[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]


 
            BUSINESS ACTIVITY TAX SIMPLIFICATION ACT OF 2011

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

                                HEARING

                               BEFORE THE

                   SUBCOMMITTEE ON COURTS, COMMERCIAL
                         AND ADMINISTRATIVE LAW

                                 OF THE

                       COMMITTEE ON THE JUDICIARY
                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED TWELFTH CONGRESS

                             FIRST SESSION

                                   ON

                               H.R. 1439

                               __________

                             APRIL 13, 2011

                               __________

                           Serial No. 112-41

                               __________

         Printed for the use of the Committee on the Judiciary


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



                  U.S. GOVERNMENT PRINTING OFFICE
65-745                    WASHINGTON : 2011
-----------------------------------------------------------------------
For sale by the Superintendent of Documents, U.S. Government Printing Office, 
http://bookstore.gpo.gov. For more information, contact the GPO Customer Contact Center, U.S. Government Printing Office. Phone 202ï¿½09512ï¿½091800, or 866ï¿½09512ï¿½091800 (toll-free). E-mail, [email protected].  

                       COMMITTEE ON THE JUDICIARY

                      LAMAR SMITH, Texas, Chairman
F. JAMES SENSENBRENNER, Jr.,         JOHN CONYERS, Jr., Michigan
    Wisconsin                        HOWARD L. BERMAN, California
HOWARD COBLE, North Carolina         JERROLD NADLER, New York
ELTON GALLEGLY, California           ROBERT C. ``BOBBY'' SCOTT, 
BOB GOODLATTE, Virginia                  Virginia
DANIEL E. LUNGREN, California        MELVIN L. WATT, North Carolina
STEVE CHABOT, Ohio                   ZOE LOFGREN, California
DARRELL E. ISSA, California          SHEILA JACKSON LEE, Texas
MIKE PENCE, Indiana                  MAXINE WATERS, California
J. RANDY FORBES, Virginia            STEVE COHEN, Tennessee
STEVE KING, Iowa                     HENRY C. ``HANK'' JOHNSON, Jr.,
TRENT FRANKS, Arizona                  Georgia
LOUIE GOHMERT, Texas                 PEDRO R. PIERLUISI, Puerto Rico
JIM JORDAN, Ohio                     MIKE QUIGLEY, Illinois
TED POE, Texas                       JUDY CHU, California
JASON CHAFFETZ, Utah                 TED DEUTCH, Florida
TIM GRIFFIN, Arkansas                LINDA T. SANCHEZ, California
TOM MARINO, Pennsylvania             DEBBIE WASSERMAN SCHULTZ, Florida
TREY GOWDY, South Carolina
DENNIS ROSS, Florida
SANDY ADAMS, Florida
BEN QUAYLE, Arizona
[Vacant]

      Sean McLaughlin, Majority Chief of Staff and General Counsel
       Perry Apelbaum, Minority Staff Director and Chief Counsel
                                 ------                                

       Subcommittee on Courts, Commercial and Administrative Law

                 HOWARD COBLE, North Carolina, Chairman

               TREY GOWDY, South Carolina, Vice-Chairman

ELTON GALLEGLY, California           STEVE COHEN, Tennessee
TRENT FRANKS, Arizona                HENRY C. ``HANK'' JOHNSON, Jr.,
DENNIS ROSS, Florida                   Georgia
[Vacant]                             MELVIN L. WATT, North Carolina
                                     MIKE QUIGLEY, Illinois

                      Daniel Flores, Chief Counsel

                      James Park, Minority Counsel


                            C O N T E N T S

                              ----------                              

                             APRIL 13, 2011

                                                                   Page

                                THE BILL

H.R. 1439, the ``Business Activity Tax Simplification Act of 
  2011''.........................................................    13

                           OPENING STATEMENTS

The Honorable Howard Coble, a Representative in Congress from the 
  State of North Carolina, and Chairman, Subcommittee on Courts, 
  Commercial and Administrative Law..............................    11
The Honorable Steve Cohen, a Representative in Congress from the 
  State of Tennessee, and Ranking Member, Subcommittee on Courts, 
  Commercial and Administrative Law..............................    23
The Honorable John Conyers, Jr., a Representative in Congress 
  from the State of Michigan, and Ranking Member, Committee on 
  the Judiciary..................................................    24

                               WITNESSES

The Honorable Bob Goodlatte, a Representative in Congress from 
  the State of Virginia
  Oral Testimony.................................................     1
  Prepared Statement.............................................     4
The Honorable Robert C. ``Bobby'' Scott, a Representative in 
  Congress from the State of Virginia
  Oral Testimony.................................................     6
  Prepared Statement.............................................     7
Corey Schroeder, Vice President and CFO, Outdoor Living Brands, 
  Inc. (Richmond, VA), on behalf of the International Franchise 
  Association
  Oral Testimony.................................................    26
  Prepared Statement.............................................    28
R. Bruce Johnson, Chairman, Utah State Tax Commission (Salt Lake 
  City, UT), on behalf of the Federation of Tax Administrators
  Oral Testimony.................................................    37
  Prepared Statement.............................................    39
Joseph Henchman, Tax Counsel and Director of State Projects, The 
  Tax Foundation (Washington, DC)
  Oral Testimony.................................................    50
  Prepared Statement.............................................    52

                                APPENDIX
               Material Submitted for the Hearing Record

Prepared Statement of the American Bankers Association...........    68
Letter from Bill Himpler, Executive Vice President, American 
  Financial Services Association (AFSA)..........................    72
Prepared Statement of the American Homeowners Grassroots Alliance    73
Letter from Senator Jim Buck, Indiana, Public Sector Chairman, 
  Tax and Fiscal Policy Task Force, and Jonathan Williams, 
  Director, Tax and Fiscal Policy Task Force, American 
  Legislative Exchange Council...................................    76
Prepared Statement of the American Trucking Association..........    77
Prepared Statement of Mark Louchheim, President, Bobrick Washroom 
  Equipment, Inc., North Hollywood, CA, on behalf of the National 
  Association of Manufacturers...................................    83
Letter from Arthur R. Rosen, McDermott Will & Emergy LLP, 
  Counsel, the Coalition for Rational and Fair Taxation..........    88
Prepared Statement of the Computing Technology Industry 
  Association (CompTIA)..........................................   105
Prepared Statement of Michael Petricone, Senior Vice President, 
  Government Affairs, Consumer Electronics Association...........   113
Letter from Joseph R. Crosby, COO & Senior Director, Policy, 
  Council On State Taxation (COST)...............................   115
Letter of Support from Mark B. Wieser, Founder and Chairman, 
  Fischer & Wieser Specialty Foods, Inc..........................   119
Prepared Statement of David Rolston, President and CEO, Hatco 
  Corporation, on behalf of the North American Association of 
  Food Equipment Manufacturers (NAFEM)...........................   127
Prepared Statement of Ivan Petric, Vice-President, Hope Trucking, 
  Inc............................................................   130
Prepared Statement of the National Association for the Specialty 
  Food Trade, Inc. (NASFT).......................................   134
Prepared Statement of the National Foreign Trade Council, Inc. 
  (NFTC).........................................................   137
Letter from Rebecca Boenigk, CEO & Chairman, Neutral Posture.....   139
Prepared Statement of the New York Bankers Association (NYBA)....   141
Prepared Statement of the Organization for International 
  Investment (OFII)..............................................   143
Prepared Statement of Kathryn Wylde, President & CEO, Partnership 
  for New York City..............................................   148
Letter and Article from Marjorie B. Gell, Associate Professor, 
  The Thomas Cooley Law School...................................   150
Prepared Statement of Carey J. (Bo) Horne, Past President, and 
  Katherine S. Horne, Past Vice President, ProHelp Systems, Inc..   154
Letter from Joan Maxwell, President, Regular Marine, Inc.........   168
Prepared Statement of the Securities Industry and Financial 
  Markets Association (SIFMA)....................................   170
Prepared Statement of Vernon T. Turner, Vice President, Corporate 
  Tax, Smithfield Foods, Inc.....................................   171
Prepared Statement of the Software Finance & Tax Executives 
  Council (SoFTEC)...............................................   174
Material from Carley A. Roberts, Chair, Taxation Section, The 
  State Bar of California........................................   178
Letter from Scott George, Chief Executive Officer, Tennessee 
  Commercial Warehouse (TCW).....................................   198
Letter from Rebecca J. Paulsen, Vice President, State Tax, U.S. 
  Bancorp........................................................   199
Prepared Statement of the United States Council for International 
  Business (USCIB)...............................................   203


