business. It was the pap spewing company. So they were, you know, pretty large international corporate taxpayer, and they had a lot of activity in California, but there's been an FTB has been fighting this fight since.

Before I was even at FTB and there was a state board of equalization case venture communications, but the state board of equalization came out the other way, but it was an unpublished opinion and FTB didn't like it. They actually promulgated regulations contrary to it. And litigation ensued. Here we are.

She's almost 20 years later, more than 20 years later, probably since they've been fighting this. And now we finally have resolution, although we don't know. They will, uh, seek review by the California Supreme court, which is possibility and they may overturn, but there is now a published court of appeals decision on this issue.

[00:10:18] Stacey Roberts: Yeah. Which is contrary to kind of what the other big kind of pass through holdings, you know, the vast holdings outta of Massachusetts, you know, within the last couple months, but it was. Different set of facts, right? It wasn't gain reported at the S Corp. It was gain reported at the shareholder level and whether or not it was Massachusetts source gain.

And again, kind of looking at the unitary principle kind of that they focused on as Stacy had mentioned. So just, you know, it's always funny and it seems like here recently, maybe people or it's more publicized or what the people are really paying attention to. Right. It's always an issue. It's always been a pain for us as practitioners of like, well, what are we gonna do with this giant occasional gain?

Right, right. Mm-hmm to like how we're gonna treat it correctly, especially again, from pastors. A lot of it has to affect humans. Right? Yep. And so it's a lot. The emotional attachment to writing a 12 million check from a human is much D than, you know, a corporation or like a business entity writing a 12 million check.

[00:11:22] Michael Cataldo: Oh yes, absolutely. Absolutely. And you know, this is such a common area for me is business non-business income. So it's, it's very frequently a case. I get involved in, start with a sale of a company where you get a mm-hmm and it used to be a little more debatable. And it's still not completely decided, but I mean, what is it business or not business income.

You have to like, look at that question. Perhaps there's a chance you can say it's not business income. In which case you would source any game to the commercial domicile of the seller. But we have the functional tests, which is pretty clear now. And, uh, so then you gotta look at well, was this a unitary business, maybe the connections with California or whatever's, you're debating the there's a different unitary business, maybe.

Hey, this is a separate unitary business from the unitary business being conducted in California. And you can't tax gain from one unary business based on factors of another. So those are big issues they come up and then the second part of it is, okay, so perhaps it is business income. Now, how do we assign.

The game, uh, and then we kind of fall right into the, um, the enforcement regulations that they have now on market based sourcing and looking at, how did you of portion, what was your apportionment percentage in the year of sale? Okay, well, that's how much we're taxing you. And lastly, and this is every time it's like a practice when you have a substantial sale and there's, there's an audit.

It's like, you really need to quickly look at the other states. What happened in the other states? Is there refund sitting there, perhaps? Did you overpay and maybe you truly believed it was non-business income and you paid a hundred percent of the tax on the game to your state of commercial homicide.

Now you're getting audited in by California or another state saying, Hey, if this is business income, we're gonna get our cut. Well, you might want to file a claim with the commercial domicile state before the statute of limitations on refunds expires, then you're really just set up to pay double tax. So that's like the first thing I do is where else have you paid any amount of tax?

What was your position? Let's make sure we're protecting you. I mean, sometimes I've gotten involved in a case where it was like, oh no, we're getting. Hammered with this business income case, and then took a look at all the other states and we turned what they thought was getting hammered into something nominal in the end.

When you look at the aggregate, all right, well, we'll get refunds here and there and there. And okay. So maybe we can negotiate here and not totally win. And you kind of mitigate the potential damage. Yeah.

[00:14:03] Stacey Roberts: Trying to explain that concept of business income versus non-business income to the unknowing. It's like, but I'm not in the business.

I don't know, selling land or whatever, but it's like, okay, fine. But did you use that land in order to create all your other business income? And it's almost a given that if you call something non-business income, you will be audited like 100%. There's a lot

[00:14:26] Michael Cataldo: of money there. Yeah,

[00:14:27] Stacey Roberts: exactly. One of my, one of my first MIS like this still like haunts me to my day to the day I.

I don't remember what I was doing, but I put, I accidentally put a gain on the wrong line as an adjustment on the return and it didn't get caught. This is like over 15 years ago, I think. And it came out as like non-business income and automatically got audited by the state of Montana, which generally isn't one of those well known states to you.

