“If You Don’t Make It There, You Can’t Make It Anywhere:” New York’s Zero Manufacturing Rate Requires New York Property

Raytheon developed and manufactured aerospace technologies and defense systems. Although Raytheon had employees and offices in New York, Raytheon stipulated that its relevant manufacturing equipment and facilities were outside New York. Raytheon used the standard tax rate on its 2010 to 2015 tax returns but filed amended returns asserting the reduced rates applicable to New York manufacturers and QETCs during these years. After the New York State Department of Taxation and Finance (Department) denied Raytheon the reduced tax rates on audit, Raytheon petitioned the DTA. Raytheon and the Department stipulated the facts and submitted the case to the ALJ on the filings in lieu of a hearing. 

New York’s Tax Rates for Manufacturing and Emerging Technologies
Raytheon’s litigation pertains to three iterations of the reduced tax rates for manufacturers and QETCs:

First, for tax years beginning between January 1, 2007, and December 31, 2013, New York Tax Law imposed a reduced 6.5% tax rate on “qualified New York manufacturers:”

• A “manufacturer” was a taxpayer or combined group that was “principally engaged” in manufacturing activities, i.e., deriving more than 50% of gross receipts from manufacturing activities.
• A “qualified New York manufacturer” was defined in two ways: (1) having “in New York” (a) manufacturing property with an adjusted basis for federal tax purposes of more than one million dollars at the taxable yearend, or (b) all real and personal property; or (2) qualifying as a QETC under the New York Public Authorities Law, i.e., a “company whose primary products and services” are emerging technologies.

Second, for tax years beginning between January 1, 2014, and December 31, 2014, the legislature modified the tax rates for each definition of “qualified New York manufacturer.” The legislature: (1) enacted a zero percent tax rate for “qualified New York manufacturers” with manufacturing property in New York (the first definition); and (2) revised the New York manufacturer provision to continue to apply a reduced tax rate of 5.9% to QETCs (the second definition).

Third, and finally, for tax years starting on or after January 1, 2015, the legislature created a new subparagraph for the QETC provision (second definition) and simultaneously enacted a combined reporting provision stating that combined groups are “treated as a single corporation” for business income tax purposes.

New York’s Zero Percent Manufacturing Rate
The ALJ first analyzed whether Raytheon satisfied the first definition of a qualified New York manufacturer because of manufacturing activities in New York. The ALJ held that Raytheon’s combined group was a “manufacturer” because the group generated more than 50% of its receipts from manufacturing activities. However, the ALJ held that Raytheon’s combined group was not a “qualified New York manufacturer” because it did not have “in New York” either (i) manufacturing property with an adjusted basis for federal tax purposes of one million dollars; or (ii) all real and personal property. Raytheon argued that the statute was unconstitutional on its face and as applied to Raytheon. Specifically, Raytheon argued that New York Tax Law unconstitutionally discriminated against manufacturing activity outside New York by conditioning the reduced tax rate on manufacturing property in New York. The ALJ determined that Raytheon’s argument was a facial challenge to the statute, which the DTA lacks jurisdiction to resolve.

Legislative Gamesmanship: Interestingly, the New York State legislature addressed the possibility that the statute would be declared unconstitutional when enacting the zero percent manufacturing rate in 2014. Specifically, the session law provided that “if a court of final, competent jurisdiction” finds the zero percent manufacturer rate “invalid,” all manufacturers will be subject to the standard tax rate.^[1] Accordingly, a court reviewing Raytheon’s case may need to determine whether the zero percent manufacturing rate should be eliminated, including for companies that meet the statutory requirements.

Reduced Qualified Emerging Technology Companies Rate
Raytheon further argued that it qualified for the reduced tax rate applicable to QETCs. The dispute centers around whether the same test for qualifying as a New York manufacturer applies for purposes of qualifying as a QETC. The qualified New York manufacturer provision has consistently applied the reduced tax rate if a taxpayer or combined group was “principally engaged” in manufacturing, i.e., derived more than 50% of gross receipts from manufacturing activities. The Department likewise analyzed whether a taxpayer has more than 50% of its gross from “emerging technologies” to determine whether the taxpayer is a QETC. 

However, the Department has asserted that a combined group does not qualify as a QETC unless each and every individual member generates more than 50% of its receipts from emerging technologies. The Department issued guidance on January 31, 2008, stating that a combined group is a QETC if “all members of the group meet the definition of a QETC.” ^[2] After the legislature renumbered the QETC provision and enacted the combined reporting provision treating a combined group as a single corporation, the Department reissued this guidance. The reissued guidance again applied the more-than-50% gross receipts test and stated that a combined group is a QETC only if “all members of the group meet the definition of a QETC.”^[3] 

Raytheon challenged the Department’s position that a combined group qualifies as a QETC only if each member qualified as a QETC on a separate company basis. The ALJ upheld the Department’s interpretation to find that Raytheon was not a QETC because each member of its combined group did not qualify as a QETC in its “separate capacity.” The ALJ recited New York Tax Law’s definition of a “taxpayer” as “any corporation subject to [Corporation Franchise Tax].” The ALJ noted, without further analysis, that New York Tax Law’s 2015 combined reporting provision treats a combined group as a single corporation and that the New York Public Authorities Law did not define the term “company.” However, the ALJ then proceeded to interpret the terms “corporation” and “company” to refer only to a single entity.

Flawed Reasoning: The ALJ did not address the Department’s inconsistent application of the qualified New York manufacturer provision. Specifically, the Department’s position applies the more-than-50% gross receipts test while simultaneously rejecting the provision’s directive to apply the test on a combined group basis. Further, the ALJ did not analyze whether the Department’s restrictive interpretation of both New York Tax Law and New York Public Authorities Law frustrates the legislative intent to impose a reduced tax rate on QETCs.

The ALJ’s determination is appealable to the New York State Tax Appeals Tribunal. The Tribunal will have jurisdiction to review the ALJ’s interpretation of the statute and Raytheon’s as-applied constitutional challenge, but not Raytheon’s facial constitutional challenge.

The case is Matter of Raytheon Company, DTA Nos. 829739 & 829740 (Mar. 16, 2023).

^{[1] S.B. S6359D, 2013-2014 Leg. Sess. (N.Y. 2014); 2014 N.Y. Sess. Laws, ch. 59 (S. 6359-D) (McKinney).}

^{[2] New York Technical Service No. TSB-M-08(1)C (Jan. 31, 2008).}

^{[3] New York Technical Service No. TSB-M-15(1)C (Feb. 12, 2015).}