            BUSINESS ACTIVITY TAX SIMPLIFICATION ACT OF 2011

                              ----------                              


                       WEDNESDAY, APRIL 13, 2011

              House of Representatives,    
                    Subcommittee on Courts,
                 Commercial and Administrative Law,
                                Committee on the Judiciary,
                                                    Washington, DC.

    The Subcommittee met, pursuant to call, at 1:34 p.m., in 
room 2141, Rayburn Office Building, the Honorable Howard Coble 
(Chairman of the Subcommittee) presiding.
    Present: Representatives Coble, Gowdy, Gallegly, Franks, 
Cohen, Watt, Quigley and Conyers.
    Staff present: (Majority) Travis Norton, Counsel; John 
Hilton, Counsel; John Mautz, Counsel; Allison Rose, 
Professional Staff Member; Ashley Lewis, Clerk; (Minority) 
James Park, Subcommittee Chief Counsel; Norberto Salinas, 
Counsel; and Ann Woods Hawks, Professional Staff Member.
    Mr. Coble. The Subcommittee will come to order.
    We have two panels today. The first includes two long time 
friends from the--from my neighbor to the north, Virginia, 
Representative Bob Goodlatte who represents the Roanoke area, 
and the Valley, I presume, Bob. And Representative Bobby Scott 
who represents the Tidewater area, primarily. Good to have both 
of you here.
    I know Mr. Goodlatte--good to see you, Mr. Cohen.
    Mr. Cohen. Good to be seen.
    Mr. Coble. Mr. Goodlatte I know has embraced this along 
with Representative Boucher when he was here, and now Mr. Scott 
has taken up the case so we have two formidable allies before 
us. We will be glad to recognize each one of you for 5 minutes, 
if possible.
    Mr. Goodlatte, we'll start with you.

 TESTIMONY OF THE HONORABLE BOB GOODLATTE, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF VIRGINIA

    Mr. Goodlatte. Mr. Chairman, thank you very much and 
Ranking Member Cohen and Members of the Subcommittee. I 
appreciate being invited to testify today about the ``Business 
Activity Tax Simplification Act'' which I introduced with my 
friend and Virginia colleague, Representative Scott.
    This legislation will provide a ``bright line'' test to 
clarify state and local authority to collect business activity 
taxes from out of state entities. Many states and some local 
governments levy corporate income, franchise and other taxes on 
out-of-state companies that conduct business activities within 
their jurisdictions. While providing revenue for states, these 
taxes also serve to pay for the privilege of doing business in 
a state.
    However, with the growth of the Internet, companies are 
increasingly able to conduct transactions without the 
constraint of geopolitical boundaries. The growth of the 
technology industry, and interstate business-to-business and 
business-to-consumer transactions raise questions over where 
multistate companies should be required to pay corporate income 
and other business activity taxes.
    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 received no appreciable benefits from the taxing 
jurisdiction. This has led to unfairness and uncertainty, 
generated contentious, widespread litigation and hindered 
business expansion as businesses shy away from expanding their 
presence in other states for fear of exposure to unfair tax 
burdens.
    We need a basic, fair, bright line rule in this area. 
Previous actions by the Supreme Court and Congress have laid 
the groundwork for such a bright line rule. In the landmark 
case of Quill Corporation versus North Dakota, the Supreme 
Court declared that a state cannot impose a tax on an out-of-
state business unless that business has a ``substantial nexus'' 
with the taxing state. However, the Court did not define what 
constituted a ``substantial nexus'' for purposes of imposing 
business activity taxes.
    In addition, over 50 years ago Congress passed Public Law 
86272 which set clear, uniform standards for when states could 
and could not impose certain taxes on out-of-state businesses 
when the businesses activities in the state were nominal and 
only involved the solicitation of orders for sales of tangible 
property. However, the scope of Public Law 86272 only extended 
to activities related to tangible personal property. Our 
Nation's economy has changed dramatically over the last 50 
years and this outdated statute needs to be modernized.
    The Business Activity Tax Simplification Act updates the 
protections of Public Law 86272 to reflect the changing nature 
of our economy by expanding the scope of those protections from 
just tangible property to include intangible property and 
services.
    In addition, our legislation establishes a clear, uniform 
physical presence test such that an out-of-state company must 
have a physical presence in a state before the state can impose 
corporate net income taxes and other types of business activity 
taxes on that company.
    In our current challenging economic times, it is especially 
important to eliminate artificial government-imposed barriers 
to small businesses. Small businesses are crucial to our 
economy and account for a significant majority of new product 
ideas and innovation. Small businesses are also central to the 
American dream of self-improvement and individual achievement 
which is why it is so vital that Congress enact legislation 
that reduces the excessive and often duplicative tax burdens 
that hinder small businesses and ultimately overall economic 
growth and job creation.
    Unfortunately small businesses are often the hardest hit 
when aggressive states and localities impose excessive tax 
burdens on out-of-state companies. These businesses do not have 
the resources to hire the teams of lawyers that many large 
corporations devote to tax compliance and they are more likely 
to halt expansion to avoid uncertain tax obligations and 
litigation expenses.
    The clarity that the Business Activity Tax Simplification 
Act will bring will ensure fairness, immunize litigation and 
create the kind of--minimize litigation and create the kind of 
legally certain and stable business climate that frees up funds 
for businesses of all sizes to make investments, expand 
interstate commerce, grow the economy and create new jobs.
    At the same time, and it's important to emphasize, this 
legislation will protect the ability of states to ensure that 
they are fairly compensated when they provide services to 
businesses that do have physical presences in the state. In 
addition, the legislation expressly protects the ability of 
states to use all tools at their disposal to aggressively 
combat illegal activities, sham transactions and other abuses.
    Thank you again for the opportunity to speak to the 
Committee today.
    [The prepared statement of Mr. Goodlatte follows:]

    
    
    
    
                               __________

    Mr. Coble. Thank you, Mr. Goodlatte.
    And Mr. Scott, if you will suspend just a moment. The Chair 
wants to recognize the presence of Dan Freeman who served a 
long time as parliamentarian for the House Judiciary Committee. 
Good to have you with us, Dan.
    And now I'm pleased to recognize the distinguished--the 
other distinguished gentleman from Virginia, Mr. Bobby Scott.