Pick on someone, but because I had that gain on a non-business line, we got audited and this stupid thing like carried on for like two, three years because of just like a mistake. So it's like, I always am hypersensitive to that, like business non-business kind of just classification. Or position, right? Or, yeah, that was, that was right.

That was, that was a Whoopie. Well, yeah, that was a Whoopie,

[00:15:26] Michael Cataldo: right? It's funny. You went to Montana cuz I just had a Montana case wrapped up on business, non business income and. That was quite a challenge. We ended up settling at a really, really good rate, but they were very aggressive. So they, they saw non business income and they were full guns.

Blazing allied signal never happened. Everything's business income. There's no such thing. Wow. Case law there that actually, uh, there, they had the Supreme court case, uh, Montana Supreme court case. It was, um, Ward box company. And it ended up going to the us Supreme court at the same time as like the, the Woolworth case and then, and a couple of others.

And then those cases said, Hey, you know, there is a limit, the unary business principal does limit state's ability to tax sent back down and they said, oh, but you, you admitted it because you filed. This way in other states, that was the end of it. Oh, now you've got the Supreme court case, which is they say is, you know, everything's unitary in any case, we settled at a good, good rate.

[00:16:29] Stacey Roberts: We settle to, um, on that one, because what also is really trippy is kind of in, California's got that, is that kind of the distortion rules, right? Where, you know, but it's being, it's in a portionment concept where it's like, you can pull it outta your factor, but then you still have the gain. In your tax in your business, in your tax base.

Mm-hmm so it's like, you're, you're kind of getting, it's not equal representation, which is really frustrating.

[00:16:59] Michael Cataldo: Yeah. I mean, and these issues come up all the time and there is room. To argue about it. Now, California has their rule and their regulation where substantial and unusual sales are thrown out of sales factor.

But the income is still in there. Mm-hmm question is, Hey, is this a fair reflection of income? Mm-hmm sometimes it's not. So you, but I mean, the regulation applies. It's a regulation under 25,137, which is their alternative fortune statue. So now that it's a final regulation it's as if this is the regular rule, but you can challenge that regular rule under alternative proport to say, this is not fairly reflecting, what's going on, right.

Factor representation. It's similar to the notion of getting dividends from foreign companies. Uh, the dividends just in, well, can we get some, no, we're just gonna tax that based on the portionment that has nothing to do with the dividends that, that doesn't really fly. There's definitely a, a of arguments and, and room for getting representation in the, in the.


[00:17:54] Meredith Smith: good stuff. So let's kind of shift. These are all kind of like intermingled, but there's a couple things and I'm Stace. What do you wanna, what do you wanna pick Michael break brain on first? Well, I kind of wanna take a step backwards cause I feel like we've had. Even all through my career, too, like questions about just nexus in general.

Right. And a lot of, and myself included a lot of cha practitioners, clients, taxpayers will look to kind of California's rules to say, okay, what, what are they saying? Because it there's a lot published. Right? And that can be good and that can be bad. So I think one of the things that I've ha had a lot through my career as a state and local tax practitioner, and I've got, you know, I've had other people call me or, you know, we've been brought in, in certain situations to say, okay, we think we have nexus in California because we've exceeded the $500,000 rule, or we know that it's index for inflation.

So you started out 500 it's, you know, gone up over, over. But I'm not always so sure that that's really something to hang your hat on because I feel like the it's a little bit of a trap for the unwary, the doing business standard. And so I just would love to get your thoughts on that because I feel like, you know, if you're registered done, obviously you're doing business.

Or if you have these, you know, if you meet these bright line, Done you have nexus or if you're just otherwise, you know, doing business in the state. So I feel like that kind of otherwise deriving or otherwise doing business is a real trap for the unwary. So I'd just like to get your

[00:19:27] Michael Cataldo: thoughts on that.

Yeah. I, I mean, I think you hit the nail on the head. There's there's three ways you're done

[00:19:34] Stacey Roberts: or you're just got done regardless, right?

[00:19:37] Michael Cataldo: yeah. One is by virtue of qualifying with this California secretary of state. So you're. Coming now you have filing. The other is you hit the thresholds in the factor, present statute.

