Hercules, Inc. v. Comptroller of Treasury

EYLER, Judge. This case requires us to apply well established principles of law with respect to the constitutional limitations on Mary ³³ land’s ability to subject earnings of a non-domiciliary corporation to its corporate income tax. Facts On June 3,1991, Hercules, Inc., appellant, filed an amended Maryland income tax return for the year 1987, claiming a refund of corporate income tax in the amount of $132,562, the amount of tax previously paid on income derived from its sale of stock in a corporation known as HIMONT, Inc. On October 21,1992, the Comptroller of the Treasury, appellee, denied the refund claim. Appellant appealed to the Maryland Tax Court; that court affirmed the denial of the refund on January 3, 1995.

On January 27, 1995, appellant filed a motion to reconsider and a motion requesting withdrawal of the opinion and order. The Tax Court withdrew its order and opinion of January 3, pending consideration of the motion for reconsideration. On March 16, the Tax Court struck its January 27 order, reinstated its January 3 order, denied the motion to withdraw the prior opinion and order, and denied the motion for reconsideration. On March 24, 1995, appellant filed a petition for judicial review in the Circuit Court for Baltimore City.

Appellee filed a motion to dismiss the petition on the ground that it had not been timely filed. After a response by appellant and a hearing, the circuit court denied the motion. On March 8, 1996, the circuit court affirmed the Tax Court’s decision on the merits. This appeal and cross-appeal followed.

The record in the Tax Court consisted of a stipulation between the parties, exhibits, and the testimony of Mr. Maynard Turk, vice-president and general counsel of appellant and a director of Himont. The parties stipulated to the following: Introduction 1. At all times relevant to the present action, Hercules, a Delaware corporation, had its principal place of business in Wilmington, Delaware. Hercules’ principal business activity in Maryland was the sale of industrial chemicals to customers in Maryland.

These sales constituted a part of Hercules’ total taxable income apportionable to Maryland. ³⁴ 2. During 1983, Hercules Incorporated (“Hercules”) was organized into three (3) operating divisions: (1) Hercules Specialty Chemicals Company; (2) Hercules Aerospace Company; and (3) Hercules Engineered and Fabricated Products Company which later changed its name to Hercules Engineered Polymers Company (“HEPC”). 3. The activities of Hercules had previously included manufacturing polypropylene resin as part of HEPC. Polypropylene resin is the raw material used in the manufacture of, inter alia, film for packaging, film products, and fibers. 4.

Both Hercules and Montedison S.P.A., an Italian corporation (“Montedison”), had the technology to produce polypropylene resin. 5. However, unlike Montedison, Hercules failed to keep up with the technological changes in the field of polypropy- ' lene manufacturing. 6. By 1983, Hercules had concluded that the manufacture of polypropylene resins no longer fit into its' strategic plans and commenced to disengage from the business. It developed a course of action designed to reduce its exposure to petrochemical commodities by strategically changing from a commodity based chemical company to a specialty chemical company. 7.

Even after making the determination to dispose of its polypropylene resin manufacturing business, Hercules required polypropylene resins for use in its other business operations. 8. Even while engaged in the manufacture of polypropylene resins, Hercules obtained polypropylene resins from other sources. 9. Subsequent to the formation of HIMONT, Hercules obtained polypropylene resins both from HIMONT and from other sources. 10. The sale of polypropylene resins amounted to 14%, 16%, and 15% of Hercules’ consolidated net sales for the years 1983,1982, and 1981, respectively. ³⁵ 11.

In early 1983, Hercules approached Montedison with the concept of forming a new company to manufacture polypropylene resin. As a result of these negotiations, the parties formed a joint venture pursuant to a joint venture agreement, dated June 28, 1983 (the “Joint Venture Agreement”). See Exhibit 1 of the Joint Exhibits. Pursuant to the Joint Venture Agreement, Hercules and Montedison contributed all of their polypropylene resin manufacturing assets to HIMONT to manufacture polypropylene resins.