    TESTIMONY OF THE HONORABLE ROBERT C. ``BOBBY'' SCOTT, A 
     REPRESENTATIVE IN CONGRESS FROM THE STATE OF VIRGINIA

    Mr. Scott. Thank you, Chairman Coble, Ranking Member Cohen, 
Chairman--former Chairman Conyers and other Members of the 
Committee.
    I appreciate your holding today's hearing on the Business 
Activity Tax Simplification Act introduced by my colleague from 
Virginia, Bob Goodlatte and for providing me the opportunity to 
testify in support of the legislation.
    Business Activity Simplification Act or BATSA has attracted 
strong bipartisan support over the last several Congresses and 
I expect this version to attract the same amount of support.
    BATSA seeks to update a 50-year-old Federal statute that 
determines when states can impose state income taxes on the 
sale of tangible personal good in the state--over the years 
states have adopted a series of business activity taxes that 
are proxies for state income tax, including gross receipts 
taxes, licensing arrangements and other changes--and other 
charges that states frequently seek to impose on out-of-state 
companies.
    Some states have enacted overly aggressive and often unfair 
business activity taxes. Businesses in my state have been 
acutely affected by these aggressive business activity taxes. 
Smithfield Foods, located in Congressman Forbes' district, has 
had its trucks threatened with confiscation by New Jersey tax 
revenue agents simply for driving down the New Jersey Turnpike. 
Virginia based Capital One has joined other financial 
institutions in becoming easy prey for other states and 
localities seeking to increase their tax revenues by targeting 
out-of-state businesses. Other sectors of the Virginia economy, 
such as manufacturing, information technology, franchising, 
media industries all have been targeted with overly aggressive 
business activity taxes in other states.
    There is an urgent need to modernize this decades-old law. 
BATSA would clarify the standard governing state assessment of 
corporate income taxes and comparable taxes on businesses. 
Specifically, the bill will articulate a ``bright line'' 
physical presence nexus standard that includes either owning or 
leasing real or tangible property in the state or assigning one 
or more employees to perform certain activities in the state 
for more than 15 days in a taxable year.
    No one is arguing that the business should not be 
responsible for paying taxes where they do business. However, 
BATSA would ensure fairness, minimize costly litigation for 
both state governments and taxpayers, reduce the likelihood of 
a business being double taxed on the same income, and create 
the kind of legal certainty and stability for business 
environment that encourages businesses to make investments, 
expand interstate commerce and create new jobs.
    More importantly, the bill would unsure that businesses 
continue to pay business activity taxes to states that provide 
them with direct benefits and protections.
    I appreciate the Subcommittee's focus on this timely matter 
and look forward to working with you as we pass this important 
legislation, hopefully during this session of Congress.
    [The prepared statement of Mr. Scott follows:]

    
    
    
    
    
    
    
    
                               __________

    Mr. Coble. I thank each of you for being with us. We 
normally don't examine Members, so I assume does anyone have 
questions for the Members? We usually--gentleman from Illinois?
    Mr. Quigley. Just for a point of clarification, how would 
you two gentlemen distinguish most of the taxes you're talking 
about that, as you say, could be very burdensome just for 
driving down the New Jersey Turnpike, for example, and the much 
more controversial aspect of the transaction tax dealing with 
the Internet and how some states and local governments are 
reacting to the fact that their retailers are closing down 
because so much more of those sales are taking place on the 
Internet and the shortfall that it is creating?
    Mr. Goodlatte. Well, if the gentleman would allow? This 
legislation is neutral as between bricks and mortar entities 
and online entities. You'll find pretty much widespread 
business support from both groups.
    As you know, with relation to sales taxes online, there's a 
great division there between those who do business within an 
individual state and required by state law, because they do 
have that nexus with the state, and entities that operate from 
a greater distance.
    This does not address that issue in any way, shape or form. 
It would not limit the ability of the Congress to change the--
as you know, right now the Congress has never provided the 
necessary finding of nexus to allow a state to require a 
company in another state to collect sales taxes. They're left 
with having to try to collect that from the individual who owes 
the tax and that of course is a too burdensome way to collect 
it.
    Some of us have suggested that the states should work 
together to come up with a single definition of what is taxable 
and perhaps even a single interstate sales tax so that if 
you're a small business doing business online, you're not 
talking about having to know the tax in not just 50 states but 
thousands of sub-jurisdictions that have add on sales taxes. So 
that is a separate, complicated issue and is not addressed 
here.
    Mr. Quigley. Thank you. I yield back.
    Mr. Coble. Any other questions for the Members?
    Mr. Cohen?
    Mr. Cohen. Since we have two fine gentlemen from the 
Commonwealth, I'd like to ask you what you think Mr. Jefferson 
would think of this bill and why.
    Mr. Scott. He would think--I think he would like the bill. 
It's a fine piece---- [Laughter.]
    Mr. Cohen. Great answer.
    Mr. Coble. Mr. Cohen, you asked for that one.
    Gentlemen, good to have both of you with us.
    Trey, did you have any questions?
    Mr. Gowdy. No, sir, Mr. Chairman.
    Mr. Coble. You're excused, gentlemen. Good to be--good to 
have you with us.
    I'll give my opening statement and then I'll recognize Mr. 
Cohen and Mr. Conyers after that and then we'll proceed with 
our other panel.
    Benjamin Franklin once remarked that nothing is certain in 
this world except death and taxes. But while taxes are 
necessary to fund the essential government operations, they 
should not be imposed arbitrarily or unfairly, especially on 
America's small businesses which create the majority of jobs in 
this country.
    The Dormant Commerce Clause prohibits states from imposing 
taxes on entities that lack a substantial nexus to the taxing 
state. In the 1922--strike that. In the 1992 Quill decision, 
the Supreme Court held that a state could not impose a sales or 
use tax on a business that was not physically present in the 
taxing state. Since then some courts have held that the 
physical presence standard does not apply to the imposition of 
net income or other business activity taxes.
    As a result, each state's standard for what constitutes 
substantial nexus for net income taxes varies. Some states like 
Texas and Tennessee hold that the physical presence standard 
applies, but the majority of states allow taxation of net 
income if there is merely an economic nexus between the state 
and the taxpayer.
    Some businesses are thus faced with a lose/lose situation. 
They may hire expensive accountants and tax attorneys to 
decipher the tax laws of the states in which they transact 
business to determine whether they have tax liability, but most 
small businesses lack the resources to do this. Those that do 
find such resources pass the cost on to the consumers in the 
form of higher priced goods and services. Our small businesses 
can reasonably conclude that they are not liable to pay taxes 
in a state because they transact only very limited business 
there, but under this approach, if a state later concludes that 
taxes should have been paid, the business will owe--likely will 
owe penalties in addition to back taxes.
    In my opinion, there's a substantial need for a clear rule 
for what a state may impose in net income or other business 
activity tax. H.R. 1439, the Business Activity Tax 
Simplification Act of 2011, does just that. It clarifies that a 
state may not impose such a tax on a business that lacks 
physical presence in the state.
    BATSA also updates a law Congress passed in 1959 which 
prohibits states from taxing businesses merely because they 
employ salesmen who travel to the states selling tangible 
goods. That was 52 years ago. In the modern American economy 
services and intangible goods play a significant and larger 
role than they did in 1959. There's no good reason, it seems to 
me, to discriminate between tangible and intangible goods in 
this regard, so we ought to update that law.
    It is important to note that BATSA does not require states 
or localities to reduce their taxes, rather it gives small 
businesses some certainty about their tax liability so they can 
adequately budget their resources, and to the extent possible, 
create more jobs.
    This is not the first time this Committee has considered 
BATSA, but state taxation is an important issue and I am 
pleased to take it up once again.
    Again, we thank Mr. Goodlatte and Mr. Scott for having been 
with us. And I am now pleased to recognize the distinguished 
gentleman from Tennessee, Mr. Steve Cohen, the Ranking Member.
    [The bill, H.R. 1439, follows:]

    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
                               __________

