[House Hearing, 108 Congress]
[From the U.S. Government Publishing Office]



                         BUSINESS ACTIVITY TAX 
                       SIMPLIFICATION ACT OF 2003

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
                   COMMERCIAL AND ADMINISTRATIVE LAW

                                 OF THE

                       COMMITTEE ON THE JUDICIARY
                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED EIGHTH CONGRESS

                             SECOND SESSION

                                   ON

                               H.R. 3220

                               __________

                              MAY 13, 2004

                               __________

                             Serial No. 84

                               __________

         Printed for the use of the Committee on the Judiciary


    Available via the World Wide Web: http://www.house.gov/judiciary


                                 ______

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                       COMMITTEE ON THE JUDICIARY

            F. JAMES SENSENBRENNER, Jr., Wisconsin, Chairman
HENRY J. HYDE, Illinois              JOHN CONYERS, Jr., Michigan
HOWARD COBLE, North Carolina         HOWARD L. BERMAN, California
LAMAR SMITH, Texas                   RICK BOUCHER, Virginia
ELTON GALLEGLY, California           JERROLD NADLER, New York
BOB GOODLATTE, Virginia              ROBERT C. SCOTT, Virginia
STEVE CHABOT, Ohio                   MELVIN L. WATT, North Carolina
WILLIAM L. JENKINS, Tennessee        ZOE LOFGREN, California
CHRIS CANNON, Utah                   SHEILA JACKSON LEE, Texas
SPENCER BACHUS, Alabama              MAXINE WATERS, California
JOHN N. HOSTETTLER, Indiana          MARTIN T. MEEHAN, Massachusetts
MARK GREEN, Wisconsin                WILLIAM D. DELAHUNT, Massachusetts
RIC KELLER, Florida                  ROBERT WEXLER, Florida
MELISSA A. HART, Pennsylvania        TAMMY BALDWIN, Wisconsin
JEFF FLAKE, Arizona                  ANTHONY D. WEINER, New York
MIKE PENCE, Indiana                  ADAM B. SCHIFF, California
J. RANDY FORBES, Virginia            LINDA T. SANCHEZ, California
STEVE KING, Iowa
JOHN R. CARTER, Texas
TOM FEENEY, Florida
MARSHA BLACKBURN, Tennessee

             Philip G. Kiko, Chief of Staff-General Counsel
               Perry H. Apelbaum, Minority Chief Counsel
                                 ------                                

           Subcommittee on Commercial and Administrative Law

                      CHRIS CANNON, Utah Chairman

HOWARD COBLE, North Carolina         MELVIN L. WATT, North Carolina
JEFF FLAKE, Arizona                  JERROLD NADLER, New York
JOHN R. CARTER, Texas                TAMMY BALDWIN, Wisconsin
MARSHA BLACKBURN, Tennessee          WILLIAM D. DELAHUNT, Massachusetts
STEVE CHABOT, Ohio                   ANTHONY D. WEINER, New York
TOM FEENEY, Florida

                  Raymond V. Smietanka, Chief Counsel

                        Susan A. Jensen, Counsel

                        Diane K. Taylor, Counsel

                  James Daley, Full Committee Counsel

                   Stephanie Moore, Minority Counsel


                            C O N T E N T S

                              ----------                              

                              MAY 13, 2004

                           OPENING STATEMENT

                                                                   Page
The Honorable Chris Cannon, a Representative in Congress From the 
  State of Utah, and Chairman, Subcommittee on Commercial and 
  Administrative Law.............................................     1
The Honorable Melvin L. Watt, a Representative in Congress From 
  the State of North Carolina, and Ranking Member, Subcommittee 
  on Commercial and Administrative Law...........................     2
The Honorable Bob Goodlatte, a Representative in Congress From 
  the State of Virginia..........................................     3
The Honorable William D. Delahunt, a Representative in Congress 
  From the State of Massachusetts................................     5

                               WITNESSES

Mr. Arthur R. Rosen, Tax Partner, McDermott, Will & Emery
  Oral Testimony.................................................     7
  Prepared Statement.............................................    10
Mr. Jamie Van Fossen, State Representative, 81st House District, 
  State of Iowa
  Oral Testimony.................................................    27
  Prepared Statement.............................................    29
Mr. Rick Clayburgh, Tax Commissioner, State of North Dakota
  Oral Testimony.................................................    32
  Prepared Statement.............................................    34
Mr. Vernon T. Turner, Corporate Tax Director, Smithfield Foods, 
  Inc.
  Oral Testimony.................................................    36
  Prepared Statement.............................................    37

                                APPENDIX
               Material Submitted for the Hearing Record

Responses to Additional Questions by Mr. Arthur R. Rosen.........    52
Responses to Additional Questions by Jamie Van Fossen............    57
Responses to Additional Questions by Mr. Rick Clayburgh..........    59
Responses to Additional Questions by Mr. Vernon T. Turner........    61
Prepared Statement of Gregory Meeks, a Representative in Congress 
  From the State of New York.....................................    64
Prepared Statement of Donald J. Borut, Executive Director, 
  National League of Cities......................................    66
CRS Report for Congress, ``State Corporate Income Taxes: A 
  Description and Analysis,'' Steven Maguire (Mar. 23, 2004).....    68
Prepared Document offered by the Honorable Bob Goodlatte, 
  ``Examples of Actual & Potential Agressive State Actions and 
  Posisitons Against Out-of-State Companies''....................    84
Prepared Statement of Edward Yingling, Executive Vice President, 
  American Bankers Association...................................    87
Prepared Statement of Bo and Kathy Horne, Owners of a Home-Based 
  Software Development Company...................................    88
Prepared Statement of Duane Parde, Executive Director, American 
  Legislative Exchange Council...................................    90
Prepared Statement of James K. Kallstrom, Senior Executive Vice 
  President, MBNA Corporation....................................    92
Prepared Statement of Mark Nebergall, President, Software Finance 
  & Tax Executives Council.......................................    93
Letter and Amici Curiae Brief from James M. Bell, President, 
  North Carolina Manufacturers Association; Philip J. Kirk, Jr., 
  President, North Carolina Citizens for Business and Industry; 
  Samuel M. Taylor, Executive Vice President, North Carolina 
  Biosciences Organization; and Joan P.H. Myers, President and 
  CEO, North Carolina Electronics and Information Technologies 
  Association....................................................    96
Prepared Statement of Harley T. Duncan, Executive Director, The 
  Federation of Tax Administration...............................   118
Prepared Statement of the Multistate Tax Commission..............   123
Prepared Statement of Martha E. Stark, Commissioner, New York 
  City Department of Finance.....................................   128

 
                         BUSINESS ACTIVITY TAX 
                       SIMPLIFICATION ACT OF 2003

                              ----------                              


                         THURSDAY, MAY 13, 2004

                  House of Representatives,
                         Subcommittee on Commercial
                            and Administrative Law,
                                Committee on the Judiciary,
                                                    Washington, DC.
    The Subcommittee met, pursuant to call, at 2:05 p.m., in 
Room 2141, Rayburn House Office Building, Hon. Chris Cannon 
(Chair of the Subcommittee) Presiding.
    Mr. Cannon. Good afternoon, ladies and gentlemen. This 
hearing of the Subcommittee on Commercial and Administrative 
Law will now come to order. We are here today to consider H.R. 
3220, the ``Business Activity Tax Simplification Act of 2003.''
    This is a measure intended to provide greater clarity for 
businesses in navigating the tax landscape. This bill was 
introduced by the gentleman from Virginia, Mr. Goodlatte, on 
October 1 of last year. It has 30 cosponsors, of which I am 
one. We expect Mr. Goodlatte to join us soon.
    H.R. 3220 is designed to address a fundamental problem 
related to interstate commerce. When is a State justified in 
taxing businesses with little or no physical connection with 
that State? While Congress has examined this issue for years, 
the emergence of the Internet economy has made the need for 
clear and concise taxation standards even more urgent.
    In the simpler days of 1959 Congress enacted Public Law 86-
272, which is still in force today. This law prohibits States 
from imposing a business activity tax on companies whose only 
contact with a State is the solicitation of orders for tangible 
goods.
    Since 1959 the economy has reshaped itself dramatically. 
Companies offer not only tangible goods but intangible property 
and services to customers across the country. The emergence of 
the Internet has served as the major catalyst of this 
transformation. But because Public Law 86-272 does not address 
intangible goods, it falls short in addressing the current tax 
landscape.
    In addition, since 1959 many States appear to have engaged 
in practices that are at odds with the meaning and intent of 
Public Law 86-272. For example, States have begun to impose a 
tax on a company's business activities on gross receipts rather 
than on net income. These developments have wreaked havoc on 
businesses who have incurred great expense in attempting to 
decipher and in litigating the appropriate nexus standards for 
business activity taxes.
    H.R. 3220 would provide some certainty to this dispute. It 
would amend Public Law 86-272 to apply to solicitation 
activities in connection with all sales, not just sales of 
tangible personal property. It would also cover all business 
activity taxes, not just net income taxes.
    H.R. 3220 would codify the current physical presence 
standard observed for years and elaborated by the Supreme Court 
in 1992 in Quill vs. North Dakota. In that case the Court 
required physical presence by accompanying an order for a State 
to impose a requirement that remote vendors collect and remit 
sales taxes for sales made within the State.
    Similarly, H.R. 3220 stands for the concept that the 
economic burden of actual tax imposition should be borne by 
those persons who received the benefits and protections of a 
State. It establishes a bright line 21-day physical presence 
requirement for the imposition of business activity taxes.
    During the 107th Congress the House considered a similar 
measure, H.R. 2526, also sponsored by Mr. Goodlatte. While that 
bill was reported favorably by this Subcommittee, the full 
Committee on the Judiciary did not have the opportunity to 
consider it prior to the conclusion of the Congress.
    Numerous business associations have expressed their strong 
support for H.R. 3220, including the National Association of 
Manufacturers, the Direct Marketing Association, the American 
Trucking Association, and the Information Technology 
Association of America, to name only a few.
    In considering this legislation, Congress recognizes its 
responsibility under the U.S. Constitution to ensure that 
States do not unduly burden interstate commerce through the use 
of their taxing authority. We also seek to promote a legally 
certain and stable business environment that will encourage 
business to make investments. At the same time we endeavor to 
do so without detracting from reasonable concepts of State and 
local taxing prerogatives.
    I look forward to the testimony of our highly informed 
panel.
    I ask unanimous consent that Members have 5 legislative 
days until the close of business Thursday, May 20, to submit 
written statements for inclusion in today's record.
    I yield to Mr. Watt, the Ranking Member of the 
Subcommittee, for an opening statement.
    Mr. Watt. Thank you, Mr. Chairman. I thank the Chairman for 
convening the hearing and I especially thank him for convening 
the hearing on this matter because it seems to me that this is 
exactly the kind of issue that we need to have a full hearing 
or set of hearings on so that we can understand the 
consequences of what we are doing and where exactly the line 
should be drawn.
    I am not a cosponsor of the bill but I do not think anybody 
should read anything into that either positively or negatively 
about the bill. It simply means that there are strong advocates 
who have expressed themselves on both sides of this proposed 
legislation, and perhaps the best example of that would be the 
fact that I have two pieces of correspondence which I would 
like to ask unanimous consent to submit for the record.
    Mr. Cannon. Without objection, so ordered.
    Mr. Watt. One from the National League of Cities in 
opposition to the bill and one from Congressman Greg Meeks of 
New York's Sixth Congressional District in support of the 
legislation.
    [The information referred to follows in the Appendix]
    Mr. Watt. So I am not brokering for either side in this 
debate. I came to listen and to learn and I feel like we have a 
great panel to help us do that. So I am looking forward to 
hearing the testimony, and with that I will yield back and we 
can get on to it.
    Mr. Cannon. I thank the gentleman. The Chair notes and 
welcomes the presence on the dais of the gentleman from 
Virginia, Mr. Goodlatte. Although not a Member of the 
Subcommittee, he is a Member of the full Judiciary Committee 
and a sponsor of the legislation which is the subject of 
today's hearing. Mr. Goodlatte, we welcome you and are grateful 
for your continuing efforts.
    The Chair exercises the discretion of this instance and 
would recognize Mr. Goodlatte for 5 minutes for any remarks he 
wishes to make. In addition, let me point out that the rules of 
the Committee require that a person who is not a Member of 
Committee who is going to ask questions needs to have time 
yielded so even though you are the only person here we will 
make time to yield for Mr. Goodlatte to ask questions when we 
get to that point.
    Mr. Watt. Can I just ask unanimous consent that we waive 
that rule for today's hearing because I think we would 
certainly benefit from Mr. Goodlatte being able to make an 
opening statement and ask questions.
    Mr. Cannon. Without objection, so ordered. By the way, let 
me say that, Mr. Delahunt, you are a Member of the panel. Would 
you like to make an opening statement before Mr. Goodlatte?
    Mr. Delahunt. I will defer to the gentleman.
    Mr. Cannon. I thank you. Mr. Goodlatte, you are recognized 
for 5 minutes.
    Mr. Goodlatte. Mr. Chairman, thank you and I thank the 
Ranking Member for his courtesy and generosity for allowing me 
to participate but thank you even more for holding this 
important hearing.
    With the growth of Internet companies increasingly able to 
conduct transactions without the constraints of geopolitical 
boundaries, over the past several years a growing number of 
jurisdictions have sought to collect business activity taxes 
from businesses located in other States, even though those 
businesses receive no appreciable benefits from the taxing 
jurisdiction and even though the Supreme Court has ruled that 
the Constitution prohibits a State from imposing taxes on 
businesses that lack substantial connections to the State. This 
has led to unfairness and uncertainty, generated contentious, 
widespread litigation, and hindered business expansion due to 
fear of exposure to unfair tax burdens.
    In order for e-commerce and interstate commerce generally 
to continue to grow and prosper, it is imperative that clear 
and easy navigable rules be set forth regarding when an out-of-
State business is obliged to pay business activity taxes to a 
State.
    Last year I introduced along with Congressman Boucher H.R. 
2320, the Business Activity Tax Simplification Act. This 
important legislation provides a bright line that clarifies 
State and local authority to collect business activity taxes 
from out-of-State entities, which will bring predictability to 
an unpredictable tax environment for businesses and States.
    Specifically, the bill would establish a physical presence 
test such as an out-of-State business would be obliged to pay 
business activity taxes to a State only if the out-of-State 
business has a physical presence in the taxing State. This 
physical presence test is not new. It basically codifies the 
majority view among the States that the Constitution requires a 
physical presence as opposed to other unclear standards before 
a State can impose business activity taxes on an out-of-State 
business.
    The Business Activity Tax Simplification Act would also 
amend an outdated Federal statute to bring it up to speed with 
the current economy. Public Law 86-272, enacted in 1959, 
provides a State may not tax an out-of-State business when the 
out-of-State business's only contact with the State is the 
solicitation of orders for tangible personal property within 
that State. The Business Activity Tax Simplification Act amends 
the public law to change its application from merely the 
solicitation of orders for tangible personal property to cover 
all products, tangible or intangible, as well as services. This 
change will bring the public law up to speed with the economy 
of the 21st century, which increasingly involves the delivery 
of intangible property and services.
    The Business Activity Tax Simplification Act is good for 
businesses because it creates certainty. Instead of devoting 
time and resources to defending frivolous and often conflicting 
claims from multiple-State taxing authorities, this legislation 
will allow businesses to devote more resources to increasing 
efficiencies and reducing costs for consumers. Instead of the 
current tax environment, which requires small businesses to run 
blindfolded through a forest of tax regulations in the hopes 
that they will not somehow trigger hidden tax liability in that 
State, this legislation will create a bright line test so that 
businesses will know the general parameters of when they could 
be taxed by a State.
    But businesses are not the only ones who would benefit from 
this bill. The Business Activity Tax Simplification Act is good 
for States, too, because it protects in-State businesses from 
excessive taxation from other States. In addition, the physical 
presence test would help ensure that States do not lose tax 
revenues to other aggressive taxing jurisdictions. States too 
will benefit from the certainty this legislation provides 
because they will incur fewer costs associated with litigating 
these matters.
    Furthermore, this bill protects the States' sovereign power 
to choose the rates and kinds of taxes to impose on businesses 
that are actually physically present within the State. States 
remain free to scope their own tax laws. Some like, the 
California Franchise Tax Board, have argued that States will 
suffer catastrophic revenue losses under H.R. 3220. However, 
closer look at the FTB's assertion reveals it is full of smoke 
screens and mirrors. The FTB speculates about revenues at risk 
rather than concrete revenue losses. It provides no discussion 
of the data or methodologies that went into the study, as is 
customary, and the study relies on predicting the future 
behavior of businesses.
    Most importantly, it ignores the common law and statutory 
tools that California and other States have at their disposal 
to attack fraudulent corporate tax evasion schemes.
    The Business Activity Tax Simplification Act is good for 
businesses, good for States, and good for the economy. I look 
forward to hearing the testimony of our export witnesses.
    Mr. Chairman, thank you for allowing me to participate 
today.
    Mr. Cannon. I thank the gentleman. Mr. Delahunt, did you 
want to make a statement? The gentleman is recognized for 5 
minutes.
    Mr. Delahunt. I thank the Chair. I just wanted to respond 
for a moment to my friend from Virginia where he argues that it 
is good for the States. I think we are here to learn, as the 
Ranking Member indicated, because I have heard from a number of 
tax commissioners from various States that obviously hold a 
contrary position. And again I think it is important to 
understand that this particular piece of legislation will 
create some winners and losers. And I look forward to that 
particular testimony because again even absent consideration of 
the need for revenue from the States, when it comes to our 
private sector I suggest we have to be very careful in terms of 
supporting economic activity. And if it creates in any way, 
shape or form an imbalance in terms of the ability of business 
to produce that economic activity, we should tread carefully.
    I think also my friend from Virginia referenced the 
constitutionality issue. And I could be wrong, but I presume 
there has been no case brought for litigation which has decided 
whether this particular form of taxation is constitutional or 
unconstitutional. In Quill vs. North Dakota the Court indicated 
or limited the test to the duty of mail order houses to collect 
use taxes from customers, and the Court acknowledged that as to 
other taxes such as income taxes, and I understand there were 
two cases pending, it had not applied the physical presence 
test.
    Many of the arguments that I think we are going to hear I 
think have been raised during the course of hearings on the 
moratorium of taxation on the Internet, which I support the 
position of the Chair of the Subcommittee and support it with 
vigor. But again there are other issues that the Subcommittee 
is dealing with also and we have had hearings as far as the 
collection of the sales tax and in moving again in that 
particular direction with an effort to streamline and to stay 
focused.
    So with those comments, Mr. Chairman, I will yield back.
    Mr. Cannon. I thank the gentleman from Massachusetts. There 
are several items I would like to touch on before we introduce 
the witnesses.
    First of all, the record of this hearing will remain open 
for 5 legislative days for interested parties to submit 
statements for inclusion in the hearing record. In addition, 
Members will have 5 legislative days to submit additional 
follow-up questions to our witnesses for inclusion in the 
record.
    As Mr. Delahunt just pointed out, we want to thank Mr. 
Chabot, the gentleman from Ohio, for joining us today. We 
expect several of the Members to be here. I know that all of 
them have a number of questions.
    As Mr. Delahunt just alluded, there are several issues that 
are going on here that are related. The Internet Tax Freedom 
Act, which has been passed in its pure and proper form by the 
House of Representatives, now passed in abominable form by the 
other body. We will have to clear that up and I think there 
will be some questions on that, its relationship to the SSTP 
and of course to the BAT. So I expect several questions on that 
issue.
    Mr. Delahunt. Mr. Chairman, can I ask unanimous consent to 
submit a CRS report dated March 23, 2004, entitled ``State 
Corporate Income Taxes, A Description and Analysis,'' authored 
by Steven Maguire.
    Mr. Cannon. Without objection, so ordered.
    [The information referred to follows in the Appendix]
    Mr. Cannon. Our first witness is Arthur Rosen, partner in 
the New York City law firm of McDermott, Will & Emery, where he 
chairs the firm's nationwide State and local tax practice. A 
graduate of New York University and St. John's University Law 
School, Mr. Rosen is a leading expert in the area of State and 
local taxation. He is the past chairman of the State and Local 
Tax Committee of the ABA's Tax Section and is a member of the 
Executive Committee of the New York State Bar Association.
    Mr. Rosen is a nationally respected figure in the field of 
Internet and e-commerce taxation. He has worked to shape policy 
through participation in various venues and has lectured 
extensively throughout the country on State and local tax 
issues.
    Mr. Rosen appeared before the Subcommittee for the hearings 
on H.R. 2526 on September 11, 2001, which was adjourned 
prematurely for obvious reasons. Mr. Rosen has graciously 
accepted another invitation to provide testimony. We hope our 
efforts today will prove successful.
    Mr. Rosen, welcome back and we look forward to your 
testimony.
    Our next witness is Jamie Van Fossen, State Representative 
for the 81st House District of the State of Iowa, who is more 
often on this side of the dais than on that. We welcome you. 
Mr. Van Fossen is serving his fifth term as State 
Representative and his third term as chairman of the Iowa House 
Committee on Ways and Means. Mr. Fossen is recognized for his 
work to lower taxes for job creating businesses in Iowa. He 
introduced Resolution 164, adopted last month in the Iowa 
House, requesting Congress to enact legislation updating Public 
Law 86-272.
    In recognition for his leadership the American Legislative 
Exchange Council honored Mr. Van Fossen in 2001 as Legislator 
of the Year. He is also a three-time recipient of the Guardian 
of Small Business Award by the National Federation of 
Independent Business.
    Mr. Van Fossen earned his Bachelor's Degree from St. 
Ambrose University. When not serving in the legislature, he is 
an economic analyst for Mid-America Energy Company in 
Davenport.
    Mr. Van Fossen, we congratulate you for your substantial 
efforts and look forward to your testimony from the State 
perspective.
    Our next witness is Rick Clayburgh, Tax Commissioner of the 
State of North Dakota. Mr. Clayburgh was elected as State Tax 
Commissioner in 1996. Commissioner Clayburgh is a former four-
term State legislator representing a part of the city of Grand 
Forks in the North Dakota House from 1988 to 1996. Mr. 
Clayburgh is the Secretary of the State Board of Equalization 
as well as the Treasurer of the Multistate Tax Commission. He 
is also a member of the Federation of Tax Administrators Board 
of Trustees and is actively involve in several charitable 
organizations, including the United Way, the Special Olympics 
and the Elks club.
    Commissioner Clayburgh earned his Bachelor's Degree from 
Concordia College in Minnesota and his MBA and law degree from 
the University of North Dakota. We welcome you and we 
appreciate your testimony.
    Our final witness is Mr. Vernon T. Turner, Corporate Tax 
Director for Smithfield Foods, Inc., located in Smithfield, 
Virginia.
    Mr. Turner is responsible for all worldwide tax matters, 
including Federal, international and State tax issues. He has 
formed due diligence and acquisition structuring for numerous 
transactions. Prior to joining Smithfield Foods, Mr. Turner 
worked with two major accounting firms where he served a 
diverse client base in several industries.
    Mr. Turner earned a Bachelor's Degree in business 
administration from James Madison University in Harrisonburg, 
Virginia. He is a licensed certified public accountant in 
Virginia and New York and serves as the State Tax Chairman for 
the Virginia chapter of Tax Executives Institute.
    Mr. Turner,thank you for your appearance here today. I 
extend to you my warm regards and appreciation for your 
willingness to participate in today's hearing.
    In light of the fact that your written statements will be 
included in the hearing record, I request you limit your oral 
remarks to 5 minutes. Accordingly, please feel free to 
summarize or highlight the salient points of your testimony. 
You will note that we have a lighting system that starts with a 
green light. After 4 minutes it turns to a yellow light and 
then in 5 minutes it turns to a red light. It is my habit to 
tap the gavel at 5 minutes. We appreciate if you would finish 
up your thoughts within that time frame. You do not have to 
stop. We are not cutting people off. I find it works better if 
everybody knows we have 5 minutes. We will have several people 
here asking you questions, so you will have time to elaborate 
on your ideas.
    After all the witnesses have presented their remarks the 
Committee Members in the order they arrived will be permitted 
to ask questions of the witnesses subject to the same 5-minute 
time limit. Mr. Rosen, would you proceed with your testimony 
now?