It's uh, 23 1 2. Oh, there's a, and B a is what the old school nexus basically. Uh, and any transaction for pecuniary gain or profit in the state creates nexus. The state board of equalization interpreted that provision to require physical. And there's B presence next to statute. So you could have, you know, Property payroll or sales in the state exceeding their, the amounts.

And it's almost 700,000. Now it started at 500,000. So you can have them in any of those ways. So you may have less than 500,000 or whatever the amount is of sales in California, but you sent a sales representative, California. Now you got it under a, the old school way because there's a crypto and Tyler pipe.

Classic Supreme court cases that say, it doesn't matter if they're employees or independent contractors, if they're there to establish or maintain a market, then that's efficient to create nexus. So, and then another thing to think about, and this is where it gets. I don't know. You're having to explain it to humans.

Um, is when you have flow through entities and flow through entities, it's just, Hey, you know what? We're gonna flow through your California source income all the way till not quite till you get to a person to all to entities and those count towards your sales factor number. So now, but at the end of this, you've gotta a person there say tell you it's Ancor, or it could be an LLC at the very end of it.

It's an individual. And here's your tax bill. You have all these entities have nexus. Why? Because the lowest one had it lowest 501,000. And your, or your share of it is 500, 1000 all the way through. And then the individual who is not even subject to these nexus provisions pays tax because FTDs view and it's in the statute.

Um, You have California source income as a non-resident you pay tax doesn't really address, Hey, you know, you might have some due process arguments for not it's just comes out and says you have California source income. You pay tax for individuals,

[00:22:06] Stacey Roberts: which is also. Kind of an interesting cuz at, at some point, you know, there was the opportunity to say, okay, yes, I exceeded California's factor presence rule.

Let's say we're truly a remote seller. Right. We have $700,000 will adjust that number for inflation. We'll claim 86, 2 72 and not pay income tax. Here's your $800 and we'll just move on. But then now you have kind of that modernization of 86, 2 72 from the NT MTC perspective and California, I believe was the, the first jurisdiction to kind of GLM onto those new changes or modernizations or whatever you wanna call.

Pain in the butts and they're in their Tam from earlier this year, that kind of even negates the ability to hang your hat on 86, 2 72. If you essentially operate a website.

[00:23:05] Michael Cataldo: Yeah, you really, there's gonna be more to come on this. And whether it's be through audits and appeals or other rulings, you gotta remember these Tams legal rulings, chief council rulings are FTB legal stats, views.

Of of the law. So they're guidance and their views, but they're not the law. Uh, there's a lot of debate about whether this MTC project told Denny water, is this, you know, can you change what, what is stated in the federal statute? I mean, their argument is we're dis interpreting it it's always been this way, but the world didn't have the internet when they made it right.

But about now it's here. So they're gonna have to. And the states California included and all, all the states are always a step behind technology. Maybe more than a step, couple steps behind. It's like, Hey, if you get stuff via. Email. It's like, you might as well say facts. I mean, where are we now with this?

What are, are they possibly gonna be eliminated in the future? And we have something else and now we're like, oh, cookies. Well, we don't have cookies cuz they don't exist anymore. But really what they're looking, the, the things they say as far as the website is they, they piggyback off of what Wayfair said about, um, virtual presence.

And they said, Hey, that's a good idea. Let's use, let's use that sort of thinking with the federal statute. That limits a state's ability to impose an income tax, even though Wayfair was a sales tax, but that gave them the idea. And they went through and at the MTC, I mean, there was, you know, over, you know, a year, couple years of back and forth about what we're gonna do.

And California came out new, York's got their drafts regs that are about to go final, pretty much what the MTC said. And you look at it and they're looking at, okay, is there an FAQ button where you can talk to someone live, live chat? Like if I email someone directly and ask a question and get emailed back directly, that doesn't seem to, there's a little button on the website.

I click that creates an email that suddenly becomes activity in the state. And to me, that's the big challenge for all of the states that are pushing this. Is, are these things that are done over the internet sufficient to activity within the state for the person viewing it? I dunno. It seems like a stretch to me.

Maybe not, maybe, maybe it worked and I'm, I'm not hammering the, the desk on either side because there's also folks who may benefit from this. And that would to have been getting throwback sales to their, their sales factor now, and FTB even mentions this kind of in the Tam. Second to last paragraph. Hey, you know what?