    Mr. Cohen. Thank you, Mr. Chairman. Three years ago the 
subcommittee on Commercial and Administrative law held a 
hearing on legislation substantially similar to this bill, H.R. 
1439, the ``Business Activity Tax Simplification Act of 2011.'' 
At that time I noted the issues that BATSA was trying to 
address were complex ones. What should be the proper scope of a 
state's authority to impose a corporate income tax or other 
similar tax on a particular company based on the company's 
business activity in that state? What role should Congress play 
in defining that scope? And those were the primary issues.
    The constitution requires a sufficient nexus to exist 
between a state and a business' in-state activity in order for 
that state to be able to tax that business. The Supreme Court, 
however, has been ambiguous as to what that nexus is in the 
business activity tax context.
    In 2008 I heard what I thought were some valid concerns 
expressed about the adoption of a physical presence standard as 
the only determinative of whether a given business had 
sufficient nexus with a state for business activity tax 
purposes. I also called upon interested stakeholders to use the 
bill's introduction as an opportunity to reach a consensus on a 
clear and uniform national standard for state taxation of 
business activity. Unfortunately that does not seem to be what 
has occurred in the intervening time. So here we are.
    I agree with proponents of H.R. 1439 that a uniform 
national standard that determines when a state can tax business 
activity will provide useful clarity and reduce the cost of 
doing business. But by expanding the limitations on taxable 
business activity under Federal law, and by once again adopting 
physical presence in a state as the sole basis for what a state 
tax business activity, I am concerned that H.R. 1439, if 
enacted would cost states to potentially lose billions of 
dollars in tax revenue that they should be entitled to. This 
revenue loss in turn threatens to undermine critical state and 
local government services and adversely impact employees.
    The physical presence standard concerns me, because it 
appears to be too restrictive, does not fully capture business 
activity that a state legitimately, constantly should be able 
to tax. Adoption of the physical presence standard threatens to 
prohibit taxation of activities that currently states can tax.
    The standard limits the scope of a state's authority to 
impose a corporate income tax or other business activity in one 
of three situations. Where business is physically present in 
the state or is assigned one or more employees in the state. 
Secondly, where the business uses the service of an agent to 
establish or maintain the market in a state. Or, the business 
leases or owns tangible personal or real property in the state 
during the relevant tax year.
    I fear that this narrowly crafted standard allows 
businesses simply to game the system, by for example, making 
all employees independent contractors or allowing banks to 
conduct online businesses in all states while avoiding taxes on 
such activity, because they lack tangible property in most 
states.
    I feel like a TV show with background action. It's very 
difficult.
    Worse yet, according to a Congressional Budget Office cost 
estimate prepared in 2006 for an earlier, but substantially 
similar version of BATSA, the act would concentrate 70 percent 
of revenue losses in just ten states. One of those states would 
be Michigan, home of the Wolverines. Another would be Texas. 
Whatever. And the other is Tennessee, that matters.
    I noted that at least one alternative to physical presence 
as a uniform standard has been proposed by the Multistate Tax 
Commission. I do not take a view on the merits of that 
alternative proposal. I simply note that--and reiterate my 
point from 3 years ago, which is that while uniform standard of 
business activity taxes and the clarity and certainty it 
provides are valuable, that uniform standard must be one that 
is fair to all who would be impacted. H.R. 1439 does not appear 
to meet that goal.
    With that, I yield back the remainder of my time.
    Mr. Coble. And I apologize to you, Mr. Cohen, for having 
talked behind your back. We had to get some preliminaries out 
of the way.
    Mr. Cohen. It was the physical dance I had to do which was 
more difficult---- [Laughter.]
    But there was the challenge, and I appreciate rising to 
their----
    Mr. Gowdy. Physical presence.
    Mr. Cohen [continuing]. Right, it was physical presence.
    Mr. Coble. The distinguished gentleman from South Carolina 
has no opening statement.
    Mr. Conyers, the distinguished gentleman from Michigan is 
recognized for 5 minutes.
    Mr. Conyers. Thank you, Chairman Coble.
    Ladies and gentleman, imposing a physical presence standard 
would drastically alter the taxing landscape as we know it. 
With respect to past legislation similar to this, surveys have 
estimated that lost state tax revenues might be as high as $8 
billion in the first year following enactment, and that was an 
estimate from several years ago. The impact might be even more 
damaging now.
    If this legislation has a similar negative impact on the 
states I wonder how any of us can support it. The states are 
already getting Federal budget cuts all over the place and now 
we want to make sure that we increase the stress and the dire 
circumstances that they find themselves in. This is legislation 
that might possibly eviscerate some state revenues. We would, 
in effect, be turning our back once again on state governments. 
We would be forcing state governments to eliminate valuable 
governmental programs and services and furlough dedicated 
government workers, some are already doing it. We should 
shudder at the impact of a potential loss of $8 billion on top 
of the lost tax revenue base the states have suffered in the 
last few years.
    I don't know if there is support enough to pass a 
legislative measure which would undercut states' abilities to 
tax activity within its borders. In this case, Congress should 
not step in and impose a damaging physical presence standard 
for activities which a state may have the constitutional right 
already to tax.
    An $8 billion loss to the states which have already 
suffered extensively during this economic downturn, would 
further hamper economic--the economic rebound that people keep 
looking and hoping and praying will occur. And when you 
consider the Federal cuts to state and local assistance, which 
the Ryan budget will obviously lead to, our state and local 
governments would be suffering, in my view unnecessarily, for 
years to come.
    So while Congress must ensure that the states do not burden 
interstate commerce through their taxing authority, the 
authority of states to tax activity within their borders must 
be respected. Why not? And unfortunately the proposal that we 
are examining does not seem to balance these competing 
interests.
    And with that, Chairman Coble, I return any unused time.
    Mr. Coble. I thank the gentleman.
    I am told that there will be an imminent vote on the floor 
in a matter of minutes, but we will go ahead and start.
    I will invite the witnesses, if they will assume their 
seated position at the table and I will introduce the 
witnesses.
    We have a very favorable group of three panelists who will 
be us today.
    Mr. Corey L. Schroeder is vice president and chief 
financial officer of Outdoor Living Brands, a multi-brand 
franchise company dedicated to products and services within the 
outdoor living market. As VP and CFO of Outdoor Living Brands, 
Mr. Schroeder is responsible for the financial reporting and 
management of the business overseeing franchise compliance 
matters and working to support the strategic direction of the 
company.
    Prior to the formation of Outdoor Living Brands, Mr. 
Schroeder served as vice president and CFO of U.S. Structures, 
Inc., also a franchise company.
    Mr. Schroeder holds a bachelors degree in business 
administration with a concentration in finance from the 
University of Richmond and a masters degree in accounting from 
the College of William and Mary. He also holds a designation of 
chartered financial analyst.
    Our second witness is Mr. Bruce Johnson who is the Utah 
governor--in 2009 Utah Governor Gary Herbert appointed Bruce 
Johnson to serve as chairman of the Utah State Tax Commission. 
He has been a commissioner since 1998. The Tax Commission has 
the constitutional duties to administer all--and supervise all 
the tax laws of the state, including property tax, income tax, 
franchise tax, sales tax and all miscellaneous taxes.
    Prior to his appointment, Mr. Johnson litigated numerous 
tax disputes as a private attorney and as a trial attorney for 
the Tax Division of the United States Department of Justice.
    He's a CPA and holds a degree in accounting from the 
University of Utah. Mr. Johnson also served on numerous boards 
and testified before legislative bodies. He was, as well, the 
founding national co-chair of the Streamlined Sales Tax 
Project.
    Our final witness today, Mr. Joseph Henchman. Mr. Henchman 
is a tax counsel and director of state projects at the Tax 
Foundation a nonprofit organization dedicated to educating 
taxpayers about all aspects of tax policy. He joined the Tax 
Foundation in 2005.
    Mr. Henchman's analysis of fiscal trends, constitutional 
issues and tax law developments has been featured in numerous 
print and electronic media, including The New York Times, The 
Wall Street Journal, CNN and Fortune magazine.
    Of particular relevance to this hearing, in 2007 Mr. 
Henchman published an article in a popular state sales 
periodical entitled, ``Why the Quill Physical Presence Standard 
Should Not Go Away--Should Not Go the Way of Personal 
Jurisdiction.''
    Mr. Henchman was graduated from the University of 
California at Berkley with a degree in political science and a 
law degree from the George Washington University.
    Gentlemen, good to have you with us. We operate on a 5-
minute rule, gentlemen. The panel before you, the green light 
will expire at the conclusion of 4 minutes. And you will see an 
amber light then which is your notice to--if you can start 
wrapping up at that time we would be appreciative. And we try 
to apply that 5 minute rule to us as well on this side of the 
podium.
    Mr. Schroeder, why don't you start us off?