 STATEMENT OF ARTHUR R. ROSEN, TAX PARTNER, McDERMOTT, WILL & 
                             EMERY

    Mr. Rosen. Thank you, Mr. Chairman, Congressman Watt, 
Members of Subcommittee. Thank you for this opportunity to 
comment on H.R. 3220, the Business Activity Tax Simplification 
Act, or BATSA. I am Arthur Rosen, a member of the international 
law firm of McDermott, Will & Emery. I am here today 
representing the Coalition For Rational and Fair Taxation, or 
CRAFT, a diverse coalition of some of America's major 
corporations involved in virtually every industry with 
locations throughout the United States.
    The underlying principle in BATSA is that only those States 
and localities that provide benefits and protections to a 
business should get that business' taxes rather than remote 
jurisdictions that provide no services to the business. BATSA 
does so in a manner that ensures that the business community 
continues to pay its fair share of taxes and puts a stop to 
unfair and new taxing positions.
    BATSA also modernizes an important Federal law enacted in 
1959. In recent years certain State tax collectors have been 
advocating a position that a State has the right to impose tax 
on a business that merely has customers there on the basis of 
what they call ``economic nexus'', even if the business has no 
physical presence there whatsoever.
    While the taxpayers' position that physical presence is 
required has repeatedly been upheld by courts, those courts and 
State tribunals have rendered nonuniform decisions. This has 
led to overall confusion regarding the current rules governing 
State taxation that has in turn resulted in a chilling effect 
on interstate commerce.
    CRAFT strongly supports BATSA and respectfully urges your 
approval of this legislation. We believe it is essential for 
Congress to act to provide clear guidance to the States in the 
area of interstate commerce. The current situation of 
uncertainty, overly aggressive State revenue departments, and 
the huge amounts of contentious controversy and litigation as 
well as the specter of enormous tax compliance responsibilities 
related to every State and thousands upon thousands of 
localities has placed a real drag on American business, hurting 
American job growth and harming the entire U.S. Economy.
    In my practice I regularly see situations where business 
will decide not to undertake a new venture for fear of 
inappropriate State tax ramifications. As explained by the 
Chairman, enactment of BATSA will address these problems and 
ensure that the relevant law, Public Law 86-272, reflect the 
21st century American economy.
    Perhaps most important, BATSA guarantees fairness in 
interstate taxation. BATSA is simple, straightforward and quite 
limited and generally preserves the current state of the law. 
BATSA provides a 21-day test, where businesses that have 
people, employees, agents, or property in the State for more 
than 21 days during the year are subject to tax.
    There are qualitative de minimis exceptions to that. That 
is when the business is merely a customer in the State, when it 
is patronizing local markets, when it is generating other tax 
revenues for the State.
    BATSA also modernizes Public Law 86-272 to make sure it 
applies to all taxes, not just income taxes, and that it 
applies to sellers of goods other than tangible personal 
property.
    There simply is no basis for any contention that BATSA 
could lead to any significant loss of State revenues. BATSA 
does not depart in any significant degree from what is now 
being done in the States, as has recently been confirmed by the 
former Executive Director of the Multistate Tax Commission.
    Clearly State and local governments drive virtually all 
their business activity tax revenue from businesses that 
maintain employees, facilities, inventory or property in their 
jurisdiction for more than 21 days in the year. In reality, 
there simply could not be any material effect on the amount of 
revenue received by States.
    Assertions that BATSA will decrease State revenues due to 
tax planning or, to use the recently overused and politically 
charged term ``tax sheltering,'' are totally baseless. There is 
absolutely nothing in BATSA that prevents States from using 
many of the weapons in their arsenal to combat improper 
structures and transactions. There are in fact only five or six 
States that do not have specific laws, some long-standing, some 
recently enacted, that are fully effective in addressing these 
situations.
    The recent MTC press release, for example, relied on a 
report prepared by the California Franchise Tax Board. I have 
on the table, and people can take if they wish, a thorough 
rational explanation why the assertions and conclusions in the 
FTB report are simply false.
    The United States and its treaty partners have for decades 
adopted and implemented a permanent establishment rule which 
provides that a country will not impose an income tax on a 
business from another country unless the business maintains a 
substantial presence in the taxing country. Quite alarmingly, 
it has been said that some smaller countries, citing the 
efforts of the U.S. State revenue departments advocating 
economic nexus, are now saying they want to renegotiate their 
treaties with the United States so that they can begin taxing 
every U.S. Business that has customers in their country. This 
would be a disaster for the U.S. economy. Enactment of BATSA is 
thus essential for ensuring that the current international 
system of taxation remains intact.
    My comments have only scratched the surface of why 
enactment of BATSA is important to the American economy and to 
ensure basic fairness without any material costs to the States. 
Thank you for your time. I welcome any questions.
    [The prepared statement of Mr. Rosen follows:]

                 Prepared Statement of Arthur R. Rosen



    Mr. Cannon. Thank you, Mr. Rosen.
    Mr. Van Fossen.

STATEMENT OF JAMIE VAN FOSSEN, STATE REPRESENTATIVE, 81ST HOUSE 
                    DISTRICT, STATE OF IOWA

    Mr. Van Fossen. Chairman Cannon, Representative Watt, and 
Members of the Subcommittee, thank you for the opportunity to 
testify today. My name is Jamie Van Fossen, and I am a State 
Representative from Iowa, and I chair the House Ways and Means 
Committee at the State House. I also serve as a public sector 
chair for the Tax and Fiscal Policy Task Force at the American 
Legislative Exchange Council, or ALEC.
    On behalf of the people of Iowa and the over 2,400 State 
legislator members of ALEC, I am pleased to testify in support 
of H.R. 3220, or BATSA, legislation. ALEC is a bipartisan 
individual membership organization of over 2,400 State 
legislators. ALEC's mission is to promote Jeffersonian 
principles of free markets, individual liberty and federalism 
and limited government. Our task force mission is to study 
efforts of legislators from across the country and assist them 
in their lawmaking function. We author and study model 
legislation with the assistance of our private sector members 
on issues ranging from tax limitation to managing a State 
budget crisis, and also to the relationship between State tax 
policy and interstate commerce.
    Last year we took notice of a disturbing trend in State tax 
policy, the erosion of the physical presence standard for the 
collection of business activity taxes. The State revenue 
departments spurred on by a State budget crises are moving more 
aggressively to collect taxes from businesses wholly located in 
other States. In response to this trend and the threat it 
created for interstate commerce and State economic growth, ALEC 
provided two pieces of model legislation designed to preserve 
and strengthen the physical presence or nexus requirement for 
imposition of business activities tax.
    We first passed a model resolution calling on Congress to 
retain and strengthen Public Law 86-272 as the Federal standard 
for the State imposition of business activities tax. In our 
resolution we said that the ability of State and local 
jurisdictions to tax out-of-State businesses should be limited 
to those situations in which the business has employees and/or 
property in a taxing jurisdiction and, accordingly, receives 
meaningful Government benefits or protections from this 
jurisdiction.
    Our resolution also asks Congress to update Public Law 86-
272 by extending its protections beyond solicitation of sales 
of tangible personal property to the sales of services and 
intangibles, therefore reflecting the realities of 21st century 
economy. We then presented a model bill that would make 
physical presence the State standard for imposing business 
activities taxes. The model also defines physical presence in a 
way that would create certainty for businesses and minimize 
costly litigation on nexus issues. The bill would have provided 
a de minimis threshold of 21 days of physical presence in a 
State before taxation would be triggered. Our model bill has 
been introduced in California, in Iowa, and also has been 
introduced in Wisconsin.
    Our model resolution was approved by the Iowa House of 
Representatives last month as you mentioned, Mr. Chairman. I 
urge you to support the simplification of business activities 
tax for several reasons: First, because it is consistent with 
constitutional separation of powers between Federal and State 
governments; second, because it would contribute to State 
economic growth and job creation; and, third, because it would 
maintain the principle of tax competition among the States.
    I believe as does ALEC that Government powers should be 
limited. This same belief animated the drafters of the 
Declaration of Independence and the Constitution of the United 
States and should be at the forefront of our thinking in any 
discussion about interstate commerce and State tax 
jurisdiction.
    H.R. 3220 is consistent with this core belief because it 
would limit power of State government to place undue burdens on 
interstate commerce. People are often surprised to learn that 
ALEC, a State focused public policy group, is in favor of 
Federal restrictions on State power. They wonder how we could 
be in favor of federalism and also advocate for Federal 
preemption of certain State tax on business activities. The 
answer is simple, federalism is not an end into itself. 
Federalism, like the separation of powers, is the tool we use 
to limit Government's power and enhance the liberty of our 
citizens. Whenever State government goes beyond its powers 
given to it by the people and the Constitution, such as when 
the State tries to impose business taxes located outside of the 
State's jurisdiction, we should not hide behind the mantra of 
federalism and excuse the action.
    H.R. 3220 is thus not about the rights of States. It is 
about the rights of people. This bill is not about the right of 
Iowa and other States to maintain historic levels of spending 
on schools, health care and transportation. This bill is about 
the rights of Iowa business owners and their customers to 
engage in interstate commerce free from the undue burdens 
associated with paying taxes in multiple States. You are not 
forced, as opponents of the bill claims, to choose between 
public schools and other funding. You are going to have to 
decide whether federalism means that States have nearly 
unlimited powers to tax or whether federalism is just as much a 
restriction on State power as it is a restriction on Federal 
power.
    H.R. 3220 is also consistent with the time honored American 
principle of no taxation without representation. Businesses 
should not have to pay taxes in those jurisdictions where they 
have no physical presence, where they derive to substantial 
benefit from the services of Government, and where they have no 
lasting connection of betterment of culture and society.
    This leads me to the second reason I and ALEC support H.R. 
3220, because it will foster economic growth and job creation, 
especially at the State level. We should measure fiscal health 
of a State by the gross State product, State jobs and the size 
of the family budget. We should not measure fiscal health by 
the size and growth of the State budget or State revenues. This 
will in turn be good for the viability of State finances. Any 
threat to our national economy is by definition a threat to the 
States. Enacting legislation like H.R. 3220 is the best 
medicine Congress can prescribe for healthy State economies.
    H.R. 3220 would also maintain, and I think this gets to the 
point, a healthy tax competition among States. In Iowa we seek 
to create a tax and regulatory environment that is favorable to 
business locations and job creation. We compete with other 
States to offer the beneficial place to locate business. If 
other States can tax Iowa businesses merely because they have 
customers that derive income from those States, Iowa will lose 
a major tool we have to attract business and jobs.
    Thank you.
    [The prepared statement of Mr. Van Fossen follows:]

                 Prepared Statement of Jamie Van Fossen

    Chairman Cannon, Representative Watt, and members of the 
subcommittee, thank you for the opportunity to testify before the House 
Judiciary Subcommittee on Commercial and Administrative Law. My name is 
Jamie Van Fossen, and I am a State Representative from Iowa. I chair 
the Iowa House Ways and Means Committee and I also serve as the public 
sector chair of the Tax and Fiscal Policy Task Force at the American 
Legislative Exchange Council (ALEC). On behalf of the people of Iowa, 
and the over 2,400 state legislative members of ALEC, I am pleased to 
testify in support of H.R. 3220, the ``Business Activity Tax 
Simplification Act of 2003.''
    ALEC is a bi-partisan, individual membership organization of over 
2,400 state legislators. ALEC's mission is to promote the Jeffersonian 
principles of free markets, individual liberty, federalism and limited 
government to our members. I serve as the public sector chair of the 
Tax & Fiscal Policy Task Force. Our task force's mission is to study 
the efforts of legislators from across the country and assist them in 
their lawmaking function. We author and study model legislation, with 
the assistance of our private sector members, on issues ranging from 
tax limitation, to managing a state budget crisis, to the relationship 
between state tax policy and interstate commerce.
    Last year, we took notice of a disturbing trend in state tax 
policy: the erosion of the physical presence standard for the 
collection of business activity taxes. State revenue departments, 
spurred on by the state budget crisis, are moving more aggressively to 
collect taxes from businesses wholly located in other states. In 
response to this trend and the threat it created for interstate 
commerce and state economic growth, ALEC approved two pieces of model 
legislation designed to preserve and strengthen the physical presence 
nexus requirement for the imposition of business activity taxes.
    We first passed a model resolution calling on Congress to retain 
and strengthen Public Law 86-272 as the federal standard for the state 
imposition of business activity taxes. In our resolution, we said that 
the ability of state and local jurisdictions to tax out-of-state 
businesses should be limited to those situations in which the business 
has employees and/or property in the taxing jurisdiction and 
accordingly receives meaningful governmental benefits or protections 
from the jurisdiction. Our resolution also asks Congress to update 
Public Law 86-272 by extending its protections beyond the solicitation 
of sales of tangible personal property to the sales of services and 
intangibles, thereby reflecting the realities of the 21st century 
economy.
    We then passed a model bill that would make physical presence the 
state standard for imposing business activity taxes. The model also 
defines physical presence in a way that would create certainty for 
businesses and minimize costly litigation on nexus issues. The bill 
would provide a de minimis threshold of 21 days of physical presence in 
a state before taxation would be triggered. Our model bill has been 
introduced in California and Iowa, and we expect it to be introduced 
shortly in Wisconsin. Our model resolution was approved by the Iowa 
House of Representatives last month.
    I urge you to support the simplification of business activity taxes 
for several reasons: first, because it is consistent with the 
constitutional separation of powers between the federal and state 
governments; second, because it would contribute to state economic 
growth and job creation, and; third, because it will maintain the 
principle of tax competition among the states.
    I believe, as does ALEC, that government's power should be limited. 
This same belief animated the drafters of the Declaration of 
Independence and the Constitution of the United States, and should be 
at the forefront of our thinking in any discussion about interstate 
commerce and state tax jurisdiction. H.R. 3220 is consistent with this 
core belief because it would limit the power of state government to 
place undue burdens on interstate commerce. People are often surprised 
to learn that ALEC--a state-focused public policy group--is in favor of 
federal restrictions on state tax power. They wonder how we can be in 
favor of federalism and also advocate for federal preemption of certain 
state taxes on business activities. The answer is simple: federalism is 
not an end unto itself. Federalism, like the separation of powers, is a 
tool we use to limit government's power and enhance the liberty of our 
citizens. Whenever state government goes beyond the powers given to it 
by the people and the Constitution, such as when a state tries to 
impose taxes on businesses located outside its jurisdiction, we should 
not hide behind the mantra of federalism and excuse such action.
    H.R. 3220 is thus not about the rights of the states, it is about 
the rights of the people. This bill is not about the right of Iowa and 
other states to maintain historic levels of spending on schools, health 
care and transportation. This bill is about the rights of Iowa business 
owners and their customers to engage in interstate commerce free from 
the undue burdens associated with paying taxes in multiple states. You 
are not forced, as the opponents of this bill claim, to choose between 
public schools and corporate profits. Rather, you are going to decide 
whether federalism is a two way street, granting license to states as 
well as restricting state power outside its own borders. You are going 
to have to decide whether federalism means that states have nearly 
unlimited powers to tax, or whether federalism is just as much a 
restriction on state power as it is a restriction on federal power.
    H.R. 3220 is also consistent with the time-honored American 
principle of ``no taxation without representation.'' Businesses should 
not have to pay taxes in those jurisdictions where they have no 
physical presence, where they derive no substantial benefit from the 
services of government, and where they have no lasting connection to 
the betterment of the culture and society. If we do not draw the line 
at physical presence, it will be difficult to draw it anywhere that 
would meaningfully limit the state's power to place undue burdens on 
interstate commerce. The number of states in which a business will have 
to pay taxes will quickly multiply, indeed is already multiplying, 
because of the erosion of the physical presence standard and the need 
to extend the standard to sellers of services and intangibles.
    This leads me to the second reason I, and ALEC, support H.R. 3220: 
because it will foster economic growth and job creation, especially at 
the state level. We should measure fiscal health by the growth in Gross 
State Product (GSP), state jobs, and the size of the family budget. We 
should not measure fiscal health by the size and growth of the state 
budget or state revenues. This bill will be good for economic growth 
because it will promote the free flow of interstate commerce and create 
certainty for businesses engaged in interstate commerce. This will in 
turn be good for the viability of state finances. Any threat to our 
national economy is by definition a threat to the states. Enacting 
legislation like H.R. 3220 is the best medicine Congress can prescribe 
for healthy state economies.
    H.R. 3220 would also maintain healthy tax competition among the 
states. In Iowa, we seek to create a tax and regulatory environment 
that is favorable to business location and job creation. We compete 
with other states to offer the most beneficial place to locate a 
business. This tax competition is healthy for Iowa and healthy for our 
national economy. If other states can tax Iowa businesses merely 
because they have customers or derive income in those states, Iowa will 
lose a major tool we use to attract jobs and businesses.
    Iowa has been a leader in the effort to reform and simplify 
business activity taxes. As I mentioned earlier, the Iowa House of 
Representatives passed a resolution last month calling on Congress to 
enact business activity reforms similar to H.R. 3220. As a state 
lawmaker, I would urge you to enact H.R. 3220 because it promotes 
federalism, enhances our national economy and thereby increases the 
financial viability of our state governments, and preserves the 
constitutional principle of tax competition among the states. Thank 
you.




    Mr. Cannon. Thank you, Mr. Van Fossen. I would like to 
point out, in a day when we are hearing claims of outsourcing, 
if Iowa loses job it is likely that America loses jobs.
    Commissioner Clayburgh.

 STATEMENT OF RICK CLAYBURGH, TAX COMMISSIONER, STATE OF NORTH 
                             DAKOTA

    Mr. Clayburgh. Thank you, Mr. Cannon. Chairman Cannon, Mr. 
Watt, Members of the Subcommittee, I am Rick Clayburgh, the 
Commissioner of North Dakota's Office of State Tax Commission. 
I am speaking to you today on behalf of the National Governors' 
Association, and thank you for the opportunity to address the 
issues relating to H.R. 3220, the Business Activity Tax 
Simplification Act, and the impact that it could have on all 
States.
    I would like to read a couple of points out of my 
testimony, but you do have a copy of my testimony, and then I 
would just like to address some issues.
    First of all, I would like to reiterate the National 
Governors' Association policy on this issue of business 
activity tax, which is very clear. The National Governor's 
Association opposes any further legislative restriction on the 
ability of States to determine their own policy on business 
activity or corporate profit taxes. This is an issue of State 
sovereignty. The U.S. Constitution adequately protects the 
interests of both States and business. The National Governors' 
Association opposes H.R. 3220 because it would unduly interfere 
with the ability of States to determine and manage its own 
policies.
    Members of the Committee, the issues that we are facing are 
difficult in many respects. As you look at businesses, they are 
entities that are legal fictions that are created on paper and 
that have no physical being. These businesses are present in 
States through representatives such as buildings, property or 
inventory they own or persons they hire such as employees and 
independent contractors that do the company's work. They are 
present in States through activities they undertake such as 
leasing, contracting, licensing, selling and the like. So the 
key question that we face is what are the activities of a 
company that have no single physical embodiment sufficient to 
bring it within a State's taxing jurisdiction.
    The National Governors' Association is opposed to H.R. 3220 
based on five key points. First of all, it encourages and 
expands tax planning. One of the issues that has come up within 
States is the ability of some businesses to do tax planning in 
which they can channel away from that State legitimate income 
that has been earned within the State. In some cases these have 
been challenged in court and the courts are siding with the 
States. But there are issues that have not been fully 
litigated. And many tax planners for corporations are looking 
at those issues and saying,'' I really cannot put my company 
into that position to try to challenge a particular State law 
to determine if we have a significant presence within that 
State.'' The passage of H.R. 3220 would actually create a 
situation where tax planners would have an obligation on behalf 
of their corporation and their shareholders to minimize their 
tax obligations within the States. This will increase the 
burden of taxation on local business and local constituents 
because they are the only ones that will be remaining within a 
State that will be subject to the State's taxing jurisdiction.
    Second, we truly believe that H.R. 3220 favors big over 
small. H.R. 3220 favors out-of-State businesses over in-State 
businesses and for our State that is not sound economic policy. 
I believe it is very important, and it is one of the reasons 
and one of the ideas that I truly believe in, that State tax 
policy should be fair and consistent for all taxpayers. H.R. 
3220 goes a long way in separating that in creating winners and 
losers.
    Third, I beg to differ, but H.R. 3220 is not clear and it 
is not simple. It does not create a physical presence standard. 
It creates something less than a physical presence standard. 
And I would argue that we will find in many States that audit 
activity and litigation will increase as auditors are looking 
into the activities of a business, would have to assess a tax 
and have the business come back and prove the activity that 
occurred was within one of the carve-outs which was established 
during this Federal legislation. I do not believe that is good 
tax policy.
    Third, it is a step back in time for tax policy. At a time 
when our economy and our country, we are in a situation where 
we are now an electronic, borderless economy, most businesses 
have the ability to operate anywhere at any time without the 
encumbrance of a physical presence. However, H.R. 3220 tries to 
take the 19th century tax law on physical presence and impose 
it on a 21st century borderless economy. That does not make 
sense.
    Finally, and most importantly, we believe that H.R. 3220 
violates the principles of federalism. It violates over 225 
years of federalism by taking decisions regarding economic 
development and job creation in our own States away from the 
Governors, the State legislators and mayors and puts it in the 
hands of Congress. For that reason, Mr. Chairman, and I look 
forward to answering questions specific to it, and for the 
reasons outlined in the statement I have provided in my opening 
comments, the National Governors' Association strongly urge the 
Subcommittee to reject H.R. 3220.
    Congress should not implement legislation that will 
discriminate against local merchants and businesses cause 
States to incur severe revenue losses and set back over 225 
years of principles of federalism.
    Mr. Chairman and Members of the Subcommittee, thank you for 
the opportunity to speak with you, and again I welcome the 
opportunity to address specific questions.
    [The prepared statement of Mr. Clayburgh follows:]

                  Prepared Statement of Rick Clayburgh

    Chairman Cannon and Members of the Subcommittee, I am Rick 
Clayburgh, Commissioner of the North Dakota Office of State Tax 
Commissioner. I am speaking to you today on behalf of the National 
Governors Association and thank you for the opportunity to address 
issues relating to HR 3220, the Business Activity Tax Simplification 
Act, and the impact it could have on all states.
    NGA policy on the issue of business activity taxes is very clear:

        ``The nation's Governors oppose any further legislative 
        restrictions on the ability of states to determine their own 
        policy on business activity or corporate profits taxes. This is 
        an issue of state sovereignty. The U.S. Constitution adequately 
        protects the interests of both states and business.''