P 86, 2 72 protection also. Required you to throw back your sales from California to these states cuz pale 86, 2 72 protected you. But now with this new interpretation, I think it would be very difficult for FTB to, you know, go away from it in a throwback case. They might try to distinguish it on the facts or say you didn't get it on the facts, but there's some throwback and that's your limitations on, on refunds.

So anyone with substantial throwback should be looking at their website, looking at how much they did throwback. What years are still open? How much is there possibly to claim a refund based on this new position

[00:26:34] Stacey Roberts: now, does California take the position that you. Have to file a return in order to avoid throwback.

Or are you just subject to tax? Whether or not you have to file a return.

[00:26:46] Michael Cataldo: Oh, oh, oh, oh, oh. In the other state, you don't know, you don't have to file a return. It's just a, it's a constitutional, it's a jurisdictional standard. So it's under the constitution or PL 6, 2 72. Can this state, can they, do they have the ability to impose this on you?

Not whether they do or not. So sales into Nevada are not automatically thrown back to California. If Nevada could constitutionally and consistent with federal law impose a, an income tax. Yeah. And I, and

[00:27:16] Stacey Roberts: I kind of am throwing the question out there just from. You know, Illinois has their throwout provision when it comes to the sale of services.

But their statute, I think says like file a return mm-hmm in order to avoid throwout. And I got, we're just, we're just showing how bad Meredith is at her job. These, you know, this hour I got nailed on an audit, kind of when I was a young practitioner. On kind of that throwout provision of the sale of services, where we really also got kind of met screwed is that they were us sales, but to foreign jurisdictions.

And so those got thrown out and that was basically 50% of our factor. And we couldn't prove that we were paying like that or anywhere else, but was also. Really obnoxious cuz that they were a Colorado based company and it was prior to when Colorado had went to market based sourcing mm-hmm . So under their ratio of cost tests, from a service perspective, we were sourcing like 98% of our services to Colorado, but also got nailed on throwout in Illinois.

Because like our destination sales weren't, you know, being, it was, it was unpleasant.

[00:28:30] Michael Cataldo: Hmm. Um, for alternative apportion mix, I wanna get it. our

[00:28:34] Stacey Roberts: auditor. our auditor was also a robot that like, didn't use the bathroom, didn't drink water and didn't leave like the office that we had him set up in. And so they were just like, we sold the company.

We just need this to go away. . But it also, it so happened that like, it was not fun in an income year, but also they had losses on the subsequent year. So we did kind of offset some of that benefit, but the company was just like, make this guy go away. He's

[00:29:04] Michael Cataldo: awful. It's like that all over. Sometimes you've just gotta stick with it and move on to the next person.

They're not gonna help you out or see, see the light. Yeah, gotta have a client willing to want to do that too.

[00:29:18] Stacey Roberts: Yeah. They were just like, make, go away. I don't care. It's like a hundred grand. We just sold our company for like a hundred million dollars. I don't care. Like write the check. It's one state, you know, when you were talking about alternative approachment, I mean, for the viewers.

I guess, what does that entail to let's say that, you know, they were like, Hey, you know what I kind of, I'm curious about this alternative ment, do we need to petition the state for that? What, what is, what is kind of the procedure for that? And I know it can vary by state.

[00:29:45] Michael Cataldo: Yeah. I'll I'll just tell you California.

And. I think California's got more rules on this in most states, but it's not so far off. Usually you have to ask and, you know, may I'll just describe it in a matter. I just did actually. So the not unusual fact pattern of a sale of the business of that business was a unitary business conducted throughout the United States, including California, historically it filed in California with about a 10% portion percentage then in.

March of the year, they sold their company in March. So all of the assets are sold, but one set of assets that could not be sold until there was approval corrected by a certain agency, unrelated to tax in California. So they had to continue to operate that portion of the business until they got that approval, which they did get in September.

So this client took position that the gain was just non business income, but they did allocate some amount to California. They filed a return and paid a little bit of tax. They got audited. The auditor said this is business income. And here's the tax, the apportionment percentage in the last year, which is the year of sale was 35%.

Why did that happen? That happened. This very unique situation, which was that the entire business was sold, except for this small portion, this small portion was exclusively in California. So it was running its business. Jacking. Every sale that came in was a California sale. And as a result, the, and we also had records quarterly to show, Hey, the first quarter of the year of sale was consistent with prior years of portionment of about 10.