The goal of the joint venture was to marry the marketing abilities of Hercules with the advanced technology of Montedison in a new company. 12. In the Joint Venture Agreement, Hercules and Montedison agreed that each would own fifty percent (50%) of all HIMONT stock. 13. In 1983, Hercules expected that by utilizing the latest generation of high-yield, polymerization catalyst and advanced polymerization technology developed, in part, by Montedison, HIMONT should be the lowest cost producer of polypropylene resins on a world scale, geographically diversified basis. 14. There was no use by Hercules or Montedison of HIMONT’s corporate plants or vice versa. 15.

Until HIMONT was able to supply or build its own office facilities, Hercules and Montedison leased office space to HIMONT. Except for that lease, Hercules did not rent or lease any property to HIMONT and HIMONT did not rent or lease any property to Hercules. 16. When HIMONT was first created, it contracted for certain administrative services from Hercules and Montedison pursuant to a series of written agreements (collectively referred to herein as the “Services Agreement”). See Exhibits 10 and 11 of the Joint Exhibits.

The reason for this was that HIMONT needed time to hire, train and staff a complete administrative structure. 17. As time went on, the services provided to HIMONT by Hercules diminished as HIMONT built-up its adminis ³⁶ trative structure. The actual provision of services to HI-MONT by Hercules did not fully end, however, until a year after Hercules disposed of its stock in HIMONT. 18. Hercules and Montedison provided HIMONT with accounting services, contracting services, payroll services, and insurance services.

HIMONT would decide what services it needed and made the policy decisions. Hercules and Montedison then supplied the manpower on a subcontracting basis to implement the decisions made by HI-MONT. Operation of HIMONT 19. Pursuant to the Joint Venture Agreement, HIMONT was formed on November 1, 1988.

As required by the terms of the Joint Venture Agreement, Hercules contributed all of its polypropylene manufacturing assets, technology and business, including its plants located in Lake Charles, Louisiana, and Bayport, Texas to HIMONT in exchange for its fifty percent (50%) interest. These polypropylene manufacturing assets constituted all of the operating assets of Hercules’ polypropylene business. At the same time, Montedison contributed all of its polypropylene manufacturing assets to HIMONT. 20. Pursuant to the Joint Venture Agreement, HIMONT distributed to Hercules a promissory note in the original principal amount of Seventy Million Dollars ($70,000,-000.00)(the “Equalization Note”) designed to equalize the relative value of the operating capital contributions made by Hercules and Montedison due to the fact that Hercules’ operating capital contribution exceeded Montedison’s operating capital contribution.

The note was payable in five years at variable interest rates which were commercially competitive. 21. After the formation of HIMONT, Hercules no longer had any facilities, personnel, or technology to engage in, nor did it engage in, the business of manufacturing polypropylene resin and HEPC ceased to operate in that line of business. HEPC continued its film and fiber manufacturing lines. ³⁷ Finance 22. Hercules did not provide HIMONT with financing, nor did Hercules guarantee loans made to HIMONT.

There were no loans at any time between Hercules and HIMONT and there were no joint borrowings by Hercules and HIMONT. 23. In addition to the Joint Venture Agreement, the affairs of HIMONT were governed by a shareholders’ agreement between Hercules and Montedison (the “Shareholders’ Agreement”). See Exhibit 2 of the Joint Exhibits. Employees 24.

From the time of its inception, HIMONT had its own research, sales, marketing and manufacturing personnel. All personnel who were employees of Hercules in the polypropylene manufacturing line of business at the time of the formation of HIMONT were terminated by Hercules and hired by HIMONT. Those employees were told that they would have “no bridge” back to Hercules. At no time was any Hercules employee or officer at the same time an employee or officer of HIMONT. 25.

At the time of the public offering of HIMONT’s stock in February, 1987, HIMONT employed 2,800 people overall and 175 marketing and sales personnel. 26. At the time of the initial formation of HIMONT, both Hercules and Montedison were entitled to appoint three (3) directors to HIMONT’s six (6) member board of directors. Except for the three (3) individuals appointed to the HIMONT board by Hercules who served HIMONT solely in their capacities as directors, there were no common officers, or employees between the two companies. 27. After HIMONT made its initial public offering in February of 1987, its Board of Directors was expanded to nine (9) members.