    The NGA opposes H.R. 3220 because it would unduly interfere with 
the ability of states to determine and manage their own tax policies. 
In the simplest of terms, HR 3220 would encourage--and in some cases, 
mandate--businesses to engage in tax shelter activities to avoid 
payment of state corporate income and other business activity taxes. It 
would impose new limits on the ability of states to tax entities 
engaging in business in the state, and prevent states from taxing 
income where it is earned. It would reduce every state's revenue base--
with aggregate revenue losses likely reaching into the billions of 
dollars per year. It would unfairly shift the tax burden to local 
businesses and render most of these taxes virtually unworkable. Most 
importantly, H.R. 3220 runs directly counter to our system of 
federalism and places Congress in the position of making decisions that 
for over 225 years have been reserved to state and local elected 
officials.
    Let me put the proposals in HR 3220 in context. When we talk about 
a state's jurisdiction to tax, also known as nexus, we are asking 
whether a company has sufficient activities in a state to allow that 
state to impose a tax on it. Business entities are legal fictions 
created on paper that have no physical being. These businesses are 
present in a state through representatives such as buildings, property, 
or inventory they own or persons they hire, such as employees and 
independent contractors, to do the company's work. They are present in 
the state through the activities they undertake such as leasing, 
contracting, licensing, selling, and the like. So, the key question is: 
When are the activities of a company that has no single physical 
embodiment, sufficient to bring it within the state's taxing 
jurisdiction?
    Proponents of HR 3220 will tell you that the legislation 
establishes a straightforward ``bright line'' standard of ``physical 
presence'' for determining nexus, thus providing certainty for the 
business community. They will also argue that the measure will have 
little impact on state revenues. Nothing could be further from the 
truth. Let me briefly address some of the issues raised by HR 3220.
Point #1: Simple and Identifiable Standards
    H.R. 3220 purports to establish a bright line physical presence 
standard for the imposition of state and local business activity taxes. 
In reality, the measure contains a series of conditions and carve-outs 
from the physical presence standard that would enable a corporation to 
engage in a substantial volume of activity in a state without being 
subject to the state's tax jurisdiction.
    H.R. 3220 provides that an entity may be subjected to tax in a 
state if it has personnel or property in the state--

          Unless the personnel or property are in the state for 
        fewer than 21 days or

          Unless the personnel or property are engaged solely 
        in the solicitation of sales of tangible goods, intangibles or 
        services or

          Unless the personnel or property are engaged in 
        various activities such as news gathering, making purchases, or 
        lobbying government officials, or

          Unless the activities of the entity are carried out 
        by a contractor--a contractor that might be a wholly-owned 
        subsidiary that may simply perform activities for two related 
        parties.

    In other words, there is nothing simple and nothing bright about 
the standard in H.R. 3220, and it certainly goes way beyond mere 
physical presence before a state would be authorized to levy its 
business activity tax. As an example, a company engaged in ``gathering 
news'' could have a permanent building in a state and permanent 
employees in the state and not be subject to tax. Likewise, a company 
that sold multiple products into a state could use an independent 
contractor to perform all its installation, servicing, and repair 
services in the state and not be subject to tax on its income.
    In short, the so-called ``bright line'' standard that HR 3220 
imposes is more a ruse than a reality--and represents a step backward 
in good tax policy.
    Point #2: HR 3220 Legalizes--and even promotes--increased tax 
sheltering. By requiring that an entity have a physical presence in a 
state, H.R. 3220 would legalize the use of ``intangible holding 
companies'' and other related-party arrangements to shift income among 
states in a manner that avoids taxation. For the past several years, 
states have aggressively fought this form of tax sheltering. Many of 
those efforts would be for naught if H.R. 3220 is passed. In addition, 
H.R. 3220 would encourage and possibly require additional tax 
sheltering. Public companies--where corporate officers have a fiduciary 
duty to shareholders to boost their share prices and reduce their tax 
liabilities--would conceivably be required to take advantage of the 
same tax sheltering opportunities that to this point have been 
considered risky and aggressive. Thus, at the same time that Congress 
and the Administration are strongly advocating measures to curb the use 
of Bermuda-type tax shelters that affect the federal tax base, H.R. 
3220 would encourage Congress to do an about-face and put its stamp of 
approval on legislation that would expand and legalize the use of tax 
shelters for state corporate income tax avoidance.
    Point #3: Impact on State Revenue Bases. H.R. 3220 would have a 
significant impact on state revenue bases. While the fieldwork to 
estimate the impact of H.R. 3220 is still going on, the total impact 
will undoubtedly reach into the billions of dollars per year. In fact, 
one state has already estimated that the impact of the bill would 
amount to about a 20 percent reduction in its corporation income tax 
base.
    Point #4: The Impact on Federalism. For 225 years, Congress has 
recognized the sovereign authority of states to raise revenue. This is 
a fundamental principle of federalism that is essential to the proper 
balance of the state/federal relationship. H.R. 3220 would decimate 
this core principle and supplant the authority and judgment of state 
and local elected officials with the judgment of Congress. It would 
make Congress and large corporations the arbiters of economic 
development decisions nationwide. Governors, state legislators, and 
mayors would no longer independently decide what business is good for 
the economy of their cities and states, what industry it wants to 
recruit to bring jobs to its citizens, or what type of business 
development incentives it wants to provide. Rather, enacting H.R. 3220 
will establish a system where out-of-state businesses--businesses that 
compete for local customers and benefit from the services of state and 
local government that support the economy--will be exempt from 
contributing to the local schools, public safety, or transportation 
infrastructure while increasing the burden on in-state companies and 
local businesses. Congress should not damage the ability of state and 
local governments to use taxes to promote competition and fairness that 
are both constitutional and a major part of their fiscal systems.
    For the reasons outlined in this statement, the National Governors' 
Association strongly urges the subcommittee to reject HR 3220. Congress 
should not implement legislation that will discriminate against local 
merchants and businesses, force states to incur severe revenue losses, 
and setback over 225 years of the principles of federalism.
    Mr. Chairman and members of the Subcommittee, thank you for the 
opportunity to speak to you today. I welcome the opportunity to answer 
any questions you may have.

    Mr. Cannon. Thank you, Mr. Clayburgh. I am certain that we 
will have questions for you.
    Mr. Turner, you are recognized for 5 minutes.

    STATEMENT OF VERNON T. TURNER, CORPORATE TAX DIRECTOR, 
                     SMITHFIELD FOODS, INC.

    Mr. Turner. Mr. Chairman and Members of the Subcommittee, 
thank you for inviting me to testify today. It is an honor to 
appear before you to discuss a matter of importance to 
Smithfield Foods and the business community in general.
    My name a Tracy Turner and I am the Corporate Tax Director 
of Smithfield Foods. Smithfield Foods is the world's largest 
pork processor and hog producer headquartered in Smithfield, 
Virginia. We have worldwide sales of 9 billion and are a 
Fortune 200 company. Our company has experienced remarkable 
growth from its early origins as a small pork processor. Today 
we are a worldwide company with sales in all 50 States. Our 
various subsidiaries have physical operations in 20 States.
    We incur substantial costs to meet our State tax 
obligations. On an annual basis we are required to file 860 
State income tax returns, 450 sales and use tax returns, 3,150 
State payroll tax returns and 215 real and personal property 
returns. This results in various State payment of almost $60 
million. In spite of our efforts to comply with the laws of all 
the States, we continue to find State interpretations of the 
business activity tax to be difficult and troublesome.
    The U.S. Supreme Court and Congress have decided that 
States may not unduly burden companies that have no physical 
presence in a State with business activity taxes. In 1992, the 
U.S. Supreme Court held in Quill Corporation vs. North Dakota 
that the U.S. Constitution requires a bright line physical 
presence rule for the imposition of use tax collection 
responsibility. Many scholars and State tax experts believe 
that the Quill standard applies to all State taxes, not just 
use tax.
    Public Law 86-272, still good law, was enacted by the U.S. 
Congress to provide a similar bright line standard. It bars 
States from imposing a net income tax on companies whose only 
in-State activity is the solicitation of sales of tangible 
personal property. Despite the decision of the U.S. Supreme 
Court and Congress, States continue to attempt to tax companies 
regardless of physical presence. States have, for example, 
enacted and imposed gross receipt taxes, net worth taxes, and 
fixed dollar minimum taxes on out-of-State companies underthe 
theory that Public Law 86-272 bars imposition of only net 
income tax. States have argued, too, that Quill applies only to 
use tax. As a result businesses struggle with multi-state tax 
compliance in the face of confusing and conflicting guidance. 
This situation needs to be clarified and BATSA seeks to do that 
and nothing more.
    Interstate sales are today more the rule than the 
exception, not only for large corporations like Smithfield but 
small and medium size enterprises as well. The current state of 
confusing and arbitrary taxation of multi-State companies that 
are selling product across State lines only serves to chill 
interstate commerce. BATSA will eliminate confusion and the 
need for companies to engage in protracted and costly 
litigation as a way of ameliorating discrepancies in tax 
enforcement.
    BATSA does not diminish the ability of States to collect 
tax revenue. It rationalizes and makes more predictable the 
process of doing so.
    We recently experienced a prime example of the arbitrary 
and confusing application of State income tax laws. This 
example is not a gross exception. In fact it is just a metaphor 
for a larger problem. A collection agent with the New Jersey 
Department of Taxation recently stopped one of our trucks 
loaded with refrigerated product on the New Jersey Turnpike. 
The agent held the truck and its driver for several hours and 
demanded that in order to release the truck Smithfield had to 
wire $150,000 immediately to the New Jersey Department of 
Taxation. The agent claimed that he had the right to hold the 
truck and its contents because we had failed to properly file 
New Jersey tax returns.
    I informed the New Jersey agent that his claim was 
unfounded. I explained that Public Law 86-272 protected our 
subsidiary from New Jersey taxation since it only engaged in 
mere solicitation in New Jersey and had no physical operations 
in the State. The agent refused to accept this explanation. 
However, he finally agreed to release the truck and its driver 
in return for $8,000. We appealed this aggressive and incorrect 
application of Public Law 86-272 to the New Jersey State Tax 
Commissioner. Ultimately, New Jersey accepted our contention 
that we have no physical presence in the State and are not 
subject to New Jersey income tax. They issued a refund and an 
apology for their roadside justice system.
    Our experience is not unique. It is shared by businesses 
small and large. Many small companies do not have the ability 
to make an immediate wire transfer of funds much less obtain 
recourse from aggressive States. We believe that BATSA will 
clarify the physical presence standard embodied in Public Law 
86-272 and the Quill decision. This is sound public policy and 
we urge its passage.
    Thank you very much.
    [The prepared statement of Mr. Turner follows:]

                 Prepared Statement of Vernon T. Turner

    Thank you for inviting me to testify today. It's an honor to appear 
before you to discuss a matter of importance to Smithfield Foods, Inc. 
and to the business community in general. My name is Tracy Turner, and 
I am Corporate Tax Director of Smithfield Foods, Inc.

                            I. INTRODUCTION

          Background on Smithfield Foods, Inc.

    Smithfield Foods, Inc. is the world's largest pork processor and 
hog producer, headquartered in Smithfield, Virginia. We have worldwide 
sales of $9 billion, and are a ``Fortune 200'' company. Our company has 
experienced remarkable growth from its early origins as a small pork 
processor. Today, we are a worldwide company, with sales in all fifty 
states. Our various subsidiaries have physical operations in twenty 
states.

          Why Smithfield is testifying

    We incur substantial costs to meet our state tax obligations. On an 
annual basis, we are required to file 860 state income tax returns, 450 
sales and use tax returns, 3,150 state payroll tax returns and 215 real 
and personal property tax returns. This results in various state 
payments of approximately $60 million. In spite of our efforts to 
comply with laws with all the states, we continue to find state 
interpretation of the business activity tax to be difficult and 
troublesome.

              II. THE PROBLEM--BUREAUCRATIC ARBITRARINESS

    The U.S. Supreme Court and Congress have decided that states may 
not unduly burden companies that have no physical presence in a state 
with ``business activity taxes.''
    In 1992, the U.S. Supreme Court held in Quill Corporation v. North 
Dakota that the U.S. Constitution requires a bright line physical 
presence rule for the imposition of use tax collection responsibility. 
Many scholars and state tax experts believe that the Quill standard 
applies to all state taxes, not just use tax.
    Public Law 86-272, still good law, was enacted by the U.S. Congress 
to provide a similar bright line standard. It bars states from imposing 
a net income tax on companies whose only in-state activity is the 
solicitation of sales of tangible personal property.
    Despite the decision of the U.S. Supreme Court and Congress, states 
continue to attempt to tax companies regardless of physical presence. 
States have, for example, enacted and imposed gross receipts taxes, net 
worth taxes and fixed dollar minimum taxes on out of state companies 
under the theory that Public Law 86-272 bars imposition of only net 
income tax. States have argued too, that Quill applies only to use tax. 
As a result, businesses struggle with multi-state tax compliance in the 
face of conflicting and confusing guidance. This situation needs to be 
clarified, and BATSA seeks to do that and not more.

                               III. BATSA

    Interstate sales are today more the rule than the exception, not 
only for large corporations like Smithfield, but small and medium sized 
enterprises as well. The current state of confusing and arbitrary 
taxation of multi-state companies that are selling product across state 
lines only serves to chill interstate commerce. BATSA will eliminate 
confusion and the need for companies to engage in protracted and costly 
litigation as the way of ameliorating discrepancies in tax enforcement. 
BATSA does not diminish the ability of states to collect tax revenue. 
It rationalizes and makes more predictable the process of doing so.

                   IV. A RECENT SMITHFIELD EXPERIENCE

    We recently experienced a prime example of the arbitrary and 
confusing application of state income tax laws. This example is not a 
gross exception. In fact, it is just a metaphor of a larger problem. A 
collection agent with the New Jersey Department of Taxation recently 
stopped one of our trucks, loaded with refrigerated product, on the New 
Jersey turnpike. The agent held the truck and its driver for several 
hours, and demanded that, in order to release the truck, Smithfield had 
to wire $150,000 immediately to the New Jersey Department of Taxation. 
The agent claimed that he had the right to hold the truck and its 
contents because we had failed to properly file New Jersey tax returns.
    I informed the New Jersey agent that his claim was unfounded. I 
explained that Public Law 86-272 protected our subsidiary from New 
Jersey income taxation since it only engaged in mere solicitation in 
New Jersey and had no physical operations in the State. The agent 
refused to accept this explanation. However, he finally agreed to 
release the truck and its driver in return for $8,000.
    We appealed this aggressive and incorrect application of Public Law 
86-272 to the New Jersey State tax commissioner. Ultimately, New Jersey 
accepted our contention that we have no physical presence in the State 
and are not subject to New Jersey income tax. They issued a refund and 
an apology for their roadside justice system.
    Our experience is not unique; it is shared by many businesses, 
large and small. Many small companies do not have the ability to make 
an immediate wire transfer of funds much less obtain ultimate recourse 
from aggressive states. We believe that BATSA will clarify the physical 
presence standard embodied in Public Law 86-272 and the Quill decision. 
This is sound public policy and we urge its passage.