 TESTIMONY OF COREY SCHROEDER, VICE PRESIDENT AND CFO, OUTDOOR 
     LIVING BRANDS, INC. (RICHMOND, VA), ON BEHALF OF THE 
              INTERNATIONAL FRANCHISE ASSOCIATION

    Mr. Coble. Mr. Schroeder, I know either your mic is not on 
or is not close to you.
    Mr. Schroeder. How is that?
    Mr. Coble. That's better.
    Mr. Schroeder. Thank you. Thank you again for providing me 
the opportunity to voice my support for the Business Activity 
Tax Simplification Act of 2011. And thank you also to 
Congressmen Scott and Goodlatte, from my home state of 
Virginia, for introducing the bill.
    I'm speaking today on behalf of Outdoor Living Brands 
located in Richmond, Virginia. We currently operate three 
franchise brands with 181 locations in 34 states and have 28 
employees.
    I'm also here today on behalf of the International 
Franchise Association, the largest and oldest franchising trade 
group representing more than 90 industries, more than 13,000 
members nationwide. And according to a study done for the IFA 
by Price Waterhouse Coopers, there are over 825,000 franchise 
businesses across 300 different business lines providing nearly 
18 million American jobs and generating over $2.1 trillion for 
the American economy.
    The Business Activity Simplification Act of 2011 addresses 
a significant issue within the franchise community relating to 
state income tax reporting. Franchise businesses face a very 
confusing and ever changing set of rules regarding the 
obligation to file state corporate income taxes. The primary 
issue is the different and changing definitions of nexus to 
establish--established with various states for our business 
activities.
    Once nexus is established we must begin filing state 
corporate income tax returns for that portion of our revenue 
that we generate from that state. Like Outdoor Living Brands, 
most franchisors do not own any real property in the states 
which our--in which our franchisees operate. We only have, in 
my case, a physical presence in the State of Virginia.
    However, central to the concept of our business in 
franchising is the relationship with our franchisees and 
primarily our shared trade identity of our brand. We license 
that trade identity and that intellectual property and business 
plan to local entrepreneurs, as well as support them in growing 
and building their business and providing jobs in their local 
markets and their various states.
    Many states, however, now are concluding that the very 
existence of our brand and our intellectual property or even 
the physical existence of our training manuals in their states 
is establishing nexus. And I understand the desire for states, 
in this fiscal environment, to need to generate and want to 
generate revenue from out-of-state businesses, however, the 
local outcome of this view on nexus, for a company like Outdoor 
Living Brands, is that we would file 34 different state tax 
returns and less than 10 percent of our revenue would be taxed 
in the state of Virginia where we operate.
    Franchising is already a very heavily regulated business 
model and my small firm spends close to $100,000 a year in 
legal, accounting and tax advisory fees. It does not--that does 
not include the time of myself or the folks on my team, and 
these are precious resources that we would like to be using to 
help grow our franchisees and our businesses.
    Currently my firm files income taxes in six states. With 
various nexus and standard enforcement practices changing I 
expect the costs and administrative burden of this particular 
issue to continue to grow. My most recent experiences with it 
was with the State of South Carolina and Minnesota who both 
sent me business activity questionnaires. These lengthy 
questionnaires, to which I answered no to almost every activity 
described, were in the end determined that it was simply the 
existence of my franchise agreement and the royalty revenue 
derived in that state that required nexus and I had to file 
several years of past returns.
    One state in particular, South Carolina, a South Carolina 
revenue agent described for me how he found our business by 
creating a mass mailing list of franchise companies like mine, 
using a marketing website service that the franchising industry 
it commonly uses to sell franchises.
    As a franchisor I have very little visibility on what the 
nexus rules are in each state and when they change and why they 
change. And South Carolina's activity was based on a court case 
that happened in that state.
    Iowa just recently announced a similar change due to a 
court case. And I expect I will be getting a questionnaire from 
them and I will deal with them in--as the questionnaire comes 
up.
    And this raises the issue of managing this issue. For a 
small business like mine, managing this issue is rife with 
uncertainty created by this environment. I could proactively 
engage another tax advisor and have them go seek out all the 34 
states where I have franchisees and determine which ones would 
have nexus with me. I am sure that the states would gladly 
agree that I have nexus. And then I could pay that tax advisor 
even more to continue to fill out more and more tax returns in 
the various states.
    I could be passive, which is what I think most franchisors 
in my situation do, where we wait for the next franchise 
activity questionnaire to come in and we respond to it 
accordingly.
    To sum up, earlier in my career I worked in investment 
banking and I advised a number of private businesses in a lot 
of different industries with far broader business activities in 
different states than what we experience in franchising. And 
franchising is the only business I have come across where we 
face this level of complexity and this burden of state tax 
compliance.
    So, I hope this testimony has been helpful in illustrating 
the difficulty that franchise businesses face across the 
country related to this. And I hope we can work together to 
pass the Business Activity Simplification Act.
    Thank you.
    [The prepared statement of Mr. Schroeder follows:]

    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
                               __________

    Mr. Coble. Thank you, Mr. Schroeder.
    Mr. Johnson?

    TESTIMONY OF R. BRUCE JOHNSON, CHAIRMAN, UTAH STATE TAX 
COMMISSION (SALT LAKE CITY, UT), ON BEHALF OF THE FEDERATION OF 
                       TAX ADMINISTRATORS

