You asked what types of corporation tax income apportionment formulas states use and how many states have “throwout” and “throwback” rules.

SUMMARY

The 46 states that impose state corporation taxes (all states except Nevada, South Dakota, Washington, and Wyoming – see Table 1) require companies subject to those taxes to use state-specified apportionment formulas to determine income subject to tax in a taxing state. Apportionment formulas are designed to allocate to a taxing state, for tax purposes, a share of a company's income that corresponds to its business activity in the state. State formulas use one or more factors to determine each company's overall income apportionment percentage. Most states require all corporations to use the same apportionment formula, but 10 states have more than one formula and require or allow different types of businesses to use different formulas.

The common apportionment factor used by all 46 states is one that compares a company's sales in the taxing state to its total sales. Some states use sales as their single apportionment factor, but most (33 states) use formulas that also include factors comparing each company's property and payroll in the taxing state to its total property and payroll. But even if they use three factors, most states emphasize sales in apportioning income. Of the states with three-factor formulas, 22 give extra weight to the sales factor in calculating the overall apportionment percentage.

The importance of the sales factor in apportioning corporate income subject to state taxes has led many states to boost the relative share of the in-state sales in a company's sales factor through the use of throwout or throwback rules. Such rules require companies to either count otherwise untaxed sales as sales in the taxing state (throwback) or exclude untaxed sales from a company's total sales (throwout). Of the states that have the rules, 25 use throwback and two use throwout.

INCOME APPORTIONMENT FORMULAS

All states with corporation taxes use at least one of the following corporation tax income apportionment formulas.

● Three-Factor Formula – This formula uses three fractions representing the ratios of a company's property, payroll, and sales within a taxing state to its total property, payroll, and sales. The three ratios are multiplied together to produce the percentage of the company's total taxable income to be allocated to the taxing state. In the classic version of this formula, each of the factors has equal weight in the calculation. Twelve states use an equal-weighted, three-factor apportionment formula.

● Three-Factor Formula With an Extra Weighting for Sales – A variation of the three-factor formula uses the same three factors, but gives extra weight to sales when the three are multiplied together. The most common variation double-weights the sales factor so that, instead of property, payroll, and sales each counting as one third of the apportionment percentage, the sales factor counts as 60% and the others as 20% each. Of the 22 states that use this type of apportionment formula, 17 double-weight the sales factor; five give it a weight of 70% or more; and one uses the double-weighted formula as its default while allowing certain companies to use a formula that gives an 80% weighting to sales.

● Single-Factor Formula – This formula apportions income for tax purposes using only the ratio of a company's in-state to its total sales. The single-factor formula dispenses entirely with the payroll and property factors. Eighteen states use a single-factor formula for some or all types of companies.

For companies that sell in national and global markets, formulas that emphasize sales apportion income away from the taxing state, thereby reducing tax liability in that state. Compared to an equally weighted three-factor formula, single-factor or extra-sales-weight apportionment formulas benefit companies that sell most of their products outside the taxing state, especially when they have significant property and numbers of employees in a taxing state.

“THROWOUT” AND “THROWBACK”

States use throwout and throwback rules to offset the effects of apportionment formulas based mostly on relative sales. The sales factor in an apportionment formula requires a company to compare its sales in the taxing state to its total sales. For companies operating in multiple states, apportionment formulas that rely completely or mostly on sales can shift income away from taxing states, even when the companies have significant operations in those states. But, a state can recoup some taxable income by changing the treatment of so-called “nowhere sales” in the sales factor. Nowhere sales are sales that are not apportioned to, or taxed in, any state because they are made to (1) the federal government or (2) purchasers in states where a company is not taxed because either it has no taxable nexus there or the state has no corporation tax.

States capture income from nowhere sales by requiring companies either to (1) subtract, or throwout, nowhere sales from total sales or (2) add, or throwback, nowhere sales to in-state sales. Either method increases the relative weight of in-state sales in the sales factor, thus increasing the income apportioned to the taxing state.

Of the 46 states with corporation taxes, 27 have throwout or throwback rules.

STATE-BY-STATE INFORMATION

Table 1 shows state apportionment formulas for the 2012 tax year. It also shows states that have throwout or throwback rules in their sales factors calculations. Unless otherwise noted, the throwback or throwout rules noted below apply to sales to both the U.S. government and into states where the company is not subject to tax.

TABLE 1: STATE CORPORATION TAX APPORTIONMENT FORMULAS AND THROWOUT/THROWBACK RULES

Source: CCH, State Tax Guide.

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