Does a Tennessee corporation that buys and collects its affiliate's accounts receivable from customers in other states have enough tax nexus in those other states — through in-person collection visits made by its affiliate's employees on its behalf — to apportion its Tennessee franchise and excise tax liability rather than paying on 100% of its net earnings?

Subject

Whether in-person collection activities by an affiliate's employees create substantial nexus entitling a company to apportion its franchise and excise tax.

Plain-English summary

The Tennessee Department of Revenue ruled that a Tennessee-based receivables-purchasing company has enough tax nexus in other states — despite having no employees or offices of its own there — to apportion its Tennessee franchise and excise (F&E) tax liability rather than pay tax on 100% of its earnings and net worth.

The taxpayer buys accounts receivable created when its closely affiliated corporation sells products to customers nationwide, then manages and collects those accounts. To resolve credit and collection issues, the taxpayer directs its affiliate's own salespeople and employees to make face-to-face visits with out-of-state customers on the taxpayer's behalf — discussing credit, collections, and account status — and if those visits don't resolve things, the taxpayer hires local collection agents in those states. Tennessee law lets a company apportion its F&E tax (rather than pay on its full base) if it's "taxable in another state," meaning subject to that state's net income tax or similar levy. But merely paying tax somewhere isn't enough — the company must actually have substantial nexus there, tested against the U.S. Constitution's Due Process and Commerce Clauses.

The Due Process Clause requires "minimum contacts" making it fair to be sued in that state; here, purposefully directing business efforts toward another state's residents (buying and collecting receivables from them) satisfies that easily. The harder test is the Commerce Clause's "substantial nexus" prong from the four-part Complete Auto Transit v. Brady framework — contrasted with J.C. Penney National Bank, where a bank issuing credit cards to Tennessee customers with no in-state physical presence was found to lack Tennessee nexus because credit cards alone are "virtually worthless" contact. Here, though, the taxpayer's affiliate physically visits customers in-state on the taxpayer's behalf — activities the Department found "significantly associated with the taxpayer's ability to establish and maintain a market" in those states, following Tyler Pipe Industries v. Washington and Scripto v. Carson: a substantial nexus can arise from activities carried on by affiliates or independent contractors, not just the taxpayer's own direct employees or offices.

What this means for you

Financial services, factoring, or receivables companies operating through affiliates

You don't need your own offices or employees physically present in a state to establish substantial tax nexus there for apportionment purposes — activities conducted on your behalf by an affiliate or independent contractor (in-person sales visits, collection efforts, account management) can create that nexus if they're genuinely tied to your ability to do business and collect revenue in that state. This cuts both ways: it can qualify you for favorable apportionment treatment (spreading Tennessee tax liability across states where you're also taxed) but could also expose you to tax obligations in those other states.

Accountants and tax professionals

This ruling is a clean walk-through of the Complete Auto Transit v. Brady four-part Commerce Clause test as applied to affiliate-conducted activities, contrasting J.C. Penney National Bank (no substantial nexus from credit cards alone, no physical presence) against the Tyler Pipe/Scripto line (nexus through in-state activities by affiliates/independent contractors). When advising a client on apportionment eligibility, focus on whether affiliate or contractor activities in the other state are "significantly associated with the taxpayer's ability to establish and maintain a market" there — not just whether some tax return was filed in that state.

Common questions

Q: Does a company need its own employees physically present in a state to have substantial tax nexus there?
A: No. Nexus can be established through activities conducted on the company's behalf by an affiliate or independent contractor, if those activities are significantly tied to the company's ability to establish and maintain a market in that state.

Q: Is simply paying an income-based tax in another state enough to qualify for Tennessee apportionment?
A: No. The company must actually have substantial nexus in that state under constitutional standards — paying a tax where you don't have substantial nexus doesn't count as being genuinely "subject to" that state's tax for apportionment purposes.

Q: What kind of contact was NOT enough to establish nexus in a similar case?
A: In J.C. Penney National Bank, issuing credit cards to in-state customers with no other physical presence was held insufficient — the court called the cards themselves "virtually worthless" as a nexus-creating contact.

