Dear Representative Chase,
I apologize for our delay in getting you a response on your question concerning royalties income. Washington courts have consistently stated that income from intangible property follows the legal or commercial domicile of its owner. Granite Equipment Leasing Corp. v. Hutton, 84 Wn.2d 320, 325, 525 P.2d 223 (1974); O'Keefe v. Department of Rev., 79 Wn.2d 633, 635, 488 P.2d 754 (1971); In re Eilermann's Estate, 179 Wash. 15, 16, 35 P.2d 763 (1934). In reliance on these cases, prior to June 1, 2010, the department applied B&O tax on the income from intangible property only when the owner's legal or commercial domicile was in Washington.
The department believes that Dept. of Revenue v. Gap (Apparel), 886 So.2d 459 (La 2004) is a questionable decision that would not be adopted by Washington courts. In Gap Apparel, the taxpayer challenged whether Louisiana had jurisdiction under the Due Process Clause to tax royalty income earned from the licensing of trademarks. Id. at 459. Due process requires that there be some minimum connection between the taxing state and the person, property, or transaction subject to tax. A state tax must also meet the requirements of the Commerce Clause in order to be Constitutional, but the Gap Apparel case did not address the commerce clause; making this case, its analysis, and its precedential value questionable.
The Gap Apparel Court relied on United Gas Corp. v. Fontenot, 241 So.2d 748 (La 1961). United Gas articulated an exception to the general rule that income from intangible property follow the legal or commercial domicile of the owner. Among other exceptions, the court stated that income from intangible property may be located where the company engages in business with respect to the intangibles "in such a way as to bring them under the protection of that state more so than that of the incorporating state." Id. at 754. The court in Gap Apparel relied on this ruling to find that the "marks licensed by Apparel have been used in Louisiana in such a way as to become an integral part of the licensees' businesses in the state." Id. at 462 (emphasis added).
This conclusion is contrary to other established precedent in this area. Other than Louisiana, we have found no authority in any jurisdiction supporting the claim that use of intangibles in business by a mere licensee is sufficient to subject the licensor to a state's taxing jurisdiction. Rather, the rule articulated by other jurisdictions, including the US Supreme Court, is that the business involving the intangibles must be that conducted by the nonresident corporation or its agent. Id. See also 72 Am. Jur. 2d State and Local Taxation § 596; U.S. Shoe Corp. v. Department of Revenue, 508 So.2d 1252 (Fl. 1987); Newark Fire Ins. Co. v. State Bd. of Tax Appeals, 307 U.S. 313, 319 (1939).
Without citation to authority, Gap Apparel departed from that requirement, holding that use of trademark intangibles in the business of the licensees was sufficient. Gap Apparel at 462. For this reason, the department does not believe the Gap Apparel case is controlling or would be adopted by Washington courts.’
In the absence of sound judicial precedent as authority to depart from this position, the department asked the legislature to provide that authority. In response, the legislature passed Part 1 of 2ESSB 6143 (codified in part in RCW 82.04.2907), effective on June 1, 2010. See RCW 82.04.2907. Passage of this legislation changes the apportionment factor to attribute the royalty income to the location in which it was used.
I hope you find this information useful.
Legislative & External Affairs Liaison
Washington State Dept. of Revenue