The Supreme Court on Monday let states continue taxing multinational corporations in a way that has sparked other countries to threaten retaliation against U.S. businesses.
The 7-2 decision means that California will not have to refund to multinational corporations an estimated $4 billion in taxes they paid under a so-called "unitary" tax formula.A unitary tax treats a corporation and its subsidies as one entity. A state calculates the corporation's in-state business as a percentage of its worldwide business to come up with the company's tax liability to the state.
In contrast, the federal government and most other countries treat a subsidiary of a multinational corporation as a separate company and tax only its income.
Congress has never banned states from using the controversial "unitary" taxing methods, the justices said, adding that courts need not step in.
Advocates say unitary taxes keep corporations from moving their profits to other areas to avoid taxes. Opponents say they leave multinational corporations vulnerable to double taxation.
"Congress has focused its attention on this issue but has refrained from exercising its authority" to prohibit states from taxing in this unitary manner, Justice Ruth Bader Ginsburg wrote for the court.
Monday's ruling affirmed a California appeals court decision that upheld that state's tax.
The tax was challenged by the New York-based Colgate-Palmolive Co. and the British-owned Barclays Bank of California and Barclays Bank International. The companies sought refunds on state tax bills dating back to the 1970s.
California lawmakers voted last year to make the state's unitary tax optional starting with the 1994 tax year. However, billions of dollars in potential tax refunds still were at stake in the case decided Monday.
Six other states - Idaho, Montana, North Dakota, Alaska, Tennessee and Utah - use some form of unitary tax system.
Commenting on the ruling's effect on Utah, Kim Ferrell, tax audit manager for the Utah Tax Commission, said Utah does not require worldwide combined reporting and has not since 1985.
He said there is an option in the law to allow a corporate taxpayer to file worldwide if its officers choose to do so. If they do, then they are required to continue doing so in the future.
"Our law requires what is called a "water's edge" combination," said Ferrell. "That means we combine the unitary entitites that are incorporated in the United States only. There are some exceptions, but that is the general rule."
The Supreme Court had ruled in 1983 that states could use the unitary method to tax U.S.-owned multinational corporations, but it left undecided whether such taxes could be applied to foreign-owned corporations.
Britain has said it would retaliate if California's tax was imposed in a way that damaged British-owned companies, and German lawmakers also asked their government to retaliate.
The members of the European Union and other countries including Canada and Japan said in a friend-of-the-court brief that their commercial relations with the United States likely would be "severely strained" if the tax was not lifted.
Ginsburg wrote that Barclays "has not demonstrated that California's tax system in fact operates to impose inordinate compliance burdens on foreign enterprises." She said it failed to show that the tax discriminates against foreign commerce.
Ginsburg's opinion was joined by Chief Justice William Rehnquist and Justices Harry Blackmun, John Paul Stevens, Anthony Kennedy, David Souter and was joined in part by Justice Antonin Scalia.