Thereafter, Hercules continued to have the right to appoint three (3) members of the Board of Directors. 28. Hercules did provide to HIMONT certain administrative Services pursuant to the terms of the Services ³⁸ Agreement, as noted in paragraphs 16 and 17 of this Stipulation. 29. Section 7(b) of the Shareholders’ Agreement provided that for five years after October 31,1983, Hercules would select and, if appropriate, dismiss the President of HI-MONT, in each case with the concurrence of the Board of Directors. 30. Section 7(c) of the Shareholders’ Agreement provided that Montedison would nominate the Vice Presidents for Business Management and for Technology and that Hercules would nominate HIMONT’s Vice-Presidents for Financial Accounting and Administration.

The head of European operations and a key employee in HIMONT’s financial area would be nominated by Montedison and the head of North American Operations would be nominated by Hercules. 31. Section 7(d) of the Shareholders Agreement, provided that key officials of HIMONT would be selected by HIMONT’s president following consultation with Hercules and Montedison, drawing from the pool of executive talent associated with the business to be contributed or, if necessary, from outside of Hercules and Montedison. The Shareholders’ Agreement further provided that employees were to be selected on the basis of merit and no employee of HIMONT would, at the same time, be employed by or receive any compensation from Hercules or Montedison or any of their subsidiaries other than pension or retirement benefits or deferred compensation arrangements. Hercules and Montedison agreed to use good faith efforts to make such employees available so that HIMONT would have the maximum opportunity to function as a viable and efficient entity. 32.

HIMONT had its own bonus plan, savings and investment plan, incentive plan, defined benefit pension plan, restricted stock plan and stock option plan. Employees who had been employees of either Hercules or Montedison prior to the formation of HIMONT were given credit under these plans for their years of service to either of those companies. ³⁹ 33. HIMONT had personnel and employee policies that were separate from those of Hercules. Sales and Purchases of Products Between Hercules and HIMONT 34.

The percentages of net sales by HIMONT to Hercules compared to the total net sales by HIMONT and the amounts of those sales were as follows: [[Image here]] 35. Hercules continued to make purchases from HI-MONT even after Hercules disposed of its interest in HIMONT. Sale of HIMONT 36. At the time of the formation of HIMONT, Hercules and Montedison contemplated the eventual public offering of the common stock of HIMONT on the New York Stock Exchange. 37.

HIMONT was taken public in February, 1987, thereby allowing the markets to value HIMONT. The initial offering price was $28 per share. 38. HIMONT raised in excess of $379,000,000.00 in that offering. 39. On September 25, 1987, Hercules sold its entire interest in HIMONT to Montedison for $59.50 per share, for net proceeds of $1,487,500,000.00.

Hercules’ efforts over the years, from 1983 to 1987, in disposing of this major element of Hercules benefitted Hercules in terms of enhanced expansion into value added, growth oriented areas of the chemical industry. These are businesses in which Hercules has greater influence over its destiny because they are based on technology, rather than raw material position. ⁴⁰ Procedural Issues 40. Hercules had timely filed its 1987 Maryland Corporation Income Tax Return. Joint Exhibit 15.

On or about June 3,1991, Hercules made a claim for refund of Maryland Corporation Income Tax previously paid, by filing an amended Maryland Corporation Income Tax Return for 1987 (the “Amended Return”). The Amended Return was timely filed and excluded the income derived from the sale of the HIMONT stock which had previously been reported by Hercules for 1987. The refund claim was for $132,-562.00. Joint Exhibit 16. 41.

On October 21,1992, the Income Tax Division, Office of the Comptroller denied the claim for refund filed by Hercules Incorporated. 42. This appeal was timely filed. 43. The sole issue in this case is whether the income derived from the sale of the HIMONT stock which had previously been reported by Hercules for 1987 should have been excluded when calculating the Maryland Corporation Income Tax due from Hercules in that year. 44. The Joint Exhibits are admissible into evidence without objection.