    Mr. Cannon. Thank you, Mr. Turner. Commissioner, I know you 
are here representing the National Governors' Association but 
you are also the Treasurer of the MTC. Would you mind if I 
asked a couple questions about the MTC and you may or may not 
speak on behalf of them but perhaps could you give us some 
guidance on their thinking.
    Mr. Clayburgh. I certainly will.
    Mr. Cannon. I was surprised by the directness of Mr. 
Rosen's statement that the MTC citing the FTB, Franchise Tax 
Board of California, I think the term ``false'' was used 
directly.
    I have been handed actually a copy of a press release that 
apparently came from the MTC. The Multistate Tax Commission 
warned today that H.R. 3220 would legalize the controversial 
tax shelter schemes. The bill would allow income shifting gains 
made notorious by a handful of companies in order to avoid 
paying tax to State governments which are still shaky in the 
wake of a recent economic recession.
    That is a pretty intensely political statement by an 
organization that would be thought to be more analytical, and I 
would like you to comment on that if you will, but at the same 
time,as I mentioned earlier, we have a series of issues here 
that relate how States can tax. We have the Internet Tax 
Freedom Act, we have the Streamlined Sales Tax Proposal, which 
I believe Mr. Delahunt is going to talk about. These are not 
partisan issues. These are, however, thoughtful about taxing 
ourselves.
    As you know, the Multistate Tax Commission came out with a 
study that is a little bit outrageous, but even if you say it 
is not intended to be so political, it suggested that the 
States would lose somewhere between $4 and $9 billion a year, 
couched in today's terms, as opposed to the time frame it would 
take for the Internet Tax Freedom Act to have some effect, and 
that had a fairly profound effect on the legislative process, 
especially on the other side of the building.
    I would actually like to deal with the issue of how 
political the MTC is and why, as opposed to dealing with them 
here, because we have had a very pleasant discussion, 
rationally, and your presentation was very compelling, but what 
are State tax commissioners thinking in the long term?
    In other words, I just have to say as an aside that the Tax 
Commissioner of Utah is a guy named Bruce Johnson, whom you may 
know. Bruce has been a friend of mine for a very long time, but 
I just absolutely hate Bruce.
    For the record, this is a joke, although this is not really 
a joke. The reason is my wife dated him, so he is the perfect 
human being to whom I am always compared and has been for the 
last 28 years. But we recently had a very intense conversation 
on this subject. Why is the State of Utah not looking beyond 
the issue of the ITFA and they are relatively significant taxes 
they have there, when you have, I am not sure what the number 
is, but Business Week 3 or 4 weeks ago said that the SSTP said 
lost revenues on the Internet--I am not sure if that means 
catalogs and other things--are $35 billion. Why are we tripping 
over $35 billion over what even in an exaggerated sense is $4 
to $9 billion based upon taxing the Internet?
    I am going to give you some time to answer that, but let me 
add that it seems to me in a rational system you would want the 
goose that produces the golden eggs to be well fed and 
comfortable, maybe a little bit of exercise, but you do not 
want to interfere with the golden eggs. And information is the 
context for virtually everything that we are doing in America 
and in the world to create an economically vibrant system. So 
why on Earth would we want a balkanized system of State taxes 
on our information process? And is anybody at the MTC thinking 
rationally and long term about this?
    I am sorry. The rational does go back to the politicized 
statement here. But are we thinking about that and is there 
some way to move the MTC to a position of saying, look, the 
SSTP is important, the BAT is really important, and the ITFA is 
not very important?
    Mr. Clayburgh. Thank you, Mr. Chairman. I will start to 
answer the question. If I am not getting all your points, 
please stop and clarify for me and I will try to address those.
    First of all, I am here on behalf of the National 
Governors' Association. I am the Treasurer of the Multistate 
Tax Commission, as you have stated. I am also on the Board of 
Trustees of the Federation of Tax Administrators. Very briefly, 
I want to give a background of myself. I am a Republican. I am 
elected in the State of North Dakota. I am formerly involved in 
a business.
    Mr. Cannon. That makes you dramatically different from 
Bruce, who actually gets appointed. We love your State's 
approach.
    Mr. Clayburgh. But I have to disagree in some respects. The 
goal of the Multistate Tax Commission and the reason that a 
number of States participate in it, and one of the issues that 
I enumerated in my opening remarks, is something I believe so 
strongly in and that is fairness and consistency within tax 
administration.
    The Multistate Tax Commission's real role is trying to deal 
with uniformity, consistency and certainty amongst taxes for 
businesses that are doing business in multiple states. The 
Commission does just an outstanding job there. I do not have 
any disagreement on how the Multistate Tax Commission deals 
with that.
    The issue and the discussion in the release has to deal 
with one of the aspects and the concerns that have been 
enumerated publicly across this country, ``what will occur with 
the issue of tax planning?''
    Now you and I both know that 99.99 percent of all 
corporations are outstanding members of our communities, are 
outstanding members of this country. They provide jobs. They 
provide opportunity. They provide economic growth. They are 
good for our society. They are good for our State, but they 
still have an issue that impacts those, and that is that legal 
side or that tax planning that may occur with an area that we 
do not have tax law that is specific yet in States, and they 
are challenging to try to determine what is the law in a State.
    Mr. Clayburgh. For example, in the K-Mart case in New 
Mexico or Jeffries in North Carolina, that issue of the 
Multistate Tax Commission is an issue of trying to provide 
uniformity and consistency.
    I have to tell you, from the standpoint of business 
activity taxes, in my role as tax commissioner in North Dakota, 
we work with the business community in our State, both in State 
and those from a multi-State jurisdiction that do work within 
our State. Most recently, we sat down with tax preparers and 
members of our audit staff to go over an issue that we had some 
disagreement with and gave the tax preparer an opportunity to 
hear what was the issue the tax department was looking at. And 
it gave the tax department an opportunity to understand where 
the taxpayer was coming from.
    By the time the day was done, it was about a 2-hour 
meeting, we had the issue resolved. And it is not an issue 
anymore. I have been tax commissioner for 8 years in North 
Dakota and have been on the board of the FTA and have been on 
the board of the MTC. I have talked with our Governor, and I 
have a great relationship, as a former legislator, with our 
legislative leaders in North Dakota. We are not aware of, and 
people have not been bringing to us significant problems, with 
business activity taxes.
    I am proud of North Dakota and what we have done in the tax 
department. We have been able to reduce the size of our agency. 
And we have been able to focus on customer service and make 
sure people are treated fairly, efficiently and effectively. We 
have turned nearly $4.5 million back in unspent revenue 
authority.
    I am just giving you a background of where I am coming 
from. The purpose of all of this is, we have a problem with 
business activity taxes. I think it is important for the 
business community to sit down with the governors and say, 
``Here are our issues.'' States are willing and able to sit 
down and listen. We have shown it, both with streamlining and 
shown it with the sourcing rules with wireless. If we are 
presented the problem, we can sit down and work the issues out 
in a way that is fair and reasonable to all taxpayers, to all 
businesses and to the States.
    But really, we haven't been given that opportunity here. 
This has been an issue that really has surfaced here in 
Congress but is not surfacing, for the most part. Now there are 
specific issues that will pop up occasionally, and yes, there 
are egregious issues that will come out from a State. All I am 
trying to say is, let us sit down and let the States sit down 
with the business community to try to resolve this before we 
take a one-size-fits-all piece of Federal legislation and put 
it in all States, because what is good for South Carolina may 
not be good for North Carolina, and what is good for Utah may 
not be good for North Dakota.
    Mr. Cannon. I think an elected tax commissioner would be 
wonderful for Utah. And I am going to suggest that to my State 
legislators.
    I did not mean this to be a personal attack, and I hope you 
will do me a favor in your next meeting with your Multistate 
Tax board, I hope they will take a look, first of all, the 
politicization that happened on this bill and the 
politicization that happened on the Internet tax as it went 
over to the Senate and consider, long-term, where you want to 
go with this, because I think there were serious concerns with 
that Internet Tax Freedom Act Report that went to the 
credibility of the MTC, and that, I think, is unfortunate.
    I hope you will go back and consider with those folks where 
States ought to be going and what they ought to be thinking, 
because I would like to see the Internet Tax Freedom Act pass 
the way we passed it here.
    With that, let me yield 5 minutes to the gentleman from 
North Carolina, Mr. Watt.
    Mr. Watt. Thank you, Mr. Chairman.
    I am trying to get a handle on this, so let me ask a couple 
of basic questions.
    Mr. Rosen--any one of you could answer these questions but 
since you testified first--I assume there are States that have 
no income taxes, is that correct?
    Mr. Rosen. There are a few.
    Mr. Watt. What are those States?
    Mr. Rosen. States that have taxes instead of income taxes, 
a number of States, depending on the industry. Some impose 
gross receipts tax. Others have alternate bases based on 
capital. And the State of Nevada has no corporate level tax at 
all. That is the only State with no corporate level tax at all.
    But there are variations on income taxes. And that is the 
concern on one of the changes what is being done to 86-272. The 
State of New Jersey passed a law that says, if you are a 
corporation and you are protected by what Congress has passed, 
you've got to pay another tax. And only those companies have to 
pay a tax based on gross receipts. Otherwise, what it is trying 
to do is trying to beat what Congress has tried to enforce.
    Mr. Watt. The question I am trying to get to is, is it 
theoretically possible that, with a physical presence test, you 
could conceive that a number of businesses would flock to a 
State that has no income tax if that is the sole criteria? What 
is the likelihood of that?
    Mr. Rosen. I would think it is almost nil for the following 
reasons. As we all recognize, the physical presence test has 
been the practical, if not the legal, standard that has been in 
effect in this country forever.
    Mr. Watt. You keep saying that, but we are here because, 
apparently, that is not working.
    Mr. Rosen. The States are trying to change it because they 
are trying to tax outside their borders. And so it has been 
that way. So if it were true, every corporation in this country 
would be located in Nevada.
    But that is not true, because actual businesses and 
operations cannot be dependent totally on tax policy. For 
example, a number of businesses have to have warehouses and 
factories where people are located whether they be employees or 
markets. So that is shown not to be true. We have an example 
where Nevada has not attracted all the businesses in the 
country.
    Mr. Watt. Okay. Is that possibility increased by the level 
of technology that we have today as compared to what we had 20 
years ago?
    Mr. Rosen. It might be, and that seems to be part of what 
sovereignty is all about, that States will have tax 
competition. And if a State wants to attract a certain type of 
business, it can do that.
    And the fact that you have an electronic business located 
in State A with customers in State B, we don't understand--
those of us who support BATSA--why State B, where merely 
customers reside, should get any tax revenue because they are 
not providing--that State is not providing benefits and 
protections to the labor and capital that company A is putting 
in to making the profit.
    And generally, jurisdictions that do give protection and 
benefits, the economic inputs that generate income are those 
that should be able to collect the tax just as the United 
States does with its foreign treaty partners.
    Mr. Watt. Let me ask Commissioner Clayburgh and ask him to 
give me the other side of the answer, if you have a different 
perspective.
    Mr. Clayburgh. Thank you, Mr. Chairman, Mr. Watt.
    The situation occurs now that if a business--because many 
States have legislation in place--in North Dakota, we are a 
combined reporting State. It allows the State to be able to 
bring into the whole picture the business activity of the 
enterprise that earns income attributable to the State of North 
Dakota. It is determined--what goes into the formula to 
determine what fairly should be taxed and paid to the State of 
North Dakota.
    Mr. Watt. And what kinds of things are you taking into 
account other than physical presence?
    Mr. Clayburgh. In the case I am referring to, if we have an 
entity or a subsidiary that provides services and helps to 
address an activity of a company that is doing business in 
North Dakota, that can be pulled into the process. And so if 
you have a situation where income may be shifted into a non-
income-tax State for the purpose of trying to create nowhere 
income, we have the ability through combined reporting to bring 
that back.
    The issue we have, though, is with H.R. 3220. It doesn't 
matter if you have those rules. We will lose that aspect within 
the numerator, and we will see a reduction in an existing tax 
base.
    Mr. Watt. I am a little confused about what things other 
than physical presence would trigger your belief that your 
State should have the right to tax.
    Mr. Clayburgh. Again, Mr. Watt and Mr. Chairman, the focus 
is not physical presence, because that is not the standard for 
business activity tax. It looks at a number of things. And as I 
brought out in my opening statement, a corporation is a----
    Mr. Watt. I am trying to figure out what those things are. 
Are they enumerated in your testimony?
    Mr. Clayburgh. Mr. Watt, I can follow up. I am not certain 
if I am following your question specifically. We look at----
    Mr. Watt. You say, you look at a number of things other 
than physical presence.
    Mr. Clayburgh. We are looking----
    Mr. Watt. I am trying to figure out what those number of 
things are that you look at other than physical presence.
    Mr. Clayburgh. We will look at economic presence 
activities; items that occur through the corporate structuring 
in which the corporation has some type of economic presence in 
our State in which they are gaining benefit of the laws of the 
State of North Dakota.
    Mr. Watt. Give me an example.
    Mr. Clayburgh. For example, you may have a company that is 
totally housed outside the State of North Dakota that has no 
physical presence. But they provide support, and they come in 
and will be providing activities into the State in which they 
hope the State of North Dakota has a good road system, that we 
have a good police system, a police force in place, that we 
have a court system in place to be able to enforce their 
contracts under our commerce activities. They are also 
assuming--and this is probably one of the things that is lost 
in all of this.
    That we have an education system in North Dakota that not 
only ensures a well-educated workforce but also a well-educated 
population. And with higher education and expanded education, 
people do better in jobs and get more income. And that brings 
more revenue and more dollars into the stream of commerce in 
this country, allowing them to purchase more. So that benefits 
companies across this country. And to say otherwise is 
ridiculous.
    Mr. Watt. I hear what you are saying. I am just trying to 
figure out what the articulable standard would be. I understand 
that if there is a brick and mortar, there is a physical 
presence. If there are employees, I presume that is a physical 
presence. How would you articulate the standard that you are 
using?
    Mr. Clayburgh. What I have tried to do today and what I am 
trying to do is keep all of my discussions more at the policy 
level.
    Mr. Watt. I am beyond my time anyway.
    Mr. Clayburgh. If I could, I will follow up with a written 
statement.
    [The information referred to follows in the Appendix]
    Mr. Cannon. The chair would appreciate that, and do it 
within the next 5 days. That will work for our time frame.
    Mr. Watt. I have no further questions.
    Mr. Cannon. Consistent with our earlier unanimous consent 
or agreement, Mr. Goodlatte, would you like to ask questions?
    Mr. Goodlatte. Mr. Chairman, I thank you for the 
opportunity.
    I first would like to ask unanimous consent for inclusion 
in the record a very long list of examples of actual and 
potential aggressive State actions and positions against out-
of-State companies that are very much along the lines of that 
described by the representative of Smithfield----
    Mr. Cannon. Without objection, so ordered.
    [The information referred to follows in the Appendix]
    Mr. Goodlatte. That makes this clear. This is not an 
isolated or rare occasion.
    And in response to the testimony of the commissioner from 
North Dakota, I have to tell you, when you say this would 
encourage and expand tax planning, I think just the opposite. 
And I am going to ask the other Members of the panel to 
respond. I think just the opposite will occur.
    The current morass of laws and the competition and 
aggressiveness between the States to reach further and further 
into some of the most obscure reasons why they think contact 
with a State--we have had States discuss the fact that your 
logo appears in the State should be sufficient to require 
business activity. So that would be every business in every 
State. The fact that you drive as few as 6 trucks through a 
State, not stopping, just driving through the State would be 
sufficient contact. The fact that you have a server that serves 
your Web site located in the State would be sufficient contact. 
The fact that you send a business delegation to participate in 
a conference and have a booth, not even conduct any sales 
transactions, just be present at a convention for 1 weekend, 
should be sufficient contact in the State.
    This causes businesses to have to expend enormous resources 
in terms of tax planning and enormous further resources to 
dance on the head of a pin to comply with these multitude of 
different morasses. And finally, I think it is a very strong 
argument that States waste enormous amounts of resources trying 
to pick up very small amounts of additional revenue by these de 
minimus contacts that businesses have with States. I would like 
to ask Mr. Rosen and others if they would like to respond to 
the contention that this would encourage and expand tax 
planning.
    Mr. Rosen. I think it might be important to start with the 
understanding of the motive here of those who are supporting 
BATSA. And the motive is not to reduce taxes. It is to maintain 
the status quo. The concept of economic nexus is something new 
that the revenue departments are trying to assert.
    Congressman Delahunt asked the question about court cases. 
There have been a number of court cases and State court cases, 
and in every single one of them, the court has established that 
physical presence is a requirement for direct tax outside the 
tax shelter area. In normal business operations, every court, 
there have been five or six decisions, unanimous, held that 
there must be physical presence. We are trying to maintain the 
status quo.
    As far as tax planning goes, as we said earlier, every 
State has mechanisms at their disposal to fight any structures 
or transactions they believe inappropriate. They have the 
common law arguments, such as business purpose, economic 
substance. Mr. Clayburgh's own State has combined reporting and 
throwback. And when you do that, there is really no opportunity 
for tax planning. Those who do that for a living are going to 
be in big trouble.
    What this bill would do is have uniformity around the 
country. Mr. Clayburgh talked about one-size-fits-all; that is 
not a good idea. You have to have uniformity, and we think 
doing things differently State-by-State is dangerous.
    Mr. Goodlatte. I want to get Mr. Van Fossen, as a State 
legislator, to respond to the assertion that this bill runs 
counter to the system of federalism.
    Again, in my opinion, that--when you talk about the inter-
relationship of States, we are not just talking about what one 
State can do, we are talking about what impact that one State 
might have on all the other States. So if you might comment on 
that Mr. Van Fossen?
    Mr. Van Fossen. Thank you, Congressman.
    That is the tack I take. I reject economic nexus. I am 
looking at it from an Iowa business standpoint. And the fact 
that Representative Watt asked the genesis of the 1959 law, 
which was an Iowa company--it was Northwest Portland Cement, 
which was doing business in Minnesota. And Minnesota tried to 
tax that company and that led to Congress passing Public Law 
86-272. I am looking at it from the standpoint of Iowa 
businesses doing business in another State and those businesses 
being taxed at a higher rate, in this instance, in Minnesota.
    So I think that, as you mentioned, that this does set up 
uniformity across the country, across the States, that allows 
businesses--not only large businesses but small businesses--to 
interact with uniformity.
    Mr. Goodlatte. Let me interrupt, as a guest of the 
Subcommittee, and my time has expired as well, I just want to 
make a couple of very quick points.
    In response to the very clear list that the gentleman from 
North Dakota has given us, favors big over small, I don't think 
anything could be further from the truth. EBay alone has 
450,000 businesses where people make their primary income on 
the Internet on eBay. Millions of other people obviously sell 
things. Many of those are corporations that could be entangled 
in this. Many, many small businesses sell in a multitude of 
places. They have a place where they are based and located. 
They can be taxed there very cleanly, very plainly and very 
simply. And when they have to comply--and this is not the sales 
tax issue, I want to make it clear.
    This bill exempts sales tax from the consideration of this 
bill. You are talking about all other kinds of activities that 
States try to claim a contact with, these small businesses. I 
think it has exactly the opposite. Big business has more 
resources to handle this morass that they currently confront 
than small businesses do.
    And finally, not clear and not simple, my goodness, I think 
you might have some problems with some clarity. We are willing 
to talk to anybody who wants to clarify any point in this bill. 
But compared to the current situation that any business faces, 
you can't make the argument that this is not clear and not 
simple compared to where we are going right now and where we 
are heading if we do not do something like this legislation.
    And step back in time? Tax policy, no. This is current tax 
policy and having a clear definition based upon physical 
presence--and we can debate what the parameters of that are--I 
think is the soundness that every State needs when their 
sovereignty is being tested by the nature of the Internet more 
than anything else in history because of the ease with which 
things go across State lines. Having that bright-line test 
based upon physical presence, I think, is a necessary part of 
States being able to continue to argue that they have a reason 
for existence when the Internet is becoming as prevalent as it 
is.
    Mr. Cannon. I thank the gentleman.
    Let me just point out, I felt that Mr. Turner's testimony 
went to the point you were just making about the complexity 
that his company faces is remarkable. And it creates difficulty 
for any business. But the State police authority to stop a 
truck because of some disagreement on something of thousands 
and thousands of returns is actually quite scary.
    Mr. Delahunt, would you like to take 5 minutes?
    The gentleman is recognized.
    Mr. Delahunt. You know, I think we have heard these 
arguments in different times with different proposals. You 
know--and I agree with my colleague from Virginia and many who 
serve on this Committee, we are at a different time.
    What we see, of course, is a growing percentage of 
commercial activity in this country being dealt with in terms 
of e-commerce. I mean, the numbers are staggering. That is the 
reality.
    And yet we hear this old test of physical presence and a 
bright line being utilized. There seems to be a certain 
incongruity there. I mean, I was just reflecting for a moment 
on--I think it is Citibank, the credit card. They are 
incorporated in South Dakota because there are no limits in 
terms of interest rates. There are no caps. Yet in 
Massachusetts, I dare say that the economic gain and benefit 
for Citibank credit card profits or revenue sources, it far 
exceeds what the activity is out in South Dakota. I mean, South 
Dakota just simply has, you know, a small population.
    So maybe we have to think about new definitions, other than 
physical presence. But I think we ought to get really realistic 
here, and I know that these issues aren't going to go away. But 
I said earlier that I support the permanent moratorium of the 
so-called Internet Freedom Act.
    I also think it is absolutely essential that we do 
something about the collection of sales-use tax. Now there are 
some people on this Committee that are opposed to that. But I 
can tell you something, I don't see this bill going anywhere. 
Maybe it goes through the House, but it isn't going to go 
through the Senate. You can count on that.
    We have already known what has happened to the moratorium 
legislation. It has been held up in the Senate by Republican 
senators, by the way, some of whom formerly served as 
governors.
    So I think that Commissioner Clayburgh, maybe it is time as 
you suggest, for the business community, for States and for the 
small business community, you know, to sit down and talk these 
issues out, because nothing is going to happen, I can tell you 
now, until there is some sort of resolution. We can sit here 
and talk about, you know, whether our understanding of the 
concept of federalism--and it makes for a great, interesting 
academic conversation, but that is the extent of it.
    Mr. Cannon. Would the gentleman yield?
    Mr. Delahunt. Sure.
    Mr. Cannon. This is an odd combination of State versus 
Federal, State against State and Democrat and Republican 
because it is not versus so much here.
    The gentleman from Massachusetts and I agree entirely on 
the fact that we have an irrational system, and it is a system 
that has come to a total stop. In other words, no Internet Tax 
Freedom Act, no SSTP. And we are going nowhere with the 
business activity tax.
    So somewhere along the line, people who have a problem, 
that is the States--I mean this is--the States do have a 
problem. And I might point out that the Multistate Tax 
Commission is an interstate compact in the subject of the 
jurisdiction of this Committee. But we are going nowhere, and 
that is not good for anybody.
    We are going to have a lot of different views on each of 
those subjects. But the reason I think that the gentleman from 
Massachusetts is talking about the ITFA is because we have a 
combination of things where people are just saying, ``We are 
going to hold out'' and as long as that happens, the American 
people are going to say, ``Wait a minute, if the House bill 
passes, my phone bill is going to fall by half,'' because half 
of most peoples' phone bill is currently taxed, half to a 
third.
    So I don't think the American people are going to stand 
around for this very long. And you need to be thinking of what 
we can do to create a rational system that rationally taxes, 
that doesn't distort business decisions and certainly doesn't 
impede the foundation for the next phase of our economic 
development, which is the Internet.
    And I apologize, and I won't watch the red on the clock 
until the gentleman is finished.
    Mr. Watt. Would the gentleman yield for my tirade?
    Mr. Delahunt. Of course.
    Mr. Watt. I am not going to do a tirade, but that is one 
reason I was suggesting that, if the physical presence standard 
is not the standard, then we need some articulable standard if 
this is going to get off the dime. And I don't know what that 
standard is.
    I confess. I didn't understand it from Mr. Clayburgh. I 
understood that States have an interest in collecting taxes and 
that there are things other than physical presence that 
triggers that interest. But I am having a little trouble 
articulating what that standard would be.
    And if we are going to clarify this at the Federal level by 
writing a piece of legislation, seems to me that it is not just 
what we are against passing all the time, given the log jam we 
are in, but somebody needs to be thinking about what the 
articulable standard is and should be to get off this dead log 
situation. I yield back.
    Mr. Delahunt. I think, in addition to the States and 
clearly we--I think everyone on this panel respects the 
sovereignty of the States and the need for them to be able to 
make decisions.
    At the same time, I think there is a certain reality out 
there in terms of the business community. There will be winners 
and losers, not--you know, the world hasn't simply come down to 
eBay. We are not just at that stage, in terms of our commerce, 
where it is all electronic. And I think we make a mistake in 
terms of the social implications if we ignore the fact that 
there is a reality of brick-and-mortar stores, particularly the 
small business within a community, because I can trust you can 
take this to the bank, Mr. Rosen, it is that small independent 
business store that operates, you know, in a small downtown 
that is going to sponsor the Little League. It is not going to 
be some seller on eBay, or it is not going to be eBay.
    So there are a whole array of values that go into this 
decision. And whether it is the Internet Tax Freedom Act or 
SSTP or this, I can tell you now, all right, you will be back 
here next year, the year after, because there are passions on 
all sides of the issue. There are some that just want to say, 
pedal to the metal, what we are going to do is we are going to 
simplify everything. I think that is one value that is a 
positive value in terms of simplification.
    But there are a whole mix of values that I think have to be 
looked at. And you know, maybe, Mr. Chairman, we ask 
representatives of the various stakeholders to come and do 
staff briefings and see whether there is a way out of this 
morass, because you have to start talking together, because my 
own personal assessment is that the political will here in 
Congress does not exist.
    You know, this bill, filed by my friend from Virginia and 
my other colleague who sits on this Committee, Mr. Boucher, you 
know, maybe it will go to the House, but it ain't going to 
happen, with all due respect to my friend from Virginia.
    Mr. Cannon. By the way, we can only control the House. We 
can do it. But as the gentleman suggested it takes two bodies.
    And the gentleman and I have talked on many occasions about 
this issue. It is a bipartisan concern. America needs to solve 
this problem.
    Mr. Rosen, we need to have businesses have clarity in 
planning.
    We appreciate the comments of all the members of the panel.
    And at this point, the hearing will be adjourned.
    [Whereupon, at 3:30 p.m., the Subcommittee was adjourned.]


                            A P P E N D I X

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               Material Submitted for the Hearing Record




                              ----------                              

    Responses to additional questions submitted by Jamie Van Fossen
        June 10, 2004

        Honorable Chris Cannon, M.C.
        118 Cannon House Office Bldg.
        Washington, D.C. 20515

        Dear Congressman Cannon,

        Greetings.

        Enclosed please find my responses to questions brought up after 
        the May 13th, 2004 hearing on Business Activity Taxes (H.R. 
        3220).

        I want to thank you again for the opportunity to present my 
        support for your legislation. I look forward to working with 
        you to preserve federalism. Please let me know if I can be of 
        further assistance.

        Yours truly,

        Jamie Van Fossen
        State Representative
        Chair, Iowa House Ways & Means Committee
        Public Sector Chair, ALEC Tax & Fiscal Policy Task Force

        Enclosure: Q & A response

        Cc:
        Diane Taylor
        Chris Atkins
        Mike DeConti
     Please comment on Commissioner Claybaugh's remarks that H.R. 
            3220 favors big businesses over small businesses

    H.R. 3220 would be good for all businesses, big and small. While it 
would simplify the business activity tax obligation for all businesses, 
it would alleviate a more significant burden for smaller businesses, 
who cannot afford to have customers in other states if they have to pay 
corporate income taxes in all those states. Large companies will 
continue to participate in interstate commerce whether H.R. 3220 is 
enacted or not, because they have the resources to combat 
overaggressive actions by state revenue departments. We are already 
seeing reports of smaller businesses refusing to have customers in some 
states, however, because of these aggressive actions. Small business 
just cannot afford the risk associated with doing business in some 
states. Thus, H.R. 3220 would create more fair competition between 
small and large businesses.

