Forced Combinations Suspended in North Carolina

Written by and

The Governor of North Carolina signed Session Law 2012-43, which suspends the authority of the NCDOR to force corporate combinations for years beginning on or after January 1, 2012 until the DOR issues and has approved an administrative rule defining the standards for forced combinations.

The new law is the most recent of a long chain of events that began when the NCDOR realized that its 1992 administrative rule creating nexus for intellectual property holding companies would not solve all perceived problems with multistate corporation tax planning in a single entity taxing state. By the end of that decade the DOR had begun to assert that the statute that allowed non arm’s length pricing to be remedied by either a section 482 like price adjustment or forced combination, also permitted forced combination in cases not involving mispricing.

The fundamental problem with the DOR’s theory, which has yet to be remedied after over fifteen years of law creation by audit, is that the DOR never defined when its new theory of forced combination applied. It did not even limit the theory to “sham” cases, as illustrated by the single appellate court decision it won upholding its powers, which was not based on finding a sham transaction.

But because the DOR won that case, which was not appealed to the North Carolina Supreme Court, the DOR was able to “encourage” many major corporate taxpayers to undergo forced combination without any judicial determination that such combination was proper.

The General Assembly recognized the legal problem of lack of any standard for forced combination (other than mispricing) that the Court of Appeals overlooked, and changed the statute governing forced combination in 2011. However, the DOR continued its practice of administering the new law through informal rule making, issuing directives containing extremely vague explanations of when it would assert forced combination. See prior entries on this Blog.

Now the General Assembly has ordered the DOR to stop enforcing the 2011 forced combination statute unless and until it issues more definitive guidelines by the administrative rule making process, as specially amended for this purpose. The DOR can continue, however, to try to force combinations for years beginning before 1/1/2012 under the old approach.

It is likely that there will be intense “lobbying” of the Rules Review Commission in connection with any rule the DOR proposes.