Q: Does this ruling apply to other affiliated companies with similar receivables-purchasing arrangements?
A: No. A Tennessee letter ruling binds the Department only for the specific taxpayer and facts addressed and cannot be relied on by others, though the constitutional nexus framework it applies is generally applicable law.

Citations and references

Statutes and constitutional provisions:

• Tenn. Code Ann. §§ 67-4-2010, 67-4-2110 (apportionment eligibility: "taxable in another state")
• U.S. Const. Due Process Clause; Commerce Clause, Art. I, § 8, cl. 3

Cases:

• Quill Corporation v. North Dakota, 504 U.S. 298 (1992) (Due Process and Commerce Clause limits on state taxing power)
• Burger King Corp. v. Rudzewicz, 471 U.S. 462 (1985) (purposeful direction toward state residents satisfies Due Process)
• Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977) (four-part test: substantial nexus, fair apportionment, non-discrimination, fair relation to services)
• J.C. Penney National Bank v. Johnson, 19 S.W.3d 831 (Tenn. Ct. App. 1999) (credit cards alone, no physical presence, insufficient nexus)
• Tyler Pipe Industries v. Washington, 483 U.S. 232 (1987); Scripto, Inc. v. Carson, 362 U.S. 207 (1960) (nexus via affiliates/independent contractors)
• America Online, Inc. v. Johnson, 2002 WL 1751434 (Tenn. Ct. App. 2002) (nexus requires in-state activities on taxpayer's behalf)
• Howard Cotton Company v. Olsen, 675 S.W.2d 154 (Tenn. 1984); Signal Thread Co. v. King, 435 S.W.2d 468 (Tenn. 1968) (paying tax without substantial nexus doesn't count as "subject to" that state's tax)

Source

• Landing page: https://www.tn.gov/revenue/tax-resources/legal-resources/tax-rulings.html
• Original PDF: https://www.tn.gov/content/dam/tn/revenue/documents/rulings/fae/06-18fe.pdf

Original ruling text

TENNESSEE DEPARTMENT OF REVENUE
LETTER RULING # 06-18
WARNING
Letter rulings are binding on the Department only with respect to the
individual taxpayer being addressed in the ruling. This presentation of the
ruling in a redacted form is informational only. Rulings are made in
response to particular facts presented and are not intended necessarily as
statements of Department policy.

SUBJECT
Whether [TAXPAYER] has substantial tax nexus in states other than Tennessee
so as to be entitled to use an apportionment formula in computing its Tennessee
franchise, excise tax liability?
SCOPE
This letter ruling is an interpretation and application of the tax law as it relates to
a specific set of existing facts furnished to the Department by the Taxpayer. The
rulings herein are binding upon the Department, and are applicable only to the
individual Taxpayer being addressed.
This letter ruling may be revoked or modified by the Commissioner at any time.
Such revocation or modification shall be effective retroactively unless the
following conditions are met, in which case the revocation shall be prospective
only:
(A) The Taxpayer must not have misstated or omitted
material facts involved in the transaction;
(B) Facts that develop later must not be materially
different from the facts upon which the ruling was
based;
(C) The applicable law must not have been changed
or amended;
(D) The ruling must have been issued originally with
respect to a prospective or proposed transaction; and
(E) The Taxpayer directly involved must have acted
in good faith in relying upon the ruling and a
retroactive revocation of the ruling must inure to his
detriment.