We will refer to the exhibits and to the testimony as necessary in our discussion of the issues. Questions Presented Appellant states: The sole issue before this Court is whether the Maryland Tax Court erred when it determined that the State of Maryland had the Constitutional power to tax Hercules on the profit from the sale of its minority interest in HIMONT, a publicly traded corporation, even though (1) Hercules was not a domiciliary of the State of Maryland, (2) Hercules did not control HIMONT, (3) HIMONT was functionally independent from Hercules, (4) HIMONT was not engaged in a unitary business with Hercules, and (5) the ownership of ⁴¹ HIMONT stock by Hercules played no operational role in Hercules’ active business enterprises. Appellee presents the same issue differently. We quote it because it highlights the nature of the disagreement between the parties.

Appellee inquires: Did the Circuit Court properly affirm the decision of the Maryland Tax Court upholding the Comptroller’s right to subject to an apportioned State income tax a capital gain earned by Hercules on the sale of its interest in HIMONT, Inc., a corporation that Hercules created; that provided Hercules with a guaranteed source of an essential product; and that served as the vehicle by which Hercules was able to transform the nature of its business operations? In addition, appellee raises a question on its cross-appeal, phrased as follows: Did the Circuit Court err in denying the Comptroller’s Motion to Dismiss a Petition for Judicial Review that was not filed within 30 days of the administrative order from which review was sought? Discussion A. Motion to Dismiss Appellee points out that a petition for judicial review must be filed within 30 days after the order that is the subject of the petition. Relying on Hess v. Chalmers, 27 Md.App. 284 , 339 A.2d 706 , cert. denied, 276 Md. 744 (1975), and Furman v. Glading, 36 Md.App. 574 , 374 A.2d 414 (1977), aff'd, 282 Md. 200 , 383 A.2d 398 (1978), appellee argues that when an order is withdrawn and reinstated, the time for appeal, at best, is merely stayed during the period of withdrawal.

Appellee asserts that the order being attacked in this case is the January 3 order and, excluding the time period during which the order was withdrawn, the appeal should have been filed by March 23 at the latest. Thus, it claims that the March 24 notice of appeal is untimely. We disagree. ⁴² Hess merely stands for the proposition that when an order is stayed, the time for appealing likewise is stayed. Hess does not govern the situation when an order has been withdrawn.

Similarly, Furman did not involve the precise issue presented in this case. In Furman , the trial court entered an order on October 8, 1976, granted appellant’s motion for reconsideration on October 22,1976, and vacated its grant of reconsideration on November 8, 1976. Appellant thereafter noted an appeal on November 10, 1976. The appellee had argued that the appeal was untimely with respect to the initial order because it was not filed within thirty days of the initial order.

Citing Hess , we disagreed and held that the time for appeal did not run between October 22, 1976 and November 8, 1976, the period of time during which the October 8 order effectively had been stricken. Despite the terminology we employed in that case, we were not required to decide, and did not decide, whether the time for noting an appeal is merely interrupted by an order that strikes out an initial order or whether the time for appeal commences anew once the order has been restored. We now hold that the time for appeal from an order that was withdrawn by the trial court begins to run from the time the order subsequently is reinstated. Unlike the situation when an order is stayed, an order that is withdrawn has no effect after its withdrawal.

Moreover, in this case the March 16 order, on its face, does not purport to relate back to the January 3 order. The Court of Appeals, while it has not squarely decided the issue, seems to read the rules as we do. See Carroll County Dept. of Social Services v. Edelmann, 320 Md. 150, 164 , 577 A.2d 14 (1990). Accordingly, appellant’s appeal was timely filed.