          In your opinion, will H.R. 3220 create competitive 
                 disadvantages to in-State businesses?

    The codification of the physical presence standard would actually 
level the playing field between in-state and out-of-state businesses, 
allowing them to compete for customers in all the states. What would 
truly be bad for in-state businesses would be a patchwork system where 
some states tax based on physical presence and some states tax based on 
economic presence. Congress needs to enact H.R. 3220 because it would 
provide a uniform treatment for all multistate businesses-large or 
small-engaged in interstate commerce.

    H.R. 3220 can only be said to favor in-state businesses if you 
grant the premise that the current practices of many state revenue 
departments-taxing multistate businesses based on economic presence-are 
sound from a constitutional and policy perspective. Economic presence 
has never been the standard of multistate taxation of business income, 
so the premise relied on by opponents of H.R. 3220 should not be 
granted. H.R. 3220 would codify standard practice throughout United 
States history.

       Would H.R. 3220 permit corporations to restructure their 
                        operations to avoid tax?

    The U.S. Constitution is not a tax shelter. H.R. 3220 embodies the 
constitutional obligation of Congress to ensure and promote the free 
flow of commerce among the states. A physical presence nexus 
requirement promotes a freer flow of interstate commerce than an 
economic nexus requirement, because most businesses have physical 
presence in fewer states than they have economic nexus. H.R. 3220 thus 
promotes a simple and fair model for state taxation of multistate 
businesses.

            Does H.R. 3220 infringe upon State sovereignty?

    No. States do not have jurisdiction over interstate commerce. 
Congress has the responsibility to protect the free flow of interstate 
commerce. The current aggressive actions by certain state revenue 
departments are placing an undue burden on the free flow of commerce 
among the states. States cannot hide behind sovereignty to defend their 
actions. All governmental power has limits in our American system, 
including the power of states to raise taxes.

                              ----------                              

     Responses To Additional Questions Submitted by Rick Clayburgh

                       Questions from Rep. Cannon

        1.  Please provide a response to the request at the hearing for 
        the appropriate alternative to the physical-presence nexus 
        standard by which States could impose business activity taxes.

    Response:

    Under the U.S. Constitution and the overwhelming majority of state 
laws, a state can impose business activity taxes on companies that are 
``doing business'' in the state without regard to whether that business 
is conducted through a physical presence or other means. P.L. 86-272, 
which applies to state income taxes, is the only national exception to 
the ``doing business'' standard.

    The National Governors' Association believes that to the extent 
there is an issue to be addressed it is best addressed by the states. 
Sovereignty over state taxing authority is a critical element through 
which states accomplish key tax policy goals including funding state 
programs and services, and structuring economic systems to promote fair 
competition and economic growth. Federal preemption of state taxing 
authority like that epitomized by H.R. 3220 would upset the delicate 
economic balance between and among states and eventually affect 
national and international economies as well. Congress should not 
interfere with states' ability to analyze and adjust to the new economy 
by examining the effect of existing statutes on business, the potential 
economic gain or loss from proposals to alter existing statutes, or 
their discretion to work with the business community to resolve 
existing differences.

        2.  You stated in your oral testimony that HR 3220 encourages 
        and expands ``tax planning,'' and in your written statement 
        that the bill ``legalizes and even promotes increased tax 
        sheltering.'' In assessing whether HR 3220 will result in state 
        revenue loss due to tax sheltering, how do you view what 
        constitutes a ``tax shelter?'' Do you consider a ``tax 
        shelter'' anything which reduces a taxpayer's tax liability 
        that is not attributable to changes in explicitly articulated 
        tax policy? Isn't legal tax planning a normal and legitimate 
        business activity?

    Response:

    ``Tax sheltering,'' for state income tax purposes, means that an 
enterprise's income is not being fully reported to a state in a manner 
that fairly represents the business activity actually being conducted 
the enterprise in that state. Tax sheltering occurs when an enterprise 
creates structures and transactions that artificially shift income away 
from the state where income was earned--as determined by where the 
enterprise uses its property, employs people or makes sales--to some 
other state or a foreign jurisdiction. Income tax sheltering may 
include understating or shifting income through transactions that lack 
economic substance or that fail to conform to applicable law. In the 
context of gross receipts taxes, sheltering is accomplished through the 
creation of structures and transactions that artificially shift 
receipts away from the state where the sales were made. States 
generally do not consider efforts by companies to report income or 
receipts in a manner that does not fairly represent the business 
activities in the state to be ``normal and legitimate.''

    Tax sheltering contrasts with legitimate tax planning whereby a 
company changes the actual location or nature of its real economic 
activity to minimize its tax burden often by taking advantage of 
favorable tax rates or exemptions offered by jurisdictions. Changing 
the ``real economic activity'' means generally changing the location 
where an enterprise uses its property, employees or other 
representatives or where it markets its products and services to 
customers. No one quarrels with legitimate tax planning that reflects 
actual changes in the location of real economic activity.

        3.  Please provide a response to the remarks of Mr. Rosen that 
        States have ample legal tools to combat improper tax sheltering 
        activities by businesses.

    Response

    The ``legal tools'' cited at the hearing are neither universal nor 
sufficient to mitigate the damage that H.R. 3220 would inflict on state 
tax systems. One of these so-called ``tools'' is known as ``combined 
reporting'', a filing method whereby a company is required to calculate 
and apportion income among the states jointly for affiliates that, in 
reality, comprise a single economic enterprise. Sixteen states use 
combined reporting as their general, mandatory filing method. However, 
this method is typically limited only to domestic affiliates. While 
combined reporting can correct tax sheltering conducted through 
domestic intangible holding company affiliates, it cannot reach 
affiliates set up in off-shore tax havens. More importantly, combined 
reporting would do nothing to correct tax sheltering through the use of 
the safe harbors in H.R. 3220, which would allow companies to engage in 
major activities in a state through protected entities. H.R. 3220, by 
greatly expanding tax sheltering through safe harbor entities, would 
significantly reduce the effectiveness of combined reporting as method 
of requiring income to be reported to the states where the income was 
actually earned.

    States have one additional tool-royalty, interest and other expense 
deduction disallowance laws. Like combined reporting, these laws can be 
used to curb abusive transactions involving intangible holding 
companies. This tool was recently adopted in some states and has not 
been fully tested. Disallowance provisions would not remedy the damage 
caused by the H.R. 3220 physical presence safe harbors.

        4.  In your testimony you stated that HR 3220 would reduce 
        every State's revenue base, with ``aggregate revenue losses 
        likely reaching into the billions of dollars per year.'' Will 
        the NGA produce a formal study on HR 3220? If so, what 
        methodology will be employed for measuring whether the bill 
        will result in state tax revenue losses?

    Response:

    The National Governors Association is currently working with all 
states to conduct a comprehensive survey of the potential impact of HR 
3220. We expect work on this survey to be completed soon. Following 
completion of the survey, we would be happy to discuss the results with 
Members of the Subcommittee.

                       Questions from Rep. Coble

        1.   Would you agree that there are cases in which state taxing 
        jurisdictions have unfairly and/or aggressively sought payment 
        of businesses activity taxes without basis?

    Response:

    State taxing authorities do not seek payments of business taxes 
without any basis. Rather they enforce their laws within the framework 
of their laws and regulations and the U.S. and their state 
constitutions. Without question there have been cases involving 
legitimate disagreements between state tax agencies and companies over 
whether taxes are due. To our knowledge however, there is no evidence 
of a systemic problem that would warrant Congressional intervention 
over state taxing authority

        2.  If so and with the understanding that you oppose HR 3220, 
        what do you suggest be done to address such abuses?

    Response:

    As stated previously, the National Governors' Association has no 
evidence that states or state taxing authorities apply taxes without 
any basis. State tax administrators take pride in insuring that the tax 
laws of their state are properly and fairly applied to all businesses 
operating in the state. When a business or individual believes it is 
not being properly treated by a tax agency, it should first bring the 
issue to the attention of the tax agency. Most often (and likely 
evidenced by the lack of current examples presented at the May 13 
hearing) these types of issues are handled amicably and to the 
satisfaction of both the taxpayer and the state. If the dispute 
continues, every state provides for a form of administrative and 
judicial review to hear complaints and provide appropriate remedies.

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                              ----------                              

       Prepared Statement of Congressman Gregory W. Meeks (NY-06)

    Mr. Chairman, Ranking Member Watt, and my fellow Members of 
Congress:
    I thank you for allowing me the opportunity to join you today. 
Although I do not sit on this Committee, I feel strongly about the 
legislation at hand, and I am appreciative that you have allowed me to 
join in today's discussion. I would also like to make note of my 
gratitude to Congressmen Boucher and Goodlatte who have led the effort 
in business activity tax nexus clarification for several years.
    H.R. 3220, The Business Activity Tax Simplification Act, would 
provide a consistent, national jurisdictional standard for the 
imposition of state and local business activity taxes on interstate 
commerce. As you know, the legislation addresses the need to clarify 
and modernize the nexus rules that govern the states' ability to impose 
business activity taxes on companies that do not have a physical 
presence in the taxing jurisdiction.
    In recent years, many of our states have found themselves in 
economic crunches. These circumstances have led some states to look 
outside of their borders and seek payment of income-based taxes from 
companies that are not physically present in their jurisdiction. This 
bill would clarify that physical presence is the constitutional 
standard for imposition of business activity taxes and establish a 
bright-line physical presence nexus standard. Businesses would continue 
to pay business activity taxes in the jurisdictions where they receive 
direct benefits. This legislation would merely clarify the states' 
existing authority to tax interstate commerce, not impose any new 
restrictions on the states' taxing power.
    The benefactors of this legislation are people we, as policymakers, 
have to answer to directly. It is our responsibility to identify and 
rectify potential barriers to new job creation in America. We must 
ensure that economic expansion creates the largest number of high-
quality jobs for those we represent. Should the current level of 
uncertainty and ambiguity of state-level taxes continue, new job 
creation will be impeded.
    I am a Congressman from the state of New York. New York has a 
strong tax base that we have worked very hard to acquire. For example, 
we are home to many of the country's leading media companies and 
financial institutions. In recent years, New York companies have been 
unfairly attacked by other states in search of increased revenues. For 
example, some states have alleged that income-based taxes are due from 
media corporations simply because they broadcast programs into the 
state. Other states have attempted to impose income-based taxes on 
banks based only on the fact that they have issued credit cards to 
people in the taxing state. States are taking advantage of the current 
``grey area.'' The appropriate nexus standard needs to be clarified, so 
that taxpayers and states can have certainty with respect to taxes due.
    In conclusion, this legislation will ensure fairness, minimize 
litigation, and create the kind of legally certain and stable business 
climate that encourages businesses to make investments, expand 
interstate commerce, grow the economy and create new jobs.
    For these reasons, I strongly support this bill and look forward to 
the testimony of today's witnesses.

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                              ----------                              



                              ----------                              

                         BUSINESS ACTIVITY TAX

 EXAMPLES OF ACTUAL & POTENTIAL AGGRESSIVE STATE ACTIONS AND POSITIONS 
                     AGAINST OUT-OF-STATE COMPANIES

                              Actual Cases

          In Tennessee, the revenue department attempted to tax 
        an out-of-state company engaging in credit card solicitation 
        activities through direct mailings. The department based their 
        authority solely on the presence of the credit cards and the 
        ``substantial privilege of carrying on business'' in Tennessee. 
        J.C. Penney National Bank v. Johnson, 19 S.W.3d 831 (Tenn. Ct. 
        App. 1999), cert. denied, 531 U.S. 927 (2000). It has been 
        reported that Tennessee, despite having lost this issue in the 
        Tennessee courts, continues to assert this position. In 
        addition, according to a recent survey of top state taxing 
        officials, nineteen other states assert that a business could 
        be subject to tax in the state merely for issuing credit cards 
        to in-state persons. Special Report: 2004 Survey of State Tax 
        Departments, 11 Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-
        36, S-37 (April 23, 2004).

          In Alabama, the revenue department attempted to 
        impose tax on an out-of-state bank because the bank issued 
        credit cards to Alabama persons and leased two MRI machines in 
        Alabama. Dial Bank v. State of Ala. Dep't of Revenue, Ala. 
        Dep't of Revenue, A.L.J. Div., Nos. INC. 95-289, F. 95-308 
        (Aug. 10, 1998).

          A Minnesota law would have declared that a sufficient 
        connection with the state exists when out-of-state health care 
        providers provide care to 20 or more Minnesotans or when they 
        solicit business from potential customers in Minnesota, 
        regardless of whether the health care was provided outside of 
        Minnesota. The Minnesota District Court determined that the tax 
        was unconstitutional as applied to several nonresident health 
        care providers that perform services outside of Minnesota. See 
        Baertsch v. Minnesota Dep't of Revenue, Minn. Dist. Ct., 2nd 
        Jud. Dist. No. C7-93-2680 (Minn. Dist. Ct. 1994); Mercy Medical 
        Center v. Anderson, Minn. Dist. Ct., 2nd Jud. Dist. No. C4-93-
        11658 (Minn. Dist. Ct. 1995); and MeritCare Hospital v. 
        Commissioner of Revenue, Minn. Dist. Ct., 2nd Jud. Dist. No. 
        C2-94-12818 (Minn. Dist. Ct. 1995).

          Rylander v. Bandag Licensing Corp., 18 S.W.3d 296 
        (Tex. App. 2000) (Texas could not impose its corporate 
        franchise tax on a business that had merely registered to do 
        business in the state). However, according to a recent survey, 
        four states still take the position that merely registering to 
        do business in a state is a sufficient connection to justify 
        taxation on an out-of-state business. Special Report: 2004 
        Survey of State Tax Departments, 11 Multistate Tax. Rep't 4, 
        pp. S-9 - S-43, at S-10, S-11 (April 23, 2004).

           Actual Positions Taken at the Administrative Level

          A small South Carolina software company owned by a 
        husband and wife (annual sales of approximately $100,000) sells 
        software out of their home to customers located in many states 
        throughout the U.S. The software sales include a license 
        agreement between the company and the purchaser. However, the 
        company has no physical presence in any state except South 
        Carolina and Georgia. Recently, New Jersey revenue authorities 
        asserted that the software licenses created sufficient contacts 
        with the state to justify imposing business activity taxes on 
        the company.

        Despite the fact that the company's annual revenues from 
        customers in New Jersey over the past few years have been as 
        low as $49, New Jersey's claim against the company would 
        require that the company pay a $500 per year minimum corporate 
        tax and a $100 per year corporate registration fee for as long 
        as its software is being used in the state. One can only 
        imagine the result if each state imposed similar taxes on this 
        mom and pop operation.

          In Louisiana, the revenue department has threatened 
        to assess business activity taxes on several out-of-state 
        companies based on the fact that those companies broadcast 
        programming into the state. The rationale is that these out-of-
        state companies are exploiting the Louisiana market because the 
        programming is seen and/or heard by individuals in Louisiana.

                What the States Publicly Say They Can Do

          The Multistate Tax Commission has endorsed and is 
        actively promoting the adoption of its factor-based nexus 
        proposal (as well as the repeal of P.L. 86-272). Under such 
        standard, a state would be able to impose a business activity 
        tax on any business whose factors exceed certain thresholds; 
        the thresholds are $50,000 in property, $50,000 in payroll, or 
        $500,000 in sales. Under the current physical presence 
        standard, a state may tax companies with property and payroll 
        in a jurisdiction but the MTC would go further by allowing 
        states to tax businesses that only have customers in a 
        jurisdiction. Ensuring the Equity, Integrity and Viability of 
        Multistate Tax Systems, Multistate Tax Commission Policy 
        Statement 01-2 (October 17, 2002).

          A recent Oregon regulation takes the position that 
        the presence of intangible property creates a sufficient 
        connection with the state to justify Oregon imposing taxes on 
        out-of- state companies. The regulation would mean that simply 
        maintaining intangible property or receiving franchise fees or 
        royalties from Oregon sources would subject an out-of-state 
        company to taxation, even if services are performed outside of 
        Oregon. Ore. Admin. R. 150-318.020.

          A recent survey shows that eight states take the 
        position that a business whose trucks merely pass through the 
        state six or fewer times in a year--without picking up or 
        delivering goods--have sufficient connections with the state to 
        justify imposing business activity taxes on that company. 
        Special Report: 2004 Survey of State Tax Departments, 11 
        Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-34, S-35 (April 
        23, 2004).

          According to a recent survey, thirteen states assert 
        that an out-of-state company merely having a website on someone 
        else's server in the state creates a sufficient connection to 
        justify imposing business activity taxes on that out-of-state 
        company. Special Report: 2004 Survey of State Tax Departments, 
        11 Multistate Tax. Rep't 4, pp. S-9 - S-43, at S- 12, S-13 
        (April 23, 2004).

          A recent survey of top state taxing officials 
        indicates that twelve states believe that an out-of-state 
        company listing a telephone number in a local phone book 
        located in the state is a sufficient connection with the state 
        to justify taxation. Special Report: 2004 Survey of State Tax 
        Departments, 11 Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-
        10, S- 11 (April 23, 2004).

          A recent survey of top state taxing officials 
        indicates that five states believe that an out- of-state 
        company having a bank account with an in-state bank is 
        sufficient connection with the state to justify taxation. 
        Special Report: 2004 Survey of State Tax Departments, 11 
        Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-36, S-371 (April 
        23, 2004).

          A recent survey of top state taxing officials 
        indicates that six states believe that an out-of- state company 
        negotiating and/or obtaining a bank loan from an in-state bank 
        is (or could be) a sufficient connection with the state to 
        justify taxation. Special Report: 2004 Survey of State Tax 
        Departments, 11 Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-
        36, S-371 (April 23, 2004).

          Over half of the states in a recent survey stated 
        that they believed that when an out-of- state corporation 
        licenses trademarks to an unrelated entity within the state, 
        the out-of- state company would be subject to taxation by the 
        state. Special Report: 2004 Survey of State Tax Departments, 11 
        Multistate Tax. Rep't 4, pp. S-9 - S-43, at S-36, S-37 (April 
        23, 2004).

      Potential Aggressive Positions That Have Been Taken in the 
                         Context of Other Taxes

          The city of Houston, Texas attempted to impose tax on 
        offshore oil rigs located outside territorial waters or in 
        foreign jurisdictions merely because they were owned by oil 
        companies that were located in the city. The adoption of this 
        approach by states for business activity tax purposes would 
        have significant consequences for the business community and 
        would raise serious constitutional issues. See, e.g., Vincent 
        J. Schodolski, California county looks to heavens for tax 
        revenue, Chicago Tribune, July 13, 2001, at 7.

          Certain localities have attempted to impose local 
        personal property taxes on property orbiting in space. For 
        example, the County of Los Angeles, California attempted to 
        impose a property tax on a Hughes Electronics, a county-based 
        company that owned eight communications satellites permanently 
        orbiting in space. Nancy Vogel, Satellite Tax Idea Is Back to 
        Earth; Finance: The State Board of Equalization adopts a rule 
        forbidding L.A. County levies on the spacecraft. Assessor says 
        he'll study legal options, Los Angeles Times, July 11, 2001, at 
        8.

        In addition, the city of Virginia Beach, Virginia also 
        attempted to impose local personal property tax on three 
        transponders attached to satellites orbiting in space that were 
        owned by a city-based cable company. City of Virginia Beach v. 
        International Family Entertainment, 561 S.E.2d 696 (Va. 2002) 
        (the City of Virginia Beach did not have the authority to 
        impose its tax on the transponders). If states used the same 
        approach to try to impose business activity tax, on the basis 
        that the satellite creates a ``physical presence'' or because a 
        business generates income in the state by passing over the 
        state, there would be significant consequences for many 
        industries.

          In California, the tax department responsible for 
        sales and use taxes attempted to impose use tax collection 
        obligations on an out-of-state company whose only contacts with 
        California consisted of entering into advertising contracts 
        with California broadcast and cable television companies on the 
        basis that the contracts ``converted'' the broadcast and cable 
        companies into representatives of the out-of-state business. 
        JS&A Group, Inc. v. State Board of Equalization, No. 1075021 
        (Cal. Ct. App. 1997). The same ``logic'' could be applied by 
        states to try to impose business activity tax on businesses 
        that merely advertise in a state. JS&A Group, Inc. v. State 
        Board of Equalization, No. 1075021 (Cal. Ct. App. 1997).
          In Florida, the tax department attempted to impose 
        sales tax on an out-of-state business that provided financial 
        news and information using high-speed electronic transmission 
        to a subscriber's video display terminals on the grounds that a 
        sale of tangible personal property occurred because the images 
        were perceptible to the senses. Department of Revenue v. 
        Quotron Systems, Inc., 615 So.2d 774 (Fla. Dist. Ct. App. 
        1993). States could apply similar ``logic'' to try to impose 
        tax on businesses delivering electronic information into the 
        state.

          In Missouri, the tax department attempted to impose 
        sales tax on an out-of-state restaurant franchisor because it 
        placed orders for equipment on behalf of its Missouri 
        franchisees, even though the franchisor never acquired title to 
        or ownership of the equipment. States could apply similar 
        ``logic'' to try to impose business activity tax on the out-of-
        state business. Doctor's Associates v. Director of Revenue, 
        Missouri Admin. Hearing Comm'n, No. 95-001748 (Sept. 17, 1997).

                              ----------                              

        May 21, 2004

        The Honorable Chris Cannon
        U.S. House of Representatives
        Chairman, Subcommittee on Commercial and Administrative Law
        Committee on the Judiciary
        B-353 Rayburn House Office Building
        Washington, DC 20515

        Re: Business Activity Tax Simplification Act (H.R. 3220)

        Dear Chairman Cannon:

        The American Bankers Association (ABA) would like to express 
        support for legislation creating a fair, clear, and uniform 
        nexus standard for the imposition of business activity taxes by 
        states and localities. Specifically, we are submitting comments 
        to praise H.R. 3220, the Business Activity Tax Simplification 
        Act and thank you for your leadership in advancing this 
        legislation. The ABA brings together all categories of banking 
        institutions to best represent the interests of a rapidly 
        changing industry. Its membership - which includes community, 
        regional, and money center banks and holding companies, as well 
        as savings associations, trust companies and savings banks - 
        makes ABA the largest banking trade association in the country.