FACTS
[TAXPAYER] is a Tennessee corporation with its principal place of business
located in Tennessee. [TAXPAYER] is a corporate affiliate of [CORPORATION],
which is a Delaware corporation with its principal place of business also located
in Tennessee. The business of [TAXPAYER] is purchasing accounts receivable
created when [CORPORATION] sells products to customers throughout the
United States.
Once a [CORPORATION] customer creates an account receivable, [TAXPAYER]
purchases the account and uses its employees to manage and collect it.
Employees of [CORPORATION] are also used by [TAXPAYER] to assist in the
management of relationships with customers in states other than Tennessee.
[CORPORATION] employees systematically contact [TAXPAYER] debtors in
person in various states in order to ensure collection of [TAXPAYER] accounts,
to discuss credit issues and to go over the status of [TAXPAYER] customer
accounts.
The relationship between [TAXPAYER] and [CORPORATION] is very close. A
[CORPORATION EMPLOYEE] is responsible for overseeing all domestic
accounts receivable of [TAXPAYER]. This [CORPORATION EMPLOYEE] also
supervises [TAXPAYER] employees. [TAXPAYER] contacts customers in other
states on a continuous basis to discuss payment and other related issues.
Additionally, [TAXPAYER] directs salespeople for its corporate affiliate,
[CORPORATION], to personally visit with customers in certain states, such as
[STATES – NOT TENNESSEE]. These visits are for the benefit of [TAXPAYER],
and the salesmen typically discuss credit issues, collection issues, and account
status issues with customers at their offices. These face-to-face meetings with
customers are crucial to [TAXPAYER’S] ability to establish and maintain a
market in the states where the meetings occur.
When face-to-face meetings between [TAXPAYER] customers and
[CORPORATION] employees, acting on behalf of [TAXPAYER], fail to resolve
collection issues, [TAXPAYER] retains collection agents in other states to resolve
those issues and collect delinquent accounts. [TAXPAYER] will make telephone
calls and send four letters to a customer in another state before referring the
account to a private collection agency.
[TAXPAYER] pays Tennessee franchise, excise taxes. It also pays incomebased taxes in [STATES – NOT TENNESSEE] on a separate basis. [STATE –
NOT TENNESSEE] taxes any financial institution that “regularly engages in
transactions with customers in [STATE – NOT TENNESSEE] that involved
intangible property, including loans . . . and result in receipts flowing to the
taxpayer from within [STATE – NOT TENNESSEE].”
[STATE – NOT
TENNESSEE] Code Ann. § ---. [STATE – NOT TENNESSEE] similarly taxes all
foreign corporations “regularly engaging in transactions with customers in the

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commonwealth that involve intangible property and result in income flowing to the
taxpayer from residents of the commonwealth.” [STATE – NOT TENNESSEE]
Ann. Laws Ch. [-- § --]. [TAXPAYER] has millions of dollars in receipts flowing to
it from [STATES – NOT TENNESSEE] residents. [TAXPAYER] also pays
income based taxes as member of [CORPORATION’S] unitary group in
[STATES – NOT TENNESSEE]. Because it pays such taxes in multiple states
other than Tennessee, [TAXPAYER] apportions its Tennessee franchise, excise
tax liability.
QUESTION PRESENTED
Does [TAXPAYER] have substantial tax nexus in states other than Tennessee so
as to be entitled to use an apportionment formula in computing its Tennessee
franchise, excise tax liability?
RULING
Yes.
ANALYSIS
Tenn. Code Ann. §§ 67-4-2010 and 67-4-2110 make the following provisions
concerning a taxpayer’s right to use an apportionment formula in computing its
Tennessee franchise, excise tax liability:
(a) Any taxpayer having business activities that are taxable both inside and
outside the state of Tennessee shall allocate or apportion its net earnings
or losses [net worth] as provided in this part.
(b) For purposes of allocation and apportionment of net earnings or losses
[net worth] under this part, a taxpayer is taxable in another state if:
(1) In that state it is subject to a net income tax, a franchise tax measured
by net income , a franchise tax for the privilege of doing business, or a
corporate stock tax; or
(2) That state has jurisdiction to subject the taxpayer to a net income tax
regardless of whether, in fact, the state does or does not.
(b) Nonbusiness receipts shall not be included in the numerator or
denominator of any apportionment formula.
The statutes clearly state that a taxpayer that is “subject to” an income based tax
in another state is entitled to use an apportionment formula in computing its
Tennessee franchise, excise tax liability. In order to be subject to an income
based tax in a state other than Tennessee, a business entity must be doing