    Mr. Johnson. Chairman Coble, Vice Chairman Gowdy, Ranking 
Member Cohen and Members of the Committee, thank you for the 
opportunity to address this issue today. I am Bruce Johnson, 
chair of the Utah State Tax Commission. Today I am testifying 
on behalf of the Federation of Tax Administrators which is an 
association of tax administration agencies in each of the 50 
states, the District of Columbia and New York City.
    This is not a greedy states versus poor taxpayer bill. This 
is a bill about large multistate businesses versus small local 
businesses and how a state can allocate its tax base and its 
tax burden among the entities doing business in the state. That 
is what it is about. It is also a bill about Federal preemption 
of state sovereignty and when it is appropriate for the Federal 
Government to limit a state's sovereign power to raise its 
revenue as it sees fit through its local elected officials.
    We have already heard some discussion about the estimated 
revenue impact of this bill. The Congressional Budget Office 
said it would result in a $3 billion annual revenue loss, 
that's the 2005 predecessor of this bill. The NGA has 
substantially larger estimates. But that is not revenue that is 
going to go away, that is revenue that is going to be shifted 
if we can't tax the fair share of interstate businesses that do 
business in our state. That tax is going to be shifted to our 
local businesses and our local taxpayers. It is going to have a 
devastating impact on small business.
    The U.S. Supreme Court has held that a company meets the 
jurisdictional standard of substantial--or sufficient contacts 
if it is doing business in the state or otherwise engaged in 
establishing and maintaining a market in the state. This bill 
purports to establish a physical presence standard which has 
never been the law for income taxes or business activity taxes. 
But I suggest it is not even a physical presence standard. If 
you look at Public Law 86-272, which the proponents of the bill 
seek to expand, 86-272 allows a business to have permanent 
employees in a state, driving company cars on state roads, and 
as long as they are not engaged in activities other than the 
solicitation of sales, that physical presence has to be ignored 
and the state can't tax that business even though it clearly 
has physical presence there.
    This bill would seek to extend that preemption not only to 
the solicitation of sales of tangible personal property, but to 
the solicitation of services, to the solicitation of sales of 
intangible property, to the gathering of information in a 
state, to the furnishing of information to customers in the 
state. It would say that 15 days in the state is not physical 
presence. That may be a reasonable de minimis test for many 
taxpayers, but it also says if the activity of the business, 
the physical presence is for a limited or transient business 
purpose, it can be longer than 15 days.
    Now I don't know what a limited or transient business 
purpose is. And I don't see how that provides clarity to our 
taxpayers. In a multi-level company that manufacturers, 
distributes and retails, is a warehouse in the state just a 
limited purpose? It may well be under this law.
    Moreover, activities of subsidiaries can easily be ignored 
with a little bit of structuring. I had the privilege of 
representing taxpayers for over 17 years and I can tell you 
that under the provisions of this bill I could substantially 
reduce the tax obligations of many taxpayers in Utah that have 
a physical presence through the--merely by setting up a 
subsidiary, a toy company could--that has a 5-percent profit 
margin in the state could set up an intangible holding company 
in Delaware, charge a 2-percent royalty and cut its taxes in 
Utah by 40 percent even though it continued to have a store in 
Utah. It could set up a 3-percent royalty and cut its taxes by 
60 percent, even though it continued to have physical presence 
in Utah.
    I acknowledge the need for more clarity. This bill 
unfortunately is fatally flawed in many ways and I urge you to 
oppose the bill. Thank you.
    [The prepared statement of Mr. Johnson follows:]

    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    


                               __________
    Mr. Coble. Thank you, Mr. Johnson.
    Mr. Coble. Mr. Henchman?

TESTIMONY OF JOSEPH HENCHMAN, TAX COUNSEL AND DIRECTOR OF STATE 
         PROJECTS, THE TAX FOUNDATION (WASHINGTON, DC)

    Mr. Henchman. Thank you. Mr. Chairman, Ranking Member 
Cohen, Ranking Member Conyers and Members of the Subcommittee. 
I appreciate the opportunity to testify today on legislation 
pending before you on state tax actions that impact interstate 
commerce.
    Let's say you have a retired congressman, he hires a 
research assistant, he decides to write his memoirs. So he 
rents a little office in a business park in Virginia. He hires 
a research assistant, a Virginian. He buys some computers and 
some printers from a Virginia company. And every day for a year 
he sits in that Virginia office writing his memoirs. And at the 
end of the year he sells the finished manuscript to a New York 
publisher.
    Where did he earn that income? An economist will tell you 
that the congressman earned the income where he invested his 
capital and his labor, which is, in this case, Virginia. This 
is what is known as the ``benefit principle,'' the idea that 
the taxes people pay are linked to the government services they 
receive. In other words, individuals and businesses should pay 
taxes where they work and live and jurisdictions should not tax 
those who don't work and live there.
    While a physical presence rule for taxation is the norm in 
the international context and is the historical norm
    for state taxation here in the United States, we at the Tax 
Foundation have been monitoring increasingly aggressive state 
efforts to reject this rule so as to shift tax burdens away 
from residents toward non-residents.
    This is not entirely new. States have always had this 
incentive, to the detriment of the national economy. In fact in 
the time of the founding the use of tolls and taxes by states 
in this regard were a primary reason why we had the 
Constitutional Convention in the first place. And out of that 
convention it was decided that the free flow of goods and 
services is so important and it matters more than letting 
states tax certain types of transactions, that you, the 
Congress, have been empowered to preempt some state actions in 
that regard, for restraining the states from enacting laws that 
disrupt the national economy by discriminating against 
interstate commerce.
    It is not a power to use lightly, but it rests with you 
because states have no incentive to get together and resolve 
this on it own. On the contrary, each state thinks it can get a 
bigger share of the national tax pie by adopting an aggressive 
nexus standard. But these--this leaves us all poorer because 
all businesses, large and small, must deal with complex tax 
regulations, uncertainty about what activities create tax 
obligations in different states, lack of uniformity between 
different states in tax rules and formulas and generally 
wasting significant amounts of time, wealth and brain power 
navigating tax compliance rather than doing more productive 
things.
    These state actions deter new investment by domestic and 
foreign businesses who want no part of this quagmire and take 
their dollars and their jobs overseas. State spending 
overwhelming, if not exclusively, exists to benefit the people 
who live and work in the state. Education, health care, roads, 
police protection, the reasons states do these things is to 
benefit the residents. Residents should be willing to pay for 
these services that they demand. Instead, what we see are many 
states offering tax credits and waivers to select residents, 
businesses and individuals, while insisting on going off out-
of-state corporations that engage in sales in the state. This 
is backwards and it is a violation of good tax policy. A 
physical presence standard for business activity taxes would 
correct this and be in line with the benefit principle which is 
a fundamental view of taxation.
    As a country we have gone from the artisan to Amazon.com. 
But this sophistication of technological progress does not 
change the fact that state services are still based on physical 
geographic borders, so the tax system should be too.
    And state fiscal pain does not justify overruling timeless 
constitutional principles, such as the idea that states 
shouldn't be allowed to burden interstate commerce and impose 
uncertainty in the national economy.
    Sometimes small businesses call up my office, as I am sure 
they call up the other members of the panel, asking if I engage 
in activities in a state, what would create nexus. And the only 
reason answer I have for them is to send them this. This is 
BNA's annual survey of state tax actions. It is the 
questionnaire that Mr. Schroeder talked about where they ask I 
think it is over 100 questions of, would this activity create 
nexus, would this activity create nexus. This is--this should 
not be how we do our system. There has to be a better way.
    Thank you.
    [The prepared statement of Mr. Henchman follows:]

    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
                               __________