        H.R. 3220 would modernize existing law to ensure that states 
        and localities only can impose their business activity taxes in 
        situations where an entity has physical presence (i.e. property 
        or employees) and thereby receives related benefits and 
        protections from the jurisdiction. We agree that a physical 
        presence nexus standard should be preserved in order to ensure 
        an equitable and measurable application of the state tax laws 
        for all industries.

        ABA believes that certain clarifications to H.R. 3220 would be 
        helpful in order to establish a fair, clear and uniform nexus 
        standard. In particular, the bill should be revised to ensure 
        that the solicitation of sales also applies to financial 
        services and products. The types of financial services that 
        should be made a part of H.R. 3220 include lending activities 
        and other services such as investment, advisory and custodial 
        services. Moreover, the legislation should be expanded to 
        recognize financial transactions that do not require shipment 
        or delivery. The current legislation covers only orders filled 
        by shipment and delivery. These suggested clarifications 
        recognize the intended scope of H.R. 3220 and encourage 
        business investment.

        Thank you for your consideration of our views as you advance 
        this important legislation. We look forward to working with you 
        as you proceed with this bill.

        Sincerely,

        Edward L. Yingling

                              ----------                              

        May 13, 2004

        The Honorable Chris Cannon
        The Honorable Melvin Watt
        House Judiciary Subcommittee on Commercial & Administrative Law
        B-353 Rayburn HOB
        Washington, DC 20515

        Re: Supporting comments for hearing on H.R. 3220, ``The 
        Business Activity Tax Simplification Act of 2003'' (``BATSA'')

        Dear Mr. Chairman Cannon and Mr. Ranking Member Watt:

        1We are writing you today to beg for your support for H.R. 
        3220, ``The Business Activity Tax Simplification Act of 2003.'' 
        We stumbled into this issue last year and have become deeply 
        committed to the passage of this bill. It is no exaggeration 
        when we say this legislation is critical to small businesses 
        everywhere. While we represent no one but ourselves, we are 
        championing this issue because the survival of small business 
        is literally at stake. Without relief, some successful 
        businesses will be forced to close or downsize. The material 
        below provides a snapshot of the legal nightmare that has 
        heavily impacted our business over the past year, and hundreds 
        of other small businesses nationwide as well.

        We know first hand that many other companies are impacted 
        because we have talked with dozens of attorneys, small 
        businessmen, and news editors all over the Country about this 
        problem. Unfortunately, many small businesses are not even 
        aware of the problem because they have not been trapped, yet. 
        But, it is only a matter of time before the abuses by 
        aggressive States become widespread and automated record-
        matching processes jeopardize thousands of additional small 
        businesses with demands similar to those New Jersey is now 
        making upon us.

        We are the owners of a home-based software development company 
        with actual 2003 sales (not profits!) of slightly less than 
        $100,000. All work is performed in our home, we are the only 
        employees, and our company is our sole source of earned income. 
        Our company is incorporated in Georgia and registered in 
        Georgia and South Carolina. We have elected S Corporation 
        status, operate and pay taxes as such, and file appropriate 
        returns in Georgia and South Carolina each year. We pay 
        employment taxes to South Carolina, and we acknowledge nexus in 
        both Georgia and South Carolina. All work is conducted in South 
        Carolina via the telephone, the Internet, and the U. S. Postal 
        Service.

        The State of New Jersey is now asserting a claim of nexus 
        against our company due solely to the sale of seven intangible 
        software licenses during 1997-2002. During that period, we 
        generated total revenue from New Jersey-based customers of 
        $6,132. By year, our sales into New Jersey for that period were 
        $695, $0, $0, $49, and $5388, respectively. Those are single 
        dollars, not $K, $M, or $B. Of this total, $5,133 was derived 
        from the actual license sales and $999 from additional services 
        performed in South Carolina after the original sales.

        New Jersey acknowledges that its original claim of nexus was 
        based solely on the continued use of these seven software 
        licenses within the state. If the licenses did not exist, the 
        remaining $999 by itself would not then have resulted in a 
        claim of nexus. New Jersey's claim of nexus will be made as 
        long as any licenses are in use in the State, even if we cease 
        accepting all business from New Jersey customers and generate 
        zero future income from the State.

        New Jersey's claim of nexus generates a requirement for our 
        company to pay $500 per year as the New Jersey minimum 
        corporate tax and $100 per year for Corporate Registration fee, 
        every year, even in years when we have zero sales in New Jersey 
        and have no other business activity in the State. (If not for 
        the minimum corporate tax and registration fee, our calculated 
        tax would be less than $1.00 in our best year.) We have been 
        advised by the New Jersey Department of Taxation that the only 
        way to remove our future liability for paying this $600 per 
        year fee is to (1) stop accepting all orders from New Jersey, 
        (2) have zero New Jersey income, (3) terminate all existing 
        software licenses, and (4) have our customers remove all 
        licensed software from their systems. We have been advised that 
        we cannot terminate our nexus in future years by abandoning our 
        license agreements and giving clear title of the software to 
        our customers.

        We have met these requirements, as of December 31, 2003, 
        through the following actions:

      We have terminated all of our national advertising. Our 
sales are down significantly as we attempt to refocus our activity into 
Georgia and South Carolina only.

       We have stopped accepting all orders from New Jersey 
locations. We will accept no business, of any type, from New Jersey 
locations until small business is given the protection it must have in 
order to participate in Interstate Commerce on a free and unhindered 
basis. In January 2004, we refused to accept a firm order for $15,000 
of remote services from a New Jersey customer. Needless to say, that 
hurt our business badly.

      We have terminated all software licenses in New Jersey, 
and our customers have removed all licensed software and replaced it 
with new unlicensed software. As a result, our intellectual property no 
longer receives the protection it must have in order to insure its 
viability for future enhancements and improvements and for our future 
income.

        These actions have combined to significantly reduce and inhibit 
        our participation in Interstate Commerce, reduce our sales, 
        reduce our personal salaries, and reduce our payments of badly 
        needed Federal and South Carolina tax revenues. We have become 
        so concerned about the risk of our continued participation in 
        Interstate Commerce that we have begun to ask ourselves: ``Why 
        bother? Can we afford the risk? Should we terminate the 
        business before it gets worse?"

        Our situation, and that of all small businesses participating 
        in Interstate Commerce, is simply intolerable. Had we sold just 
        one $695 license in 1997 and not derived any further income 
        from New Jersey customers, we would still be subject to the 
        requirement of paying $600 per year in New Jersey taxes and 
        fees as long as our customers continued to use the licenses. 
        Making the situation even worse, New Jersey has, since we 
        became trapped, expanded its regulations to assert nexus 
        against all companies deriving any type of income from New 
        Jersey customers, regardless of physical presence or de minimis 
        activity. This latest provision of New Jersey tax regulations 
        includes the sale of tangible products and is in direct 
        defiance of Congressional intent and Public Law 86-272. New 
        Jersey's own Tax Court has ruled that a physical presence is 
        required to assert taxing power; nonetheless, New Jersey's 
        Department of Taxation continues to pursue us. Thus, we are 
        forced to pay thousands of dollars in legal fees to defend 
        ourselves; and we are continually distracted from pursuing the 
        normal business activities which generate all of our earned 
        income.

        No company can survive by paying taxes on zero profits. But, in 
        our case, we didn't even have sales in three of the six years 
        and only $49.00 in a fourth. Should all 50 states adopt the 
        same provisions as New Jersey, the sale of just one box of 
        paper clips into each state, at any point in time, would 
        generate the requirement to file a state tax return in every 
        state and to pay $30,000 in minimum taxes and fees per year, 
        forever, even in years when no income is generated in those 
        states, unless a way could be found to terminate nexus. As you 
        can see, New Jersey does not make that easy. Further, no small 
        business can possibly become familiar with the ever-changing 
        and widely varying tax laws of 50 States, nor can it withstand 
        the financial and administrative burdens of preparing and 
        filing 50 separate state tax returns.

        New Jersey is not the only State adopting highly aggressive 
        tactics which destroy small businesses. Such tactics are 
        becoming more prevalent each year, and H.R. 3220 would stop the 
        abuses. This legislation is vital for protecting small business 
        through clear codification of existing judicial precedents and 
        adoption of a uniform standard of physical presence for nexus 
        as a specific element of Federal Law.

        We realize there are multiple sides to every issue; for BATSA, 
        there are at least three:

          Small businesses: Hopefully, we have adequately 
        conveyed why the passage of H.R. 3220 is absolutely vital for 
        the survival of all small businesses attempting to participate 
        in Interstate Commerce.

          Large businesses:Having worked for large business for 
        many years, we understand and support their need for clarity 
        and simplification of the rules which would allow them to 
        devote more attention to delivering products and services 
        instead of defending themselves in legal actions. We realize 
        some States argue that BATSA would encourage use of intangible 
        holding companies to shelter income from State taxation, but 
        there are several easy ways for the States to prevent such 
        abuses by businesses (see ``The States'' below).

      The States:I understand the States are screaming about 
this bill.

                (a)  Their claim of Federal usurpation of their taxing 
                powers simply does not hold water. Because abuses 
                similar to those we are seeing today occurred during 
                the Colonial period, our Founding Fathers understood 
                that Federal regulation would be vital toward assuring 
                a vibrant economy and wisely gave the Congress broad 
                powers to regulate Interstate Commerce.

                (b)  Their claims of revenue loss are wildly 
                exaggerated in an effort to defeat this badly needed 
                bill. Simplification always increases income and 
                profits, thus taxable income will grow. The 
                distribution of that taxable income may change among 
                the States, but it should. We do all work from our 
                home; shouldn't we pay all our taxes to South Carolina? 
                Shouldn't this apply equally to large businesses with 
                no physical presence in a State? If a State's revenue 
                drops due to passage of this bill, it is because the 
                State is already engaging in unfair tactics; and its 
                revenue should and must drop.

                (c)  We believe the greatest threat to States' revenues 
                is through the improper use of intangible holding 
                companies. If an intangible holding company licenses 
                intangible property to an unrelated company, then it 
                should receive the protection the physical presence 
                standard provides. If the intangible holding company 
                operates only to avoid taxation, without other 
                legitimate business purposes, the States have several 
                remedies they have traditionally employed to prevent 
                any loss of income, and many States have already 
                enacted one or more of them. So, this issue is no 
                reason to avoid prompt passage of this bill.

        As private citizens, we have concluded the passage of BATSA is 
        the fair and right thing to do for all business, both large and 
        small, that it is vital for protecting small business, that it 
        is vital for protecting jobs and our economy, that States' 
        claims of various harms are ill-advised and simply not true, 
        and that all sales should be treated as intended by the 
        Congress when it passed Public Law 86-272. Otherwise, very 
        large portions of our economy (i.e., intellectual property, 
        remote services, and small business in particular) become 
        highly disadvantaged in their conduct of Interstate marketing 
        activity.

        Because physical presence was intended to be the current 
        standard, H.R. 3220 would neither diminish the taxing powers of 
        state and local jurisdictions nor reduce state and local tax 
        revenues. The bill recognizes Congress' responsibility to 
        support a strong U.S. economy by ensuring no undue burdens on 
        Interstate Commerce.

        We beg for your support of this bill, on our behalf, on behalf 
        of the thousands of small business owners nationwide whose 
        economic futures rely on it, and on behalf of a strong National 
        economy which also relies on such legislation for its continued 
        and improved strength.

        Sincerely,

        Bo Horne
        Kathy Horne
        418 East Waterside Drive
        Seneca, SC 29762

                              ----------                              

        May 20, 2004

        The Honorable Chris Cannon
        Chairman, Subcommittee on Commercial and Administrative Law
        Committee on the Judiciary
        B-353 Rayburn House Office Building
        United States House of Representatives
        Washington, DC 20015

        Dear Chairman Cannon and Members of the Committee:

        On behalf of the American Legislative Exchange Council 
        (``ALEC''), a bi-partisan, individual membership organization 
        of over 2,400 state legislators, I thank you for the 
        opportunity to submit this letter for the record for the May 
        13, 2004 legislative hearing on H.R. 3220, the ``Business 
        Activity Tax Simplification Act of 2003.''

        The purpose of my letter is twofold: to express ALEC's strong 
        support for H.R. 3220, and to specifically rebut a release 
        prepared and distributed at the hearing by the National League 
        of Cities that claimed local governments could lose more than 
        $60 billion annually in revenues from the enactment of H.R. 
        3220.

        First, I need only refer to the testimony of Jamie Van Fossen, 
        Chair of the Iowa House Ways and Means Committee, and public 
        sector chair of ALEC's Tax and Fiscal Policy Task Force. ALEC 
        supports H.R. 3220 because ``it promotes federalism, enhances 
        our national economy and thereby increases the financial 
        viability of our state governments, and preserves the 
        constitutional principle of tax competition among the states.''

        Second, as stated by Representative Van Fossen, H.R. 3220 does 
        not force a choice ``between public schools and corporate 
        profits.'' Opponents of the bill that make this 
        characterization grossly overstate the revenue impact of H.R. 
        3220 in order to protect overaggressive and unconstitutional 
        imposition of business activity taxes.

        A case in point is the $60 billion estimate for local 
        government revenue losses cited in the National League of 
        Cities' release. These sort of numbers, increasingly used by 
        certain state and local government groups, are worse than 
        unhelpful - they deflect consideration from the real issue. To 
        illustrate, a recent study co-authored by University of 
        Tennessee Professor William Fox, a former President of the 
        National Tax Association, estimated that total state and local 
        corporate income taxes in fiscal year 2003 amounted to $34.6 
        billion. Even with adding other non-income taxes in the study 
        that might be considered business activity taxes, it is hard to 
        reach a number that comes close to the $60 billion loss claimed 
        by the National League of Cities.

        What the National League of Cities appears to be asserting is 
        that H.R. 3220 would wipe out all business activity tax revenue 
        at the state and local level nationwide. If the claim is made 
        with respect to local governments only, it is even more absurd. 
        Because the underlying tax principle of H.R. 3220 is to tax 
        businesses where they are physically located, the National 
        League of Cities seems to conclude that all businesses could 
        operate without a physical presence anywhere. This is quite 
        obviously impossible.

        Please do not allow unsubstantiated figures like those advanced 
        in the National League of Cities' release to distract the 
        Committee from its important work. H.R. 3220 is of vital 
        importance to the health of our economy and the free flow of 
        commerce between the states.

        Thank you for your consideration.

        Sincerely,

        Duane Parde
        Executive Director
        American Legislative Exchange Council (ALEC)

                              ----------                              



                              ----------                              

        May 24, 2004

        The Honorable Chris Cannon, Chairman
        The Honorable Melvin Watt, Ranking Member
        Subcommittee on Commercial and Administrative Law
        House Judiciary Committee
        United States House of Representatives
        Washington, DC 20515

        Re: HR 3220-Response to National League of Cities Letter

        Dear Chairman Cannon and Ranking Member Watt:

        On behalf of the Software Finance and Tax Executives Council 
        (SoFTEC), I write in response to the May 21, 2004 letter sent 
        you by the National League of Cities (NLC) regarding HR 3220, 
        the ``Business Activity Tax Simplification Act.'' The NLC's 
        letter contains inaccuracies and distorts the effect passage of 
        HR 3220 would have on local revenues. SoFTEC asserts that 
        passage of HR 3220 would have no more than a minimal impact on 
        local revenue from business activities taxes.

        SoFTEC is a trade association providing software industry 
        focused public policy advocacy in the areas of tax, finance and 
        accounting. Because SoFTEC's member distribute their products 
        to customers in many states and localities but have a physical 
        presence in only a few, it naturally has an interest in 
        ensuring that your Subcommittee has accurate information 
        regarding the effects of HR 3220.

                1.  Economic Presence Standard:

        The NLC, in its letter, asserts that the current business 
        activity tax nexus standard is an ``economic presence'' 
        standard and that HR 3220 would change the standard to a 
        ``physical presence'' standard. To the contrary, physical 
        presence is the current nexus standard enforced by the courts 
        and HR 3220 would merely codify it.

        There is no reported decision in which a court has ever 
        permitted a state to impose a business activity tax on an out-
        of-state company that had no more than an economic presence 
        within the state. Each time the courts have sustained such a 
        tax the taxpayer had a physical presence in the taxing state. A 
        fair reading of the most recent cases in this area makes it 
        clear that for a state or locality to impose a business 
        activity tax on out-of-state businesses, there must be a 
        ``substantial physical presence'' in the state.\1\
---------------------------------------------------------------------------
    \1\ See J.C. Penny Nat'l Bank v. Johnson, 19 S.W.3d 831 (Tenn. Ct. 
App. 1999), appeal den. (Tenn. 2000), cert. den. 531 U.S. 927, 212 
S.Ct. 305 (2000); Rylander v. Bandag Licensing Corporation, 18 S.W.3d 
296 (Tex. App. 2000), Motion for Rehearing Denied March 8, 2001; 9.4 
Percent Manufactured Housing Service v. Department of Revenue, No. 
Corp. Inc. 95-162 (Ala. Admin. Law Div. Feb.7, 1996); MeritCare 
Hospital v. Commissioner of Revenue, No. C2-94-12818, (D.C. Minn. Sept. 
22, 1995); cf, Geoffrey, Inc. v. South Carolina Tax Commission, 313 
S.C. 15 (1993) (involved a tax shelter).

        NLC's assertion that ``economic presence'' is the current law 
        is not in accord with the cases. The current state of the law 
        is that a business must have a physical presence in a 
        jurisdiction before that jurisdiction is permitted to impose a 
---------------------------------------------------------------------------
        tax on its business activities.

                2.  HR 3220 Would Promote Improper Tax Sheltering:

        The NLC claims that HR 3220 would legalize a variety of 
        corporate tax planning techniques that companies use to 
        minimize their state and local tax burden and lead to more 
        ``nowhere income'' and tax avoidance or evasion. Such claims 
        cannot withstand scrutiny.

        A physical presence nexus standard would not prevent states 
        from using their existing arsenal of tools traditionally used 
        to combat illegal tax shelters. The courts are split on whether 
        the intangibles holding company device is an improper tax 
        shelter. However, HR 3220 would have no impact on states' 
        ability to use common law sham transaction and economic 
        substance doctrines to attack such shelters. In addition, such 
        devices are inadequate to shelter income from taxation in 
        states that use combined and unitary reporting and/or 
        ``throwback rules.'' Also, HR 3220 would not prevent states 
        from enacting laws that would deny an income tax deduction for 
        royalties paid to an intangibles holding company.

        A company's decision to locate a facility in a low-tax state is 
        not a tax shelter. States often compete with one another for 
        the reputation as a low-tax state. Remote sellers, by virtue of 
        their business model, are able to confine their activities to a 
        smaller number of taxing jurisdictions. The physical presence 
        standard will not allow companies to escape taxes that they 
        currently are legally obligated to pay. Codification of the 
        current physical presence standard merely will clarify for both 
        taxpayers and tax collectors where those tax obligations arise.

        State and local efforts to overcome sheltering techniques will 
        not be nullified by HR 3220.

                3.  HR 3220 Would Disadvantage Local Businesses:

        NLC asserts that HR 3220 would place local business including 
        manufacturers at a disadvantage by giving tax breaks to out-of-
        state business operating within a state and/or local political 
        subdivision. HR 3220 would not discriminate in favor of out-
        state businesses.

        First, in order for a company to be ``operating'' in a 
        jurisdiction, it must deploy capital or employees. HR. 3220 
        would treat all businesses that have property or employees in a 
        jurisdiction equally. A local business with employees or 
        property in the jurisdiction would be treated the same as an 
        out-of-state business with employees or property; the 
        jurisdiction could tax the business activities of both 
        businesses. By the same token, local business could not be 
        taxed by a foreign jurisdiction where the business deployed no 
        employees or property. In this light, HR 3220 actually 
        advantages local business by shielding it from foreign taxing 
        jurisdictions where the local business deploys no capital.

        SoFTEC thanks you for the opportunity to provide this response 
        to the NLC's May 21, 2004 letter. If you have any questions, I 
        may be contacted at (202) 331-9633 or 
        [email protected].

        Respectfully submitted,

        Mark E. Nebergall
        President
        Software Finance and Tax Executives Council

                              ----------                              



           Statement of the Federation of Tax Administrators

    The Federation of Tax Administrators opposes enactment of H.R. 3220 
for the following reasons.
        1.  There has been no need demonstrated for this violation of 
        principles of federalism.
    Whatever impact one assigns to this proposed legislation in terms 
of revenue or practical effects, there has been no demonstration of a 
need for this bill by its proponents beyond some light, anecdotal fare. 
Principles of federalism dictate that the federal government should not 
encroach on functions of state and local governments so integral to 
their sovereignty as the powers to tax without a clearly demonstrated 
need to do so, and no such need has been demonstrated in this instance. 
Further, the few stories that have been offered purporting to show 
overreaching by state tax agencies involve only de minimis situations - 
i.e., taxpayers with limited contacts with a state being subjected to 
that state's taxes - while absolutely no justification has been 
presented for the bill's protecting from taxation income in the 
millions of dollars earned in a state that is shifted out of that state 
into intangible holding companies. By addressing an asserted problem of 
companies with relatively minor contacts with states being assessed 
with those states taxes with a bill that would prevent states from 
taxing the huge amounts of income of multinational corporations 
indisputably earned within their borders, this bill attempts to swat a 
fly with a sledgehammer - and does all the corresponding damage that 
metaphor implies.
    Especially in recent years, state and local governments have 
demonstrated a willingness to work with the business community to 
develop solutions to problems that have been demonstrated to require 
Congressional attention. For example, state and local governments 
worked with the telecommunications industry to produce the Mobile 
Telecommunications Sourcing Act in 2000, to address the problem of how 
to determine which taxing jurisdictions should be able to tax wireless 
telephone calls that can change jurisdictions as they are being made. 
And, at least partly in response to the U.S. Supreme Court's 
acknowledgment of a problem with the complexity of state and local 
sales and use tax regimes in Quill v. North Dakota, state and local 
governments are currently working with many sectors of the business 
community to simplify the sales and use taxes as part of the 
Streamlined Sales Tax Project, with an eye toward leveling the playing 
field for all types of sellers with expanded authority to require tax 
collection.
    Similarly, if the business community were to demonstrate a 
significant problem, such as complexity in business activity taxes 
(BAT) or over-aggressiveness on the part of states in imposing such 
taxes on businesses with only a de minimis presence in the state, the 
state and local governments would be more than willing to work on 
streamlining those taxes and developing uniform de minimis standards. 
To have one of the states' most integral sovereign functions be 
compromised as significantly as this bill would compromise the states' 
ability to tax, requires that the Federation of Tax Administrators 
object to this bill strenuously.