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business in that state so as to have substantial tax nexus there. The payment of
an income based tax to a state in which a taxpayer does not have substantial tax
nexus does not result in the taxpayer being “subject to” an income based tax in
that state. Howard Cotton Company v. Olsen, 675 S.W.2d 154 at 164 (Tenn.
1984) citing Signal Thread Co. v. King, 435 S.W.2d 468 (Tenn. 1968).
The determination of whether [TAXPAYER] has the requisite substantial tax
nexus in a state other than Tennessee must be made in the light of the United
States Constitution’s limitations on the taxing power of the states.
The power of a state to impose a tax on an entity is limited by the United States
Constitution. Quill Corporation v. North Dakota, 504 U.S. 298 (1992). Both the
Due Process Clause and the Commerce Clause impose limits on the taxing
power of a state. Id. at 305.
The Due Process Clause of the United States Constitution requires that
[TAXPAYER] have “minimum contacts” with the taxing state in order for the
taxing state to impose its tax. Id. at 307. If an entity’s contacts with the taxing
state make it reasonable, in the context of our federal system of government, to
require the entity to defend a lawsuit in the taxing state, the Due Process Clause
is satisfied. Id. If a potential lawsuit against the taxpayer is reasonably
foreseeable in the taxing state, the Due Process Clause is satisfied. Id.
If contacts are sufficient to subject an entity to personal jurisdiction in the forum
state, then imposition of a tax on the entity’s business in the state will be
sustained under the Due Process Clause. So long as a commercial actor’s
efforts are purposefully directed toward residents of a state, even the absence of
physical contacts cannot defeat the personal jurisdiction of such state under the
Due Process Clause. Burger King Corp. v. Rudzewicz, 471 U.S. 462, at 476
(1987).
[TAXPAYER] has purposefully directed its efforts toward the residents of states
other than Tennessee by purchasing accounts receivable due to
[CORPORATION] from its customers in states other than Tennessee and by
using its employees to manage and collect such receivables.
Under the facts presented, it appears that subjection of [TAXPAYER] to income
based taxes in states where it is responsible for collecting accounts receivable
purchased from [CORPORATION] would not violate the requirements of the Due
Process Clause of the U.S. Constitution. But, in order for such states to subject
[TAXPAYER] to income based taxation, the requirements of the Commerce
Clause of the United States Constitution must also be met.
The Commerce Clause of the United States Constitution grants to Congress the
power to “regulate Commerce with foreign Nations, and among the several
States.” U. S. Constitution, Article I, § 8, cl. 3. Although the Commerce Clause

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does not explicitly limit the power of the states, the United States Supreme Court
has held consistently that the Commerce Clause implicitly limits the power of
states to interfere with interstate commerce. Quill Corporation v. North Dakota,
504 U.S. 298, at 309 (1992). This implicit limitation on the power of states to
interfere with interstate commerce is known as the “negative” or “dormant”
Commerce Clause. Id.
Dormant Commerce Clause jurisprudence in the area of state taxation changed
dramatically with the U.S. Supreme Court’s decision in Complete Auto Transit,
Inc. v. Brady, 430 U.S. 274 (1977). The Complete Auto decision rejected the line
of cases that held impermissible the direct taxation of interstate commerce by the
states and enunciated a four-part test providing that imposition of a tax will be
sustained so long as the tax meets all of the following criteria:

1. The tax must be applied to an activity with a substantial nexus in the taxing
   state.
2. The tax must be fairly apportioned.
3. The tax must not discriminate against interstate commerce.
4. The tax must be fairly related to the services provided by the taxing state.
   The substantial nexus test in the first prong of the Complete Auto decision is
   critical in determining whether [TAXPAYER] can be subjected to an income
   based tax in states where its debtors reside.
   In J.C. Penney, 19 S.W.3d 831 (Tenn.Ct.App. 1999) appeal denied, (Tenn. May
   8, 2000), cert. denied, Johnson v. J.C. Penney National Bank, 531 U.S. 927
   (2000)., the Tennessee Court of Appeals was presented with an opportunity to
   consider whether J.C. Penney National Bank had the requisite substantial
   Tennessee nexus to be subjected to franchise, excise taxes. J.C. Penney
   National Bank had no physical presence of consequence in Tennessee, but was
   making credit card loans to customers in Tennessee.
   The Tennessee Court of Appeals refused to uphold the Department’s imposition
   of franchise, excise taxes on J.C. Penney National Bank. The Court reached this
   decision because, other than credit cards issued to its customers, which the
   Court held were “in and of themselves virtually worthless,” J.C. Penney National
   Bank had no Tennessee physical presence and thus did not have the requisite
   “substantial nexus” in Tennessee to satisfy the first prong of the Complete Auto
   test.
   In America Online, Inc. v. Johnson, WL 1751434 at 2 (Tenn.Ct.App. 2002), the
   Tennessee Court of Appeals observes that the U.S. Supreme Court has rejected
   state taxes on interstate commerce where no activities are carried on in the