B. Refund Claim Both the Due Process Clause and the Commerce Clause of the United States Constitution prohibit a state from taxing value earned outside its borders. Allied-Signal, Inc. v. Di ⁴³ rector, Div. of Taxation, 504 U.S. 768, 777 , 112 S.Ct. 2251, 2257-58 , 119 L.Ed.2d 533 (1992). A state’s power to tax an individual’s or corporation’s activities “is justified by the ‘protection, opportunities and benefits’ the State confers on those activities.” Allied-Signal, 504 U.S. at 778 , 112 S.Ct. at 2258 . If the income or gain the state seeks to tax arises out of interstate activities, a state may tax such income or gain when there is “a ‘minimum connection’ between the interstate activities and the taxing State, and ‘a rational relationship between the income attributed to the State and the intrastate values of the enterprise.’ ” Container Corp. v. Franchise Tax Bd., 463 U.S. 159, 165-66 , 103 S.Ct. 2933, 2940 , 77 L.Ed.2d 545 , reh’g denied, 464 U.S. 909 , 104 S.Ct. 265 , 78 L.Ed.2d 248 (1983) (quoting Exxon Corp. v. Wisconsin Dept. of Revenue, 447 U.S. 207, 219-20 , 100 S.Ct. 2109, 2118-19 , 65 L.Ed.2d 66 (1980), in turn quoting Mobil Oil Corp. v. Commissioner of Taxes, 445 U.S. 425, 436-37 , 100 S.Ct. 1223, 1231-32 , 63 L.Ed.2d 510 (1980)).

As the Supreme Court has noted, when a business operates both within and without the borders of a state, “arriving at precise territorial allocations of ‘value’ is often an elusive goal, both in theory and in practice.” Container Corp., 463 U.S. at 164 , 103 S.Ct. at 2939 . The Constitution imposes “no single [allocation] formula on the States.” Id. Further, “the taxpayer has the distinct burden of showing by ‘clear and cogent evidence’ that [the state tax] results in extraterritorial values being taxed----’” Id. (quoting Exxon Corp., 447 U.S. at 221 , 100 S.Ct. at 2119 , quoting Norfolk & Western R. Co. v. North Carolina ex rel.

Maxwell, 297 U.S. 682, 688 , 56 S.Ct. 625, 628 , 80 L.Ed. 977 (1936)). See also Allied-Signal, 504 U.S. at 782 , 112 S.Ct. at 2260 (same); Mobil Oil Corp., 445 U.S. at 439 , 100 S.Ct. at 1232-33 (holding that “what appellant must show, in order to establish that its dividend income is not subject to an apportioned tax in Vermont, is that the income was earned in the course of activities unrelated to the sale of petroleum products in that State.”). The two generally accepted methods of allocating intrastate versus out of state income are the separate geographical ⁴⁴ accounting method and the unitary business/formula apportionment method. Container Corp., 463 U.S. at 164-65 , 103 S.Ct. at 2939-40 ; ASARCO Inc. v. Idaho State Tax Comm’n, 458 U.S. 307, 316-17 , 102 S.Ct. at 3108-10 (1982); Mobil Oil Corp., 445 U.S. at 438 , 100 S.Ct. at 1232 .

See also Keesling & Warren, The Unitary Concept in the Allocation of Income, 12 Hastings L.J. 42 , 43 (1980). Maryland has adopted both of these methods as codified at § 10-402 of the Tax-General Article. 1 In particular, § 10-402(b) permits separate accounting based on the geographic locations of the businesses if practicable. By contrast, § 10-402(c) provides that where the trade or business is a unitary business, the part of the income derived from or reasonably attributable to the State shall be determined by application of a three-factor apportionment fraction. Maryland has approved two tests for determining whether a corporation is engaged in a unitary business — the unities and dependency tests.

Ramsay, Scarlett & Co. v. Comptroller, 302 Md. 825, 837 , 490 A.2d 1296 (1985) (citing Xerox Corp. v. Comptroller, 290 Md. 126, 139 , 428 A.2d 1208 (1981)). The unities test, devised by the Supreme Court of California, “focuse[s] on the presence of the following circumstances: ‘(1) unity of ownership; (2) unity of operation as evidenced by central purchasing, advertising, accounting and management divisions; and (3) unity of use in its centralized executive force and general system of operation.’” Xerox Corp., 290 Md. at 139 , 428 A.2d 1208 (quoting Butler Bros. v. McColgan, 17