        2.  H.R. 3220 does not provide for a physical-presence 
        standard; rather, the standard set by the bill is one of 
        physical presence under certain enumerated circumstances.

    Despite how it has been characterized by its proponents, H.R. 3220 
does not provide that a state may tax an entity that has a physical 
presence in the state. Rather, the bill provides that, while a state 
may not tax an entity that does not have a physical presence in the 
state, the state may only tax an entity that has one or more of certain 
types of enumerated physical presences in the state, and that list of 
circumstances excludes some very substantial carve-outs of a variety of 
types of physical presence. Some of those carve-outs fall into what has 
been characterized as a de minimis classification - although it might 
be questionable to consider having an unlimited number of employees in 
a jurisdiction for three weeks a de minimis presence - but there are 
also complete carve-outs of whole industries or activities, such as 
purchasing, lobbying and gathering news. So, for example, if this bill 
became law, a multinational media conglomerate with its headquarters in 
New York City could build a building in Washington, D.C., and staff it 
with hundreds of full-time workers, and the District would be prevented 
from taxing that company.

        3.  Physical presence is not the current legal standard for BAT 
        nexus.

    Without providing a full-blown legal analysis of all of the U.S. 
Supreme Court's decisions regarding BAT nexus, it is safe to say that 
the Court has never held that, in order for a state to impose a BAT on 
a nonresident corporation or similar entity, that entity had to have a 
physical presence in the state. In fact, there is no need to present an 
analysis of all relevant Supreme Court cases, because the Supreme Court 
itself told us just that - twice - in its 1992 decision in Quill v. 
North Dakota, 504 U.S. 298.
    In Quill, the Court determined that it was going to stay with the 
standard for Commerce Clause nexus for sales and use tax purposes 
established in its 1967 decision in National Bellas Hess, Inc. v. Dept. 
of Revenue of Illinois, 386 U.S. 753, in which the Court held that a 
vendor whose only contacts with the taxing state were by mail or common 
carrier lacked the substantial nexus required by the Commerce Clause. 
In Quill, the Court referred to this standard, i.e., ``the rule that 
Bellas Hess established in the area of sales and use taxes,'' as a 
``bright-line, physical-presence requirement.''
    In Quill, the Court was quite explicit in saying that it had never 
imposed the physical-presence requirement for other taxes, saying so 
twice: ``. . . [W]e have not, in our review of other types of taxes, 
articulated the same physical-presence requirement that Bellas Hess 
established for sales and use taxes . . .'' (504 U.S. 314), and, ``. . 
. [I]n our cases subsequent to Bellas Hess and concerning other types 
of taxes we have not adopted a similar bright-line, physical-presence 
requirement . . .'' (504 U.S. 315). Thus, it is clear that the U.S. 
Supreme Court has never ruled that physical presence is the nexus 
requirement for BAT.
    Beyond the lack of U.S. Supreme Court authority for applying the 
physical-presence requirement to taxes other than sales and use taxes, 
several state court decisions have required only the lesser standard of 
economic presence for such other taxes, including, but not limited to: 
Geoffrey, Inc. v. South Carolina Tax Commission, 437 S.E.2d 13 (S.C. 
1993), cert. denied, 114 S.Ct. 550 (1993) (income tax); Comptroller of 
the Treasury v. SYL, Inc., and Comptroller of the Treasury v. Crown 
Cork & Seal Co. (Delaware), Inc., 825 A.2d 399 (Md. 2003), cert. denied 
(U.S., 2003) (income tax); General Motors Corp. v. City of Seattle, 25 
P.3d 1022 (Wash. Ct. App. 2001), cert. denied, 122 S.Ct. 1915 (2002) 
(business and occupation tax); Kmart Properties, Inc. v. Taxation and 
Revenue Dept., No. 21,140 (N.M. Ct. App. 2001), appeal pending (income 
tax); and, Borden Chemicals and Plastics, L.P. v. Zehnder, 726 N.E.2d 
73 (Ill. App. Ct. 2000), appeal denied, 731 N.E.2d 762 (Ill. 2000) 
(replacement income tax).
    Therefore, while proponents of H.R. 3220 assert that the bill 
reflects the current state of the law, it clearly does not.

        4.  Physical presence should not be the nexus standard for BAT.

    Physical presence should not be the nexus standard for BAT for many 
reasons, including the following:
    It encourages tax planning. Especially as it is structured in H.R. 
3220, a physical-presence standard encourages corporations to engage in 
tax planning aimed at shifting income away from a taxing state in which 
it is earned. For example, a corporation could spin off a holding 
company to hold its intangibles, such as trademarks and patents, and 
incorporate that subsidiary in a low-or-no-tax state such as Delaware, 
and then have that holding company license the use of the trademarks 
back to the affiliate that operates the stores throughout the states, 
with the royalties flowing back to the holding company approximating 
the operating company's income - thereby shifting the income earned 
where the stores are located, to Delaware (while the operating company 
takes a deduction for royalties paid, and the holding company loans the 
funds back to the operating company, with another deduction to the 
operating company for interest on the loans). H.R. 3220 would prevent a 
state that was home to the operating stores from assessing the Delaware 
holding company with tax on the income earned in its state, as South 
Carolina successfully did in Geoffrey, Inc. v. South Carolina Tax 
Commission, 437 S.E.2d 13 (S.C. 1993), cert. denied, 114 S.Ct. 550 
(1993), because the holding company would not have a physical presence 
in the taxing state, as physical presence is defined in the bill. 
Ironically, as this example illustrates, while proponents of the bill 
assert that ``businesses should pay tax where they earn income,''\1\ 
this type of tax planning encouraged by H.R. 3220 would have exactly 
the opposite effect.
---------------------------------------------------------------------------
    \1\ Statement of Arthur Rosen on H.R. 3220, May 13, 2004, p. 5.
---------------------------------------------------------------------------
    Also, while proponents of the bill might dismiss any concern about 
tax planning that would result from the bill as speculative, it is 
clear that such planning would occur. First, it is already occurring, 
as demonstrated by decisions like Geoffrey and many others, as well as 
similar cases in states' administrative pipelines, not to mention 
situations the states are not aware of. Moreover, while this tax 
planning might currently be considered risky - and not worth the risk 
to some corporations who might fear the cost of not having their tax 
planning upheld by the courts, including the penalties and interest 
that would be incurred - enactment of this legislation would not only 
ratify all the current planning that is going on, but also essentially 
require boards of directors of corporations that are in a position to 
do so to engage in all levels of such planning that would be made 
available under this bill, as a matter of their fiduciary duties to 
their shareholders.
    The assertion that an out-of-state seller derives no benefit from a 
state in which it has no physical presence is ``indefensible.'' A 
proponent of H.R. 3220 states, ``The underlying principle of this 
legislation is that states and localities that provide benefits and 
protections to a business, like education, roads, fire and police 
protection, water, sewer, etc., should be the ones who receive the 
benefit of that business' taxes, rather than a remote state that 
provides no services to the business.''\2\ Two noted scholars in the 
field of state and local taxation responded to a similar statement, and 
to the ``no taxation without representation'' argument, as follows:
---------------------------------------------------------------------------
    \2\ Ibid., p. 3.

        This line of reasoning is indefensible, whether the benefits 
        corporations receive are defined broadly, to mean the ability 
        to earn income, or defined more narrowly to mean specific 
        benefits of public spending, one of which is the intangible but 
        important ability to enforce contracts, without which commerce 
        would be impossible. A profitable corporation clearly enjoys 
        both types of benefits. It is true that in-state corporations 
        may receive greater benefits than their out-of-state 
        counterparts, for example, because they have physical assets 
        that need fire and police protection. But that is a question of 
        the magnitude of benefits and the tax that is appropriate to 
        finance them--something that is properly addressed by the 
        choice of apportionment formula and the tax rate, not the type 
        of yes/no question that is relevant for issues of nexus. The 
        answer must clearly be a resounding yes to the question of 
        whether the state has given anything for which it can ask in 
---------------------------------------------------------------------------
        return.

        A second invalid argument relies on the Revolutionary War 
        rallying cry ``no taxation without representation.'' Opponents 
        of tighter nexus rules suggest that those rules would violate 
        the basic American principle that there should be no taxation 
        without representation. That argument fails on several grounds. 
        First, not all rallying cries of the Revolutionary War made 
        their way into the Constitution. An inviolate link between the 
        right to vote and the duty to pay tax is not among those that 
        did. Individuals who lack the right to vote due to nonresidence 
        are nonetheless (properly) taxable. Second, virtually all of 
        the taxes under discussion here are (or would be, under a 
        tighter nexus standard) paid or collected by corporations, not 
        by individuals. Because corporations do not vote, this argument 
        is something of a red herring. Beyond that, out-of- state 
        taxpayers, whether actual or potential and whether corporations 
        or individuals, have the same right to be represented by 
        lobbyists as do in-state corporate and individual taxpayers. 
        Indeed, corporate officials can probably do their own lobbying 
        without running afoul of existing nexus standards, let alone 
        sensible ones. Thus, this charge lacks substance. Third, the 
        same argument could be made against payment of property taxes. 
        Finally, and most fundamentally, the type of taxation that 
        would occur under sensible nexus rules would not discriminate 
        against out-of-state business (something the U.S. Supreme Court 
        would not countenance). Rather, sensible nexus rules would 
        prevent discrimination in favor of out-of-state business by 
        subjecting them to the same rules as in-state businesses, 
        except as required to prevent excessive complexity. Even if it 
        were true that out-of-state businesses had no representation, 
        it is difficult to see the harm in requiring that they pay or 
        collect the same taxes as their in-state competitors. (With 
        uniform taxation, in-state businesses can be expected to help 
        protect the interests of their out-of-state competitors in the 
        political arena, because they will pay the same taxes.)\3\
---------------------------------------------------------------------------
    \3\Charles E. McLure and Walter Hellerstein, ``Congressional 
Intervention in State Taxation: A Normative Analysis of Three 
Proposals,'' State Tax Today, March 1, 2004.

    A physical-presence standard, especially as structured in H.R. 
3220, is fundamentally unfair, as it favors out-of-state businesses 
over in-state businesses, and big businesses over small businesses. 
H.R. 3220 favors big over small, for, while there is nothing in the 
bill that specifically limits its protections to bigger businesses, in 
practical terms, bigger businesses will have more opportunities 
available to them to engage in the tax-planning activities discussed 
above. For example, a corporation cannot simply establish an affiliate 
in a low-tax state and assign all of its income to that affiliate; if 
that were to happen, the original taxing state could disregard the 
second corporation as a sham. Instead, there must be at least the guise 
of a business purpose for setting up that second corporation, and that 
guise is more available to larger corporations that will, for example, 
have trademarks to put into another entity and then license back to the 
original corporations. Mom-and-pop-type operations most likely do not 
have those options, and likely do not have the resources to pay for the 
tax-planning services necessary to develop those options.
    H.R. 3220 also favors out-of-state businesses over in-state 
businesses, as illustrated by the banking industry. Banking is an 
activity that has proven particularly adaptable to the electronic age, 
with seemingly every service a bank offers - including savings 
accounts, loans, and investments - able to be conducted without the 
customer's presence in a bank building. Under H.R. 3220, the smaller 
local bank with an office in the state will have to pay all of the 
state's taxes, while the out-of-state bank, which would most likely 
already be larger and therefore operating with the advantage of a 
number of economies of scale, will also be free of taxes imposed by the 
state where it has a substantial customer base - thereby producing a 
multiple hit on the community, by taking the local bank's customers 
away while not providing any jobs to the community or paying taxes to 
the community.
    That is another problem with a physical-presence standard: it 
discourages a business from investing in the communities in which it 
does business, because the business is motivated to concentrate all of 
its plant and payroll in tax havens. If, however, the common nexus 
standard were based on where a business is doing business, i.e., 
economic presence, a business's decisions about where to locate its 
property and employees would not be driven by tax considerations, but 
rather, by market and other economic factors.

        5.   The current nexus standard is economic presence.

    The current standard for sufficient nexus for a state to impose a 
BAT on an entity operating in interstate commerce under the federal 
constitution is an economic presence in the state. For example, in its 
1944 decision in International Harvester Co. v. Wisconsin Department of 
Taxation, 322 U.S. 435, 441, the U.S. Supreme Court upheld a Wisconsin 
dividend tax imposed on nonresident shareholders, stating that personal 
presence within the state was not essential to the constitutional levy 
of the tax, and no subsequent decision has held otherwise for purposes 
of a BAT.
    The economic presence standard could take a variety of forms, 
including, for example, a set amount of property, payroll and/or sales 
in a state, as has been proposed by both scholars in the field and the 
Multistate Tax Commission. So, to illustrate, at a certain level of 
business activity in a state, a multistate bank would be viewed as 
having a sufficient economic presence in the state to support that 
state's imposition of its taxes on the bank. Currently, several states 
have chosen to not impose their BATs to the full extent allowed by the 
federal constitution, by allowing different levels of economic presence 
without triggering the imposition of a BAT, which seems to be a healthy 
illustration of federalism at work.

        6.  Beyond the general change in the nexus standard for BAT, 
        H.R. 3220 makes other changes to existing law.

    H.R. 3220 would negate U.S. Supreme Court decisions upholding 
attributional nexus through independent contractors, such as Tyler Pipe 
Industries, Inc. v. Washington State Dept. of Revenue, 107 S.Ct. 2810, 
a 1987 decision upholding the imposition of Washington's business and 
occupation tax based on the use of an in-state sales representative, 
characterized as an independent contractor. Section 3(b)(2) of H.R. 
3220 prohibits taxation based on the use of a non-employee in the state 
``to establish or maintain the market in that State,'' when that non-
employee ``performs similar functions on behalf of at least one 
additional business entity during the taxable year.'' In Tyler Pipe, 
the Court employed the same language used in the bill, when it quoted 
the lower court for the proposition that ``the crucial factor governing 
nexus is whether the activities performed in this state on behalf of 
the taxpayer are significantly associated with the taxpayer's ability 
to establish and maintain a market in this state for the sales.'' The 
intention of this provision to overturn the impact of cases like Tyler 
Pipe is clear; under the bill, so long as an independent contractor was 
not captive, i.e., it was used by at least two entities, whether 
related or not, that independent contractor would not supply nexus for 
any of its employers.
    Also, while different numbers of states' tax laws regarding what 
type of presence in the state constitutes sufficient nexus for imposing 
their taxes would be overturned in varying degrees, every state with a 
business activity tax considers the presence of a building in the state 
sufficient nexus, but H.R. 3220 provides that, for some industries, 
even the ownership of a building with a permanent staff would not 
constitute sufficient nexus.

        7.  The bill's expansion of P.L. 86-272 is unwarranted.

    On the one hand, H.R. 3220 purports to establish a physical-
presence standard, but, on the other hand, it expands Public Law 86-272 
to cover even more activities constituting physical presence than the 
law covers today. P.L. 86-272 was adopted as a ``stop-gap'' temporary 
measure in 1959 to give people time to adjust a Supreme Court decision, 
but has been allowed to exist well beyond its usefulness, and now is 
being considered for expansion. An expansion of P.L. 86-272 would 
contradict both the purported purpose of this bill and the tide of 
business moving into the electronic age.

        8.   The bill's carve-outs for particular industries produce 
        outrageous results.

    Under Section 3(b)(1)-(3) of H.R. 3220, leasing or owning real 
property would constitute a taxable physical presence except for such 
property used for a variety of activities - such as ``activities in 
connection with a possible purchase of goods or services for the 
business,'' lobbying and gathering news - so long as the state is not 
the state of incorporation or commercial domicile. Therefore, a 
broadcasting network could erect a building in a state, and staff it 
with numerous full-time employees engaged in ``gathering news,'' and 
still not be subject to a business activity tax in the state. For all 
other industries, merely placing employees into a separate employment 
affiliate could be enough to prevent buildings and factories in the 
state from creating nexus. Thus, under the bill, simple paper 
restructurings could easily preempt state taxation, even where the ex-
taxpayer maintains large amounts of plant and equipment in the state.

        9.   The timing of this bill contradicts other activity by 
        Congress.

    As noted above, H.R. 3220 not only authorizes and promotes, but 
could compel for fiduciary reasons, what is now considered risky tax 
planning that makes use of a variety of means of sheltering income 
earned in a state. This effect directly contradicts the current 
activity of Congress in eliminating a variety of tax-shelter activities 
for federal income tax purposes.
    The bill also contradicts Congress's consideration of bills 
expanding the authority of states to require collection of sales and 
use taxes by interstate sellers; in that situation, Congress is 
considering undoing the current physical-presence requirement for 
purposes of the only taxes for which that standard is required, sales 
and use taxes, while H.R. 3220 would impose a nexus standard narrower 
than physical presence on taxes for which the physical-presence 
standard is not now the law.
    Whether or not the bill falls within Congress's powers under the 
Commerce Clause, this is not an appropriate preemption Congress should 
be imposing on the states. A state's ability to function is dependent 
on its ability to fund its operations, and the decisions about how to 
do that are best made at the state level. States generally oppose the 
federal government's preemption of their options to tax, but have not 
done so dogmatically. As noted above, state and local governments have 
worked with the business community to address the problem of how to 
source wireless telephone calls, and are currently working closely with 
the business community to streamline sales and use taxes. In both of 
those instances, states have worked with the business community to 
address the problems at hand, and then taken those solutions to 
Congress for their implementation. In this situation, Congress is 
considering imposing draconian measures on states where there has not 
even been a serious problem demonstrated to exist. That is not the role 
of Congress in our federalist system.

                              ----------                              

            Prepared Statement of Multistate Tax Commission

                           I.   Introduction

    The Multistate Tax Commission is an organization of state 
governments that works with taxpayers to administer, equitably and 
efficiently, tax laws that apply to multistate and multinational 
enterprises. Created by the Multistate Tax Compact, the Commission is 
charged by this law with:

          Facilitating the proper determination of State and 
        local tax liability of multistate taxpayers, including the 
        equitable apportionment of tax bases and settlement of 
        apportionment disputes;

          Promoting uniformity or compatibility in significant 
        components of tax systems;

          Facilitating taxpayer convenience and compliance in 
        the filing of tax returns and in other phases of tax 
        administration;

          Avoiding duplicative taxation.

    Among the tasks delegated to the Commission is the responsibility 
to recommend uniform nexus standards for the jurisdiction of states to 
tax multistate companies. Further, the Compact incorporates the Uniform 
Division of Income for Tax Purposes which provides specific guidance 
for how income should be divided among the states. In particular, it 
establishes a policy standard that the income that is reported to a 
state should ``fairly represent'' the business activity in that state. 
This policy standard is an important benchmark used here to evaluate 
H.R. 3220.
    The Commission was created in 1967 as an effort by states to 
protect their tax authority in the face of previous proposals to 
transfer the writing of key features of state tax laws from the state 
legislatures to Congress. For that reason, the Commission has been a 
voice for preserving the authority of states to determine their own tax 
policy within the limits of the U.S. Constitution.
    Forty-five States (including the District of Columbia) participate 
in the Commission, as Compact Members (21), Sovereignty Members (3), 
Associate Members (18), and Project Members (3).
    The Commission is pleased to provide its views on HR 3220, the 
Business Activity Tax Simplification Act.

        II.   HR 3220 Unravels the Core Principles of Federalism

    HR 3220 would have a profound impact on the principles of 
federalism and the delicate balance in the federal/state relationship. 
For over 225 years, Congress has recognized the sovereign authority of 
states to raise revenue. HR 3220 would destroy this core principle and 
supplant the authority and judgment of state and local elected 
officials with the judgment of Congress. HR 3220 would result in 
shifting the entire burden of funding state and local government onto 
individual state residents and local businesses that, because of their 
nature, are unable to take advantage of the myriad of tax planning 
opportunities established in the legislation. Both local and out-of-
state businesses impose social costs on state and local infrastructure 
and it is entirely reasonable for state legislatures to require all 
businesses to assume a fair share of the cost of supporting those 
services. As stated earlier, all states currently share this belief and 
any action by Congress to summarily invalidate the laws of these states 
would do great damage to our federal system of government.