Now we're jacked up to 35% because we are looking only at what's or for most of the year. We're looking at exclusively California. Now you are you California. The auditor are of, unfortunately this game on the scale of the entire business, the was developed over years, years of time with the apportion percentage of the years back, it's always a test case.

Like I always take a look just for, you know, is this right? How much, what was your portion in the years of the value of this company up clearly here? 10, 10, 10 35. What? So explain this to the auditor. The auditor was just like, no, okay. Well then I'm gonna make, and the outer understood that she didn't quite understand.

Which was fine because there's a procedure in place. You file a petition for alternative apportionment, which we did. And there there's an alternative apportionment committee at the franchise tax board who reviews alternative apportionment requests. You have a hearing. So I had a hearing about 30 minutes of a hearing.

And in this case we got a result which was you're. In, uh, about two weeks because come on, it is a pretty obvious hearing. That's an overreach and, uh, misunderstanding. So that is really the process. Now there's a whole set of proposed regulations, which it's so narrow. I, I don't want to even talk too much about it, but it's the process and the procedures for like, if, if the committee found against my client in that case, I could then.

Request that the full franchise tax board, as in the three people who are on the board, hear the case. Mind you that their illegal advisors are the ones who just made this decision. But nevertheless, there's this it's in the statute. Statute says the board will review. So then you can go to the board and ask them to review.

And there's a, some detailed procedures and briefing and whatnot with that. I would very rarely ever use that. I really just very rarely would. There's been a few who have tried Philip Morris is one, for example. So they went and they took their. And they didn't want a single sales factor. So they were challenging the single sales factor as distortive.

And they said, all right, well, we want not just a evenly weighted three factor formula, but we want a. Through four factor formula, and we want to double weight the property factor. Of course, they're all in Virginia. So that right there kind of tells me, okay, you don't really have the numbers to get it because that just sticks out as kind of odd, but they took it to the board.

The franchise tax board made their argument, which to me, one of the things that was just, uh, telling, I guess is they said, okay, Fairly reflecting income. The single sales factor does not fairly reflect income, says the taxpayer because it discount doesn't count whatsoever. All of the property and payroll required to generate income and the Ft B's response before the hearing, this is all public information.

Is that a fair reflection of income is the market. That's what the legislature said. So that's what we're saying. And of course they lost. But you don't get like an opinion or anything as to why it's perhaps, Hey, you know what? You just couldn't didn't have the numbers to show the distortion because you have to show distortion in the, or in the regular formula.

Right. You have to prove that. And it's a pretty high bar, like, oh, it's just off a little bit. It's not gonna cut it. Right. And the law. They, they looked at all of the case law and there's quite a bit of case law and distortion in California. And it was like the numbers were not working out. So they needed to double the, the property factor to get there.

[00:35:24] Closing: This podcast is for educational purposes only and is not intended, nor should it be relied upon as legal tax accounting or investment advice. You should consult with a competent professional to discuss specifics of your situation and the applicability of the information presented.

Topics Discussed in this Episode:

  • Current issues discussed by Franchise Tax Board including market-based sourcing and multi-state practice
  • Business vs. non-business income and what qualifies as doing business in the state
  • Public Law 86-272 and alternative proportionment

What You Will Discover:

  • [00:57] An introduction to Michael Cataldo
  • [03:21] Current tax issues
  • [10:20] Business vs. non-business income
  • [17:55] What qualifies as doing business in the state
  • [22:05] Interpreting Public Law 86-272
  • [29:28] The procedure for alternative proportionment


  • “Over the years, there’s been this sort of gradual shift where my clients used to be mainly located in California, and now more and more of them are located outside the state.” – Michael Cataldo [04:09]
  • “It used to be a little more debatable and it’s still not completely decided, but is it business or non-business income? You have to look at that question.” – Michael Cataldo [11:38]
  • “Trying to explain that concept of business income vs. non-business income to the unknowing, it’s like ‘But I’m not in the business of selling land.’ But ‘Ok, fine, but did you use that land in order to create your other business income?’ It’s almost a given that if you call something non-business income, you will be audited. Like 100%” – Meredith Smith [14:03]
  • “These issues come all the time and there is room to argue about it. Now California has their rule and regulation on substantial and unusual sales are thrown out of the sales factor but the income is still in there. The question is ‘Hey, is this a fair reflection of income?’ Sometimes it’s not.” – Michael Cataldo [17:00]

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