    Mr. Coble. Thank you, gentlemen for your testimony. We 
appreciate you being with us. We will now examine the 
witnesses.
    Mr. Schroeder, how has the uncertainty and lack of 
predictability concerning different states' nexus requirements 
affected your small business?
    Mr. Schroeder. Yeah. In my case it is simply a matter of 
management time and attention and as well as the cost and 
expense of trying to comply. We spend, as I mentioned, you 
know, over--almost a $100,000 a year in our already highly 
regulated business, and that is dollars and time and attention 
that is not spent on growing our business, launching new 
franchisees or developing new business concepts. And it is 
simply a matter of I don't know what the rules are, I probably 
could benefit from that and it would take even more of my time 
to figure out which of the 34 states I operate in I should be 
filing state tax returns in.
    Mr. Coble. Thank you, sir.
    Mr. Johnson, is it your position that states should be 
entitled to discriminate against a company based on whether it 
sells tangible goods or intangible goods and services?
    Mr. Johnson. That is certainly not my position, Mr. Chair. 
In fact that is imposed on us by Public Law 86-272. And again--
--
    Mr. Coble. Now we--Mr. Johnson, would you oppose 
modernizing Public Law 86-272?
    Mr. Johnson. Well, if a physical presence is what is 
sought, and I don't believe a physical presence test is 
appropriate, I don't believe we should go back to the way the 
last--business was conducted in the last century to impose 
taxes in the new century, but if you want a physical presence 
standard, you have to repeal 86-272, because 86-272 allows a 
physical presence and protects it from taxation, as long as the 
activities are limited to the solicitation of sales of tangible 
personal property.
    So if a physical presence is sought, then repeal of 86-272 
is required.
    Mr. Coble. Well I thank you, sir.
    Now Mr. Henchman, speaking of physical presence, why do you 
believe that a physical presence standard for net income and 
other business activity taxes is consistent with the holding of 
Quill? If you do believe that.
    Mr. Henchman. I do believe that. The Quill decision, of 
course, by its own terms was restricted to sales taxes. And as 
Congressman Goodlatte's answer to Representative Quigley 
earlier indicated, this bill does not address sales taxes one 
way or the other, because I know different people have 
different views on that. It just deals with business activity 
taxes and the view that the physical presence--and for me it 
just comes down to the basic economics as I said in my 
testimony. The residents of a state benefit from the services 
provided by a state. And to the extent a state is providing 
benefits to nonresidents, maybe they ought to be voted out of 
office because the reason you get elected to office is to 
provide benefits to your residents that vote for you. And those 
are the people that should be paying taxes to support those 
services.
    Mr. Coble. I thank you, gentlemen.
    The Chair recognizes the distinguished gentleman from 
Michigan. I yield back my time, by the way. Mr. Conyers is 
recognized for 5 minutes.
    Mr. Conyers. Thank you, Chairman Coble.
    Mr. Johnson, is--are there any tax avoidance opportunities 
that we ought to frankly talk about here? It has been said that 
we might create tax planning opportunities to eliminate tax--
state taxation revenues that are earned in a state. Can you 
amplify?
    Mr. Johnson. Yes. Thank you, Congressman.
    As I indicated, I practiced for 17 years representing 
businesses, many of them large businesses. And if this bill 
were passed in its current form it would be malpractice for me 
not to recommend a number of structuring techniques.
    One of the simplest would be to take the issue of a toy 
store, Toys R Us, for example. And I use that example because 
it is the subject of some well known litigation. For any 
retailer----
    Mr. Conyers. Does some of that litigation----
    Mr. Johnson [continuing]. Doing business in the state----
    Mr. Conyers. Does some of that litigation involve tax 
avoidance?
    Mr. Johnson. Yes, it does. By creating an intangible 
holding company and charging a royalty, then a company can 
essentially eliminate its profits in a state or reduce them 
dramatically by paying a royalty to a holding company in 
Delaware or offshore and deducting the royalty which can 
completely eliminate its profit margin in the state. That would 
be a simple example.
    Another example would be creating a--if I had a business 
that was selling software for payroll and software for accounts 
receivable, for example, and part of my business model was to 
be able to repair and install that software and say I got a 
third of my revenue from each of those things, I would simply 
create three different subsidiaries. The repair subsidiary 
would then become subject to Utah tax. I could structure the 
sales of the payroll subsidiary and the sales of the accounting 
subsidiary to be exempt from Utah tax. I could cut my Utah tax 
in--by two-thirds by the simple expedient of creating three 
separate subsidiaries.
    Mr. Conyers. Any Federal tax opportunities involved?
    Mr. Johnson. Well, the Federal tax--this same kind of 
planning goes on at the Federal level.
    Mr. Conyers. It could be local or Federal taxes?
    Mr. Johnson. Yes.
    Mr. Conyers. Okay.
    Mr. Johnson. But this would provide a blueprint for 
legitimized--and tax planning is something we recognize is 
legitimate.
    Mr. Conyers. Well----
    Mr. Johnson. A company has no moral obligation----
    Mr. Conyers [continuing]. Look, we just left the Wall 
Street debacle and there were some tax organizations that 
didn't do very well in those investigations.
    Mr. Johnson. There is definitely a line that can be 
crossed. But this would authorize many of these techniques.
    Mr. Conyers. Well, you have sufficiently disturbed me with 
this information.
    Thanks, Chairman.
    Mr. Coble. Thank you, Mr. Conyers.
    I say to my Members, we are going to have a vote here soon. 
I think we can probably wrap this up.
    I am now recognizing the distinguished gentleman from South 
Carolina.
    Mr. Gowdy. Thank you, Mr. Chairman.
    Mr. Coble. I almost demoted you, Trey.
    Mr. Gowdy. And California would never allow me to set foot 
in that state, Mr. Chairman, I don't think. I am sure I have 
warrants pending.
    Mr. Henchman, the substantial nexus test, how--what are the 
elements of it, how is it applied today?
    Mr. Henchman. It is laid out in the--for--in this case it 
is laid out in the bill and essentially--it is essentially 
property and payroll. And I do want to indicate that it is a 
substantial nexus test, not the sufficient context test used 
for personal jurisdiction, as Mr. Johnson indicated, that is a 
completely less--that is a lower standard that the Supreme 
Court has never held to be the case for tax purposes.
    Mr. Gowdy. Are there limits to Congress' ability to 
regulate state tax structures?
    Mr. Henchman. This bill does not address that, so----
    Mr. Gowdy. In your judgment, are there limits to what we 
can do with respect to state tax structures?
    Mr. Henchman. Well, the Constitution permits the Congress 
to regulate commerce as it sees fit.
    Mr. Gowdy. Yeah, but that is a very amorphous, increasing 
elastic----
    Mr. Henchman. It is.
    Mr. Gowdy [continuing]. Term.
    Mr. Henchman. It is. And in terms of preempting certain 
state activities, I think even a limited reading of the 
Commerce Clause finds that power existing with Congress. There 
are----
    Mr. Gowdy. Mr. Johnson, you----
    Mr. Henchman [continuing]. Probably a lot of things you 
could----
    Mr. Gowdy. Let me ask, Mr. Johnson. What are the limits as 
you see them? Because I didn't write the note down and at my 
age my memory slips, but you questioned, perhaps or maybe I 
misunderstood you, whether Congress would have the authority to 
do certain things with respect to state tax structures or 
perhaps--I don't want to put words in your mouth. What do you 
think about it?
    Mr. Johnson. I think there are certainly--I think there are 
certainly steps that Congress could take that would be so 
extreme that they could be struck down as unconstitutional. 
P.L. 86272 has not been challenged, to my knowledge, so I 
don't--our position is not that this bill would be 
unconstitutional, our position is that just because the Federal 
Government may have the authority to impose this bill doesn't 
mean it is a good idea.
    Mr. Gowdy. What remedy would you propose?
    Mr. Johnson. I would echo the comments of Congressman 
Cohen. I would like to see the businesses get together with the 
states and have a brighter line standard. I think it should 
include sales, but I think there should be some clear de 
minimis standards.
    I tried to propose something in Utah and I didn't get much 
support from anyone, either on the business side or from my 
legislators on it. But I--as someone who, again, has 
represented taxpayers, I do think more certainty in the area 
would be appropriate. And I would encourage states to adopt 
brighter line standards. But I think the states should be able 
to do so based on their own elected legislators. And I would 
encourage the business community to work with the states in 
accomplishing that.
    Mr. Gowdy. Mr. Henchman, what would be your perspective on 
that remedy?
    Mr. Henchman. Well, I would say there is no incentive the 
states will ever do that. And on the contrary, the incentive is 
to move away from apportionment--away from uniformity. And we 
have seen that in apportionment, where back in the '50's 
Congress and through the Willis Commission threatened, look, 
this is a mess in apportionment, and so you guys just need to 
adopt a standard otherwise we are going to do it for you. And 