        III.   The Current Doing Business Standard vs. Proposed 
             Physical Presence: Sales and Profits Do Matter

    Corporate income taxes and other business activity taxes have been 
based from their beginning on the twin concepts of taxing income based 
on the taxpayer's residence and on where income is earned-its source. 
Source taxation taxes economic activity that occurs within a state 
regardless of how that activity is conducted. State corporate income 
taxes are imposed generally either on the ``privilege of conducting 
business'' in the state or on ``income earned'' within the state. The 
Supreme Court has made very clear that sales into a state are one of 
the prime factors for determining that income is earned in that state. 
Courts have affirmed the application of these taxes to those who are 
participating in a state's economy whether through physical presence or 
the use of intangibles such as ownership of stock, trademarks, patents, 
and the like, or by selling a product into a state even in the absence 
of any property (tangible or intangible) or people in the state.
    By advocating that companies should be taxed only where they have a 
physical presence, proponents of this concept suggest that sales are 
not an integral part of income-producing activities. It is conceptually 
and factually wrong to suggest that companies can derive income (and 
thus, profits) without making sales. Without a market or customers, no 
sales can occur, no income is generated and no profits are made.
    With respect to multistate companies, states, with the full support 
and encouragement of the U.S. Supreme Court, have developed over the 
last eight decades a functional, fair, and equitable system of 
attributing income among the states in which such companies do 
business. That system consists of apportioning income-sharing the tax 
base-through formulas based on real economic activities engaged in by 
the company: property, payroll and sales. The Supreme Court has been 
very protective to insure that states do not discriminate against 
multistate businesses and has also made sure that state taxes are 
fairly apportioned.
    One important goal of the system of income taxation established by 
the states is to ensure equal treatment between out-of-state companies 
doing business in a state and local businesses. Ideally, if an out-of-
state company and a local business both earn $100,000 of profits from 
within a state, that amount of income should be taxed equally by the 
state. This goal of equity is especially important when the two 
businesses compete directly with each other for the same customers. 
Unfortunately, H.R. 3220 would result in a large number of cases where 
the $100,000 profit earned in a state by the out of state company would 
become effectively exempt from taxation, while the tax burden would 
continue to fall on the local business.
    H.R. 3220 would disrupt the proper functioning of this long 
standing state income tax system by allowing companies to artificially 
shift income away from where a company is earning the income to tax 
haven locations. H.R. 3220 establishes a system of ``headquarters 
only'' taxation that is directly counter to the system of sharing the 
tax base among the states where real economic activity is occurring. A 
``headquarters only'' system is a colonial concept of taxation that 
allows companies to earn income and benefit from the services of other 
jurisdictions, but does not ask them to make a fair payment for the use 
of those public services.
    H.R. 3220 purports merely to simplify tax rules by establishing a 
bright line nexus standard. This characterization is wrong on many 
counts. The legislation does not establish a bright line of physical 
presence but contains many exceptions where even taxpayers that have 
clear and substantial physical presence would be protected by the 
legislation from paying tax on the income they earn in a state. 
Moreover, physical presence is inevitably an unworkable standard as all 
the litigation that has followed from the Quill Corp. v. North Dakota 
decision has shown. Fundamentally, even remote businesses find they 
need to have contacts in a state to service their customers or to 
protect their interests. Businesses use sales representatives in states 
to increase sales. They hire attorneys to sue customers who have not 
paid. They send in employees or agents to perform installation or 
warranty work. The supposed ``abuse'' cited by the Smithfield Farms 
witness at the hearing was really an indictment of P.L. 86-272, not of 
the New Jersey tax agency. The company clearly had a physical presence 
in New Jersey when it was stopped for tax purposes. The company argued 
that its activities were limited to those protected by P.L. 86-272, but 
that could not be determined except after the fact. The dispute in that 
instant was a precursor to expanded disputes that would occur under 
H.R. 3220, where a company would for all outward appearances have a 
physical presence, but would claim that it was exempt under the 
numerous provisions purportedly defining physical presence. In other 
words, a bright line physical presence would not necessarily be a 
physical presence under the bill. How is a tax agency supposed to 
determine that a physical presence exists? Physical presence can also 
be hidden and manipulated by less responsible taxpayers in ways that 
invite abuse. It is not easy for state tax agencies to discover 
physical presence. Thus, in practice, a physical presence standard 
leads not to equitable certainty in the application of the law, but to 
uneven and uncertain tax results: some companies will be discovered and 
too many others will be hidden.
    It is disingenuous to pretend that market states provide nothing to 
businesses that make sales there. An educated, financially prosperous, 
secure market is essential for a business to prosper. Recent studies 
have shown that spending for higher quality schooling adds to the 
growth rate of Gross Domestic Product (GDP). State and local taxes pay 
for more than 90 percent of the costs of the education of its citizens. 
Clearly, this spending provides a direct benefit to companies making 
sales into a state, because higher incomes generated by educational 
investments yield higher sales and profits for those companies. 
Furthermore, states and local governments provide court systems that 
give remote sellers confidence to sell to consumers in other states 
knowing they can get recourse in courts in the customers' states and 
give customers the confidence to buy from remote sellers because the 
customers know they can get recourse in their own courts against the 
remote sellers. Finally, state and local governments provide roads and 
police and fire protection that ensure that the goods purchased from 
remote sellers will arrive safely.
    The argument that companies selling into a state without a physical 
presence do not receive the benefits of public services from the market 
state is simply wrong. In analyzing the ``no benefits without a 
physical presence argument,'' noted tax experts Walter Hellerstein and 
Charles McLure have stated:

        This line of reasoning is indefensible, whether the benefits 
        corporations receive are defined broadly, to mean the ability 
        to earn income, or defined more narrowly to mean specific 
        benefits of public spending, one of which is the intangible but 
        important ability to enforce contracts, without which commerce 
        would be impossible.\2\
---------------------------------------------------------------------------
    \2\  Charles E. McLure and Walter Hellerstein, ``Congressional 
Intervention in State Taxation: A Normative Analysis of Three 
Proposals, State Tax Notes, March 1, 2004.

    H.R. 3220 disrupts source taxation by preempting states from taxing 
companies that do business in or earn income from within a state, 
regardless of whether or not they have physical presence. However, even 
a company with major physical presence in a state can still shift 
income away from that state. Under HR 3220, a company can create a 
subsidiary to hold intangibles such as its trademarks that are then 
licensed to the in-state stores. A company can have a significant 
number of employees in a state earning income and assign those 
employees to an out-of-state subsidiary to avoid taxation. A company 
could even have a building located in a state, but benefit from tax-
planning opportunities in the legislation to avoid state taxes. These 
are just a few examples of physical presence that would be shielded 
from taxation under HR 3220 that would allow most, if not all, 
businesses to escape taxation.
    HR 3220 would overturn well-developed law in many states which 
recognizes that a business that utilizes new technologies to exploit a 
state's market has no less presence in the state than a local business. 
Indeed, if presence is measured by sales an out-of-state company may 
well have a greater presence in a state's economy than a large number 
of small, local businesses including those with which it directly 
competes. The legislation would preempt state jurisdiction to tax based 
on the use of intangible property in a state or sales made into a 
state. Both out-of-state and local businesses benefit from and impose 
costs on state services such as education, commercial laws, the state 
judicial system, and police protections, for which each business should 
pay its fair share. To exempt remote business from the obligation to 
contribute to the infrastructures and place the entire burden on local 
businesses would allow remote businesses to earn significant income in 
a state without making any contribution toward state services it 
receives or costs it imposes on a state.

                     IV.  Tax Policy Considerations

        a.   HR 3220 promotes tax sheltering that would shift the tax 
        burden unfairly to local businesses. HR 3220 is bad tax policy-
        it is neither simple, efficient or equitable. It would 
        legitimize tax sheltering strategies that some multistate 
        businesses use to shift income artificially out of the state 
        where it was earned to a state or foreign country that does not 
        tax that income.\3\ Indeed, it will even require public 
        companies that currently disdain tax sheltering to shift income 
        in this manner because of the fiduciary duty of the company's 
        officers to shareholders to reduce the company's tax liability. 
        The result will be that multistate companies would secure a tax 
        reduction to the disadvantage of purely local businesses. The 
        Congressional Research Service recognized this failing of HR 
        3220 in its recent analysis stating: ``The new regulations as 
        proposed in H.R. 3220 could exacerbate underlying 
        inefficiencies because the threshold for business-the 21-day 
        rule, higher than currently exists in most states-would 
        increase opportunities for tax planning leading to more 
        ``nowhere income''. In addition, expanding the number of 
        transactions that are covered by P.L. 86-272 also expands the 
        opportunities for tax planning and thus tax avoidance and 
        possible evasion.''\4\
---------------------------------------------------------------------------
    \3\  In plain terms, ``tax sheltering'' for state tax purposes 
means here that income is not being reported in proportion to the 
business activity in the state that gave rise to the income. Instead, 
the income is being shifted to other locations. Tax sheltering may or 
may not be technically legal in various instances, but all tax 
sheltering falls short of the policy standard of the Uniform Division 
for Tax Purposes Act that income should be reported to states so that 
it ``fairly represents'' where the business activity giving rise to 
that income occurs. Tax sheltering is to be distinguished from 
legitimate tax planning which involves changing real business activity-
the location of jobs, facilities or sales-among states to take 
advantage of lower tax rates.
    \4\  Congressional Research Service,''State Corporate Income Taxes: 
A Description and Analysis'', March 23, 2004, p. 14.

        b.  HR 3220 would have the effect of stifling economic 
        development. HR 3220 creates a number of winners but also many 
        losers in the business world. Some corporations could escape 
        tax liability in every state where it does business except in 
        the state of the corporation's domicile. The result is that 
        more of the tax burden is shifted onto small businesses with 
        few resources and local businesses which will almost certainly 
        reduce-or even eliminate-their ability to compete in the 
        marketplace. Most importantly, HR 3220 could freeze economic 
        development in place as more and more businesses seek to 
        minimize their physical presence in a taxing jurisdiction. If a 
        physical presence standard were established, companies would 
        have a disincentive to move jobs and investments into states 
        where they have customers. Under a physical presence regime, a 
        company making investments in a state into which they market 
        would suddenly face a new business tax liability. Under the 
        existing ``doing business'' standard, the company should 
        already be paying income taxes to that state. A physical 
        presence standard would have the ironic and highly negative 
        economic effect of inhibiting the free flow of investment 
---------------------------------------------------------------------------
        across state boundaries.

        c.  HR 3220 adds complexity to state tax laws and insures years 
        of litigation. Supporters of HR 3220 claim the legislation's 
        physical presence requirement establishes a ``bright line'' for 
        determining whether a business does or does not have nexus with 
        a state. Certain provisions in the proposed legislation belie 
        this assertion-they are neither a physical presence test nor a 
        bright line test. Rather, HR 3220 contains a myriad of 
        provisions that would allow businesses to establish a physical 
        presence in a state and yet escape business activity tax 
        liability altogether.
    Examples of the inequities created by the legislation abound. The 
physical presence exception granted to businesses engaged in gathering 
news and event coverage is illustrative. This provision would allow an 
out-of-state news organization to locate substantial amounts of real 
and tangible property and employees in a state yet escape business 
activity tax liability. This is unfair to in-state taxpayers and also 
other out-of-state taxpayers who would remain subject to a state's 
business activity tax solely as the result of engaging in a type of 
business which would not be protected by HR 3220.
    H.R. 3220's requirement that a business be physically present in a 
state in order to be subject to business activity taxes allows 
companies to shift income earned in a jurisdiction where they are 
physically present to a jurisdiction that imposes no business activity 
tax. A company could set up a subsidiary holding company in a no-tax 
state, and transfer ownership of its intangible assets-trademarks, 
patents and the like-to its subsidiary. The subsidiary then licenses 
the use of such intangibles back to the parent, for which it receives 
royalties from the parent company. The parent continues to do business 
in states where it has both a physical presence and sales, but the 
income earned is shifted out of the state in the form of royalties to 
the subsidiary holding company.
    The interplay between sections of the legislation excepting certain 
activities in a state from the physical presence rule and those 
excepting certain kinds of tangible property present in a state is also 
unfair to businesses that do not participate in such activities, or 
that own property for different purposes than that allowed by the 
exception.
    For example, the exception to the physical presence rule allowing 
the presence of employees in a state who meet with government officials 
for purposes other than selling goods or services permits that out-of-
state company to own substantial property as long as that property is 
used to meet with government officials. A lobbying concern could own 
retreat facilities, conference facilities or even a condominium for use 
by the employees when they visit a state to lobby.
    The nexus exception pertaining to the presence of tangible property 
owned by a nonresident company located in a state for purposes of being 
manufactured, assembled and the like is also unfair to other out-of-
state businesses that own similar property that is present in a state 
for different reasons. A nonresident company could own millions of 
dollars of property in the form of hazardous materials, machinery 
components, etc. in a state, which imposes a significant cost to the 
state in the form of services the state provides, such as police and 
fire protection. Yet, under this provision, that company escapes paying 
its fair share of a portion of the service the state renders.
    HR 3220 is bad tax policy because it violates a major canon of good 
tax policy articulated by Adam Smith more than 225 years ago-tax 
neutrality-taxes should interfere as little as possible with business 
decisions. H.R. 3220 violates this important principle by influencing 
the way a business organizes itself and influencing a firm's choice of 
location. H.R. 3220 subsidizes the activities of out-of-state 
businesses and shifts a greater burden of taxation onto local 
businesses and individual taxpayers.

     V.  HR 3220 Would Overrule Tax Laws in Virtually Every State 
                       Based on Economic Activity

    HR 3220 would overrule state and local laws currently in effect in 
virtually every state. HR 3220 applies not only to the corporate income 
tax, but to other business activity taxes such as public utility gross 
receipts taxes and gross receipts taxes such as the Washington State 
Business and Occupations Tax. With a very few exceptions, most states 
and localities impose at least one business activity tax as a result of 
economic activity irrespective of whether the company has a physical 
presence. For example, Maryland imposes its corporate income tax to the 
full extent allowed by the U.S. Constitution. Nexus exists in New 
Mexico when a corporation transacts business in or into New Mexico or 
has a corporate franchise in the state. In South Carolina, every C 
corporation doing business in the state is subject to the corporate 
income tax. ``Doing business'' is defined as the operation of any 
business enterprise or activity in South Carolina for economic gain. 
Maryland, South Carolina, and New Mexico have successfully defended 
their economic presence nexus standard against Commerce Clause 
challenges in their state court systems; the United States Supreme 
Court has denied review of the Maryland and South Carolina cases. HR 
3220 would statutorily overrule both the state tax statutes in these 
states and the judicial decisions that have sustained the statutes 
against constitutional challenge. Congress should respect the 
considered judgment of state legislatures and courts and not impose 
such an ill-advised jurisdictional requirement on the states.

                        VI.  Possible Solutions

    In context, HR 3220 is an overreaching proposal that seeks to 
resolve an issue absent consideration of fact, analysis, or current 
law. While businesses have provided several limited examples of 
controversy with state revenue departments, revenue commissioners have 
reported few current instances of taxpayer complaints relating to 
assessment of business activity taxes. Regardless of the perceived 
extent of the problem, finding a solution to the problem-if one is 
needed-is a matter best left to states and businesses themselves.
    There is ample recent history of states and businesses working 
together to find solutions to tax and non-tax issues. In 2001, states, 
local governments, and the telecommunications industry successfully 
completed negotiations to formulate sourcing rules for mobile 
telecommunications services. These rules have now been adopted by more 
than 30 states and ratified by Congress. Similarly, states, local 
governments, and businesses are in the midst of a multi-year 
cooperative effort to modernize, streamline, and simplify state and 
local sales tax laws as a part of the Streamlined Sales Tax Project. 
Once completed, this effort will result in administrative cost savings 
to both sellers and states and provide a mechanism to insure a level 
playing field among all sellers in the marketplace. Similarly, 
rulemaking-on tax and non-tax issues--undertaken by states involves 
substantial input and consultation with the business community.
    The sourcing and sales tax projects are examples of specialized, 
highly technical areas of state tax law that challenged states and 
businesses in negotiating solutions that resulted in fairness and 
equity to all parties. Any attempt to revise current state business 
activity tax laws commands the same consideration. As business 
operations evolve and recognizing the needs of both states and the 
business community for continual refinement in the business activity 
tax area, the Commission has already developed a proposal for 
consideration. In 2002, the Commission adopted Policy Statement 02-02, 
which sets forth the Commission's views on the economic presence 
standard for imposition of business activity taxes. Policy Statement 
02-02 also includes the Commission's Factor Presence Nexus Standard for 
Business Activity Taxes, which bases a company's liability for business 
activity taxes on a threshold amount of a company's property, payroll, 
or sales in a state. The Factor Presence Standard is a fair, balanced 
approach to imposition of business activity taxes that provides equity 
between in-state and out-of-state businesses while eliminating 
instances of double taxation or instances where businesses may be 
assessed tax for minor amounts of presence in a state. This standard 
would also make it clear, readily apparent and certain to both 
companies and tax agencies when a company would have nexus with a 
state-thus producing greater equity and uniformity in the actual 
application of the tax law to different businesses. In addition, the 
Commission has offered to initiate discussions between states and 
businesses, the goal of which would be to find common ground on simple, 
clear, uniform nexus standard for business activity taxes. Thus far, 
the business community has been reluctant to engage in these 
discussions.
    Ultimately, a cooperative effort by both states and businesses-one 
that includes a thorough analysis of current business activity tax 
nexus statutes as well as controversies that have arisen between 
businesses and states-is the best method for maintaining viable state 
tax systems.
    We hope this information is helpful to the Subcommittee and its 
staff during its ongoing consideration of HR 3220. The Commission would 
welcome the opportunity to answer any questions that Subcommittee 
Members and staff may have.

                              ----------                              

  Prepared Statement of Martha E. Stark, Commissioner, New York City 
                         Department of Finance

    Mr. Chairman and members of the Committee, my name is Martha Stark 
and I am the Commissioner of Finance for the City of New York. On 
behalf of Mayor Michael R. Bloomberg, I want to express my strong 
opposition to H.R. 3220, the Business Activity Tax Simplification Act 
of 2003. This bill would cause New York City to lose as much as $100 
million a year in business tax revenue, undermining the fragile 
economic recovery that New Yorkers, with Washington's help, have worked 
so hard to achieve.
    The keys to New York's thriving business community are safe 
neighborhoods, well-maintained infrastructure, good schools and other 
essential services. By adopting a new, restrictive definition of what 
activities constitute nexus, H.R. 3220 would effectively limit the tax 
base of state and local governments to resident individuals and to 
businesses with a high level of physical presence in the jurisdiction 
beyond the level of contacts required by existing constitutional 
principles. If H.R. 3220 becomes law, the burden for providing those 
services through tax revenue would become greater not just for local 
corporations and mom-and-pop stores, but ultimately for every taxpayer 
in New York. That, in turn, would encourage those taxpayers either to 
leave the jurisdiction or resort to increasingly sophisticated tax 
avoidance schemes. States and the federal government would then have to 
devote increasing amounts of resources to fighting those schemes. 
Moreover, by protecting out-of-state businesses from taxation in many 
jurisdictions, HR 3220 would lead to a substantial increase in the 
amount of ``nowhere'' income earned by businesses - i.e., income not 
taxable by any jurisdiction.
    H.R. 3220 is based partly on the premise that taxing authorities 
are attempting to impose taxes on businesses that have a substantial 
nexus with the jurisdiction as required by the Constitution, but no 
physical contacts with the jurisdiction. In fact, this is not 
widespread and is certainly not the case in New York. Even where a 
substantial nexus is found to exist, constitutional principles require 
that the amount of an entity's income allocated to a taxing 
jurisdiction be proportionate to its activity there, resulting in a 
small tax liability for firms with only a limited presence in a 
jurisdiction. New York has actually adopted nexus safe-harbor rules in 
recent years permitting out-of-state businesses to engage in certain 
activity in the state, such as attending trade shows or having 
advertising appear on a server or website belonging to a third party, 
without incurring tax liabilities.
    Taxing jurisdictions are under ever-increasing pressure to attract 
or retain businesses. One way to do that is to lower the tax burden on 
traditional ``bricks and mortar'' businesses by giving greater weight 
in business income tax apportionment formulas to the location of a 
business' markets. To the extent those bricks and mortar businesses 
have markets outside the jurisdiction, their taxes would be lowered. 
Proponents of so-called market-state sourcing frequently point to the 
potential higher revenues generated for states where markets are 
located as offsetting the lost revenue from brick and mortar 
businesses.
    But this offset is only possible if jurisdictions are allowed to 
broaden the tax base by taxing out-of-state businesses that derive 
income from the jurisdiction's markets. Legislation such as HR 3220 
would move in the opposite direction by making it even harder to tax 
out-of-state businesses that come into a jurisdiction and derive 
profits from customers there.
    H.R. 3220 is also based on the premise that it simplifies taxation 
by providing a bright line test. Although multi-state businesses have 
to contend with the administrative burden of compliance in multiple 
taxing jurisdictions whose laws are not uniform, H.R. 3220 does not 
address those concerns by fostering consistency among state and local 
taxing schemes. It simply enables businesses to conduct a multi-state 
business tax-free in many jurisdictions. New York City and other 
jurisdictions have treated businesses without a physical presence very 
favorably. H.R. 3220 would disrupt the balance that New York City and 
others have achieved, tipping the scales in favor of businesses that 
reap substantial financial benefit from New Yorkers but do not 
physically locate within the City.
    Combined reporting - which treats a group of affiliated companies 
engaged in related economic activities as one taxpayer--is crucial to 
the ability of taxing jurisdictions to reflect correctly the income 
earned within their borders by affiliated companies with substantial 
inter-corporate transactions. Among other things, under H.R. 3220 the 
combination rules of New York and other combination states could become 
inoperative with regard to non-nexus corporations.
    Equally troubling, H.R. 3220 would allow businesses to engage in 
significant economic activities within a jurisdiction without 
triggering nexus. Among these activities are:

          Conducting business through an agent in a taxing 
        jurisdiction as long as the agent acts for at least two 
        principals. The principals and agent can be related and any 
        pricing between them may not be at arm's length. Taxing 
        jurisdictions would be limited to forcing an adjustment to the 
        inter-company prices among the parties;

          The presence in a taxing jurisdiction of the 
        inventory of an out-of-state seller of tangible personal 
        property being manufactured by a third-party contractor; and

    Any other profit-making activity conducted for 21 days or less 
(other than performances or sporting events before audiences of more 
than 100) regardless of the amount of profit either in absolute terms 
or in relation to other income of the entity. H.R. 3220 would reverse 
the progress that has been made to enhance interstate tax fairness 
through such recent efforts as the Mobile Telecommunications Sourcing 
Act of 2000 (MTSA). This law was created to provide for the equitable 
interstate tax treatment of wireless telecommunications services in an 
era of deregulation. The MTSA recognized the diminishing importance of 
physical location in the global marketplace. If enacted, H.R. 3220 
would prevent New York City and other localities from properly 
implementing the MTSA.
    National projects, such as the Streamlined Sales Tax Project and 
the MTSA, are the product of government and private sector cooperation. 
As such, they more effectively address issues of inconsistent taxation 
of multi-state businesses, while recognizing that the tax burden should 
be fairly borne by both the bricks and mortar businesses and out-of-
state businesses serving the same customer base. In contrast, no state 
and local taxing authorities were consulted in the development or 
drafting of H.R. 3220.
    H.R. 3220 would have a damaging impact on New York City and other 
jurisdictions. At a time when the nature of commerce continues to 
evolve, taxing jurisdictions need the flexibility to modify their laws 
and rules, as constitutionally allowed, so that they can properly and 
fairly capture the activity that occurs. Even without this bill, taxing 
jurisdictions are struggling to keep up with economic developments in 
order to maintain vital services.
    For these reasons, the restrictions imposed by H.R. 3220 are not 
needed. Moreover, the bill would weaken the ability of taxing 
jurisdictions to adjust to the growing national trends of Internet and 
interstate commerce. With more firms conducting business online or in 
multiple states, we need laws to allow taxing jurisdictions to catch up 
to business trends, not fall further behind. H.R. 3220 would be a huge 
step in the wrong direction. I urge this committee to reject H.R. 3220.
    Thank you.

                                 
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