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taxing state on the taxpayer’s behalf. Citing Tyler Pipe Industries v. Washington,
483 U.S. 232 (1987) and Scripto v. Carson, 362 U.S. 207 (1960), the Court
further comments that “[i]n other cases where the out-of-state taxpayer did not
actually have offices or employees in the taxing state, the [U.S. Supreme Court],
nevertheless, found a substantial nexus based on in-state activities carried on by
affiliates or independent contractors on the taxpayer’s behalf.” Id. at 2. In any
case, “[t]he activity taxed must have substantial nexus with the state.” Id. at 2.
“We know that a substantial nexus may be established by activities carried on
within the state by affiliates and independent contractors.” Id. at 3. “Where . . .
activities are ‘being conducted in the taxing state that substantially contribute to
the taxpayer’s ability to maintain operations in the taxing state,’ a substantial
nexus does exist.” Id. at 3, citing J.C. Penney, 19 S.W.2d at 841 (referencing
Tyler Pipe, 483 U.S. 232 and Scripto, 362 U.S. 207).
“The crucial factor
governing nexus is whether the activities performed in [the] state on behalf of the
taxpayer are significantly associated with the taxpayer’s ability to establish and
maintain a market in this state. . .” Tyler Pipe, 483 U.S. 232 at 250.
Substantial collection activities conducted in another state by a Tennessee
business entity, or on its behalf by an affiliate or an independent contractor,
would contribute to the entity’s ability to maintain operations in the state and
would result in the entity having the requisite substantial nexus to be subjected to
an income based tax.
The facts presented state that [TAXPAYER] uses employees of
[CORPORATION] to assist in the management of relationships with customers in
states other than Tennessee. A [CORPORATION EMPLOYEE] is responsible
for overseeing all domestic accounts receivable of [TAXPAYER].
[CORPORATION EMPLOYEE] also supervises [TAXPAYER] employees.
[TAXPAYER] contacts customers in other states by letter and by telephone on a
continuous basis to discuss payment and other related issues. Additionally,
[TAXPAYER] directs salespeople for its corporate affiliate, [CORPORATION], to
personally visit with customers in certain states, such as [STATES – NOT
TENNESSEE].
These visits are for the benefit of [TAXPAYER], and the salesmen typically
discuss credit issues, collection issues, and account status issues with
customers at their offices. Face-to-face meetings with customers are crucial to
[TAXPAYER’S] ability to establish and maintain a market in the states where the
meetings occur.
Obviously, [TAXPAYER] cannot continue its business of
purchasing accounts receivable from [CORPORATION] if the accounts
purchased are not collected. When face-to-face meetings between [TAXPAYER]
customers and [CORPORATION] employees, acting on behalf of [TAXPAYER],
fail to resolve collection issues, [TAXPAYER] retains collection agents in other
states to resolve those issues and collect delinquent accounts.

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The facts presented clearly establish that [TAXPAYER] is doing business in
[STATES – NOT TENNESSEE] and paying an income based tax in those states
because it has substantial tax nexus in each state. It has physical presence in
both these states through employees of [CORPORATION] who, on behalf of
[TAXPAYER], personally visit with customers to discuss and resolve credit
related matters and collection issues. As a result, [TAXPAYER] is entitled to use
an apportionment in computing its Tennessee franchise, excise tax liabilities.

Arnold B. Clapp
Special Counsel to the Commissioner

APPROVED: Loren L. Chumley, Commissioner

DATE: 5/15/06

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