it took until a bill nearly being passed by Congress for the 
states to get together and adopt a uniform standard.
    And since Congress has moved to other matters, the states 
have now wandered off and now we have all these different 
apportionment standards. That is the way states go on these 
things. It is going to take Congress or the courts to impose 
uniformity, the states are not going to do it on its own.
    Mr. Gowdy. Mr. Schroeder, I am from South Carolina and if I 
can help you navigate that form, I will be happy to try and 
help, but thank you for doing business in South Carolina.
    And with that I would yield back the remainder of my time, 
Mr. Chair.
    Mr. Coble. I thank the gentleman from South Carolina.
    The gentleman from Tennessee, Mr. Cohen is recognized.
    Mr. Cohen. Thank you, sir.
    Are all of you all familiar with the Section 4 of this H.R. 
1439? Mr. Johnson, you are?
    Mr. Johnson. Pardon me?
    Mr. Cohen. Section 4, the new section in H.R. 1439?
    Mr. Henchman. The Joyce Finnigan Provision I think?
    Mr. Johnson. Yes.
    Mr. Cohen. You're familiar with it then. What do you think 
about it, sir? It was not in the prior Business Activities 
Simplification Act.
    Mr. Johnson. Well----
    Mr. Cohen. How does that impact state governments?
    Mr. Johnson. To--a simple example would be the--under the 
prior versions of the bill the technique I talked about where 
you would set up an intangible holding company for trademarks, 
that would not have worked in Utah, because we are a combined 
state. We would have taken the position that both the trademark 
holding company and the retailer are a single business entity 
as long as one of them has nexus in the state, the other one 
wouldn't. So that technique would not have worked under prior 
bills.
    Under this bill it will work because we are required to 
consider each individual member of the combined group, 
individually, for purposes of determining whether or not it has 
nexus under this provision. So this is a dramatic expansion of 
the preemption.
    Mr. Cohen. So you are against it?
    Mr. Johnson. I am very much against it.
    Mr. Cohen. Yeah, I would think so.
    Mr. Henchman, where are you on this?
    Mr. Henchman. The--what is at issue here is basically two 
different interpretations of how you calculate nexus for 
different states, it is known as the Joyce standard and the 
Finnigan standard. The Joyce standard brings in--does not bring 
in entities for which the state doesn't have nexus, the 
Finnigan standard does.
    We view the Finnigan standard as the more aggressive one 
and the Joyce one as not. And this statute would enshrine the 
Joyce standard which limits state taxation to those entities 
that are actually have nexus with the state.
    Mr. Cohen. Mr. Schroeder, are you familiar with this?
    Mr. Schroeder. I am sorry, I didn't hear.
    Mr. Cohen. Are you familiar with this section of the law?
    Mr. Schroeder. I am not in detail, but judging from what I 
am hearing is, you know, what we are looking for as a small 
business is simply a bright line test that helps us establish 
where do we have nexus and understanding why, because we want 
to make sure we spend as much of our resources as possible 
helping our franchisees grow and to grow their business and we 
need some clarity and reduction of uncertainty to be able to do 
that.
    Mr. Cohen. Now you are a franchisor.
    Mr. Schroeder. Right.
    Mr. Cohen. And you are here because you are a member of the 
franchise association, but you don't necessarily representative 
the franchise association. Is that correct?
    Mr. Schroeder. Correct.
    Mr. Cohen. All right. So you do not know the--but the 
franchise association is 100 percent consistent with your 
position?
    Mr. Schroeder. Yes.
    Mr. Cohen. Okay. I got you.
    I yield back the remainder of my time. Thank you.
    Mr. Coble. Thank you.
    Trent, if you can keep it fairly brief I think we can get 
out of here, if you will do that.
    Mr. Franks. I will move it, Mr. Chairman.
    Mr. Coble. The distinguished gentleman from Arizona, Mr. 
Franks.
    Mr. Franks. All right. Mr. Johnson, what is your response 
to the stories from companies such as Outdoor Brands that small 
businesses facing this kind of Hobson's Choice of either hiring 
expensive accountants to decipher the various state laws or the 
state nexus rules or roll the dice and just make the best 
conclusion they can and sometimes end up having a major tax 
liability. I mean isn't that sort of a textbook example of kind 
of taxation without--that is unduly burdens to interstate 
commerce?
    Mr. Johnson. Well, as I stated, Congressman Franks, I have 
some sympathy for that position and I think the states have 
been somewhat derelict in not providing clearer standards. And 
I think a clear standard, for example, might include a de 
minimis amount of sales. If you don't have more than $250,000 
worth of sales into the state, for example, that might be a 
good bright line.
    But with regard to franchises, franchise--the whole idea of 
a franchise is that when I am driving through Colorado or 
Wyoming or South Carolina and I see a franchise that I am 
familiar with from Utah, I am more likely to go to that 
business. I am more likely to participate there, patronize that 
business because it has built up good will in the state. So to 
say that a franchisor doesn't benefit from the market created 
in Utah, I think frankly is not correct.
    Mr. Franks. Well, Mr. Henchman let me just ask you one 
question here sort of a combination question.
    I know that some states are already using the physical 
presence standard for net income and business activity taxes, 
even though I don't think the Supreme Court has ever required 
it. So touch on that.
    And then also the recent Iowa Supreme Court decision held 
that Kentucky--a Kentucky franchiser had a physical presence in 
Iowa because the franchisee was using the franchisor's 
intellectual property to, you know, pursuant to a franchisor 
contract arrangement. And that is--boy, that is something that 
is very hard for a business to--you know, I came from a small 
business background----
    Mr. Henchman. Right.
    Mr. Franks [continuing]. And sometimes businesses don't 
know whether to jump or go blind. And tell me, what do you 
think about that and what is the answer to it.
    Mr. Henchman. Sure. I mean Mr. Johnson and I think some of 
the members have talked about tax planning. There is also 
issues of this is just how they have designed the business. I 
mean if somebody is structuring their business with the intent 
of avoiding taxes they owe, then Mr. Johnson and his fellow tax 
commissioners have the legal power to go after them. I mean you 
can do (inaudible) reporting, you can do unitary, you do a 
whole bunch of other--and you can prosecute them.
    If it is just made up to avoid taxes you can go after them 
and nothing in this bill stops that. But with people who 
legitimately structured their business in that way, they face a 
lot of problems the way the system is set up now.
    Mr. Franks. Yeah. Well Mr. Chairman, I will just make a 
comment and I am through. It seems to me, you know, the IRS and 
tax agencies are always saying that businesses and individuals 
have every right to pay as little taxes as they can, within the 
clear confines of the law. But when the confines of the law are 
just completely murky it is not fair to businesses or 
individuals and it is the responsible of Government to make 
those lines clear. And of course, in my judgment, also to 
somehow find ourselves somewhere in the vicinity of the 
Constitution at the same time.
    So with that I yield back.
    Mr. Coble. I thank the gentleman.
    Good news for the witnesses, we won't keep you here all the 
rest of the afternoon waiting for us to return. I thank you all 
for your testimony. Your written statements will be made part 
of the record.
    We appreciate those in the audience for your presence today 
as well.
    Without objection all Members will have 5 legislative days 
to submit to the Chair additional written questions for the 
witnesses which we will forward and ask the witnesses to 
respond as promptly as they can do so with their answers that 
may also be made a part of the record. Without objection all 
Members will have 5 legislative days to submit any additional 
materials for inclusion in the record.
    And this hearing stands adjourned.
    [Whereupon, at 2:35 p.m., the Subcommittee was adjourned.]


                            A P P E N D I X

                              ----------                              


               Material Submitted for the Hearing Record











                                




                                








                                





                                














                                












                                




































                                


















                                






                                










                                


















                                








                                










                                






                                






                                






                                






                                












                                






                                










                                





























                                





                                




                                








                                










                                










































                                




                                










                                




                                 
