This Week in State Tax

In a recently released nonprecedential decision, the California Office of Tax Appeals (OTA) addressed the taxation of a Netherlands resident who provided construction-related consulting services for projects inside and outside California. The OTA found, and the taxpayer did not dispute, that the taxpayer was a nonresident carrying on a unitary business as a sole proprietor operating within and without California. The OTA based its determination on Appeal of Bindley, Bindley (2019-OTA-179P), in which it previously held that a taxpayer carried on a unitary business, trade, or profession within and without California when a taxpayer was self-employed, operated entirely outside of California, and had customers located in California. The OTA determined that the taxpayer was carrying on a business within and without California through the provision of services to California customers remotely, and thus his net income was subject to apportionment.

A subsequent California Court of Appeals ruling on a separate matter concerning the professional service income of a Texas-based radiologist effectively overturns the holding in the Appeal of Bindley. The taxpayer in the second matter resided in Texas and worked exclusively as an independent contractor for a single medical corporation. The taxpayer read imaging studies from his home in Texas for the corporation’s hospitals and other medical facilities located in several states, including California. Over a three-year period covering 2018 through 2020, he earned more than $300,000 annually from this teleradiology work. The taxpayer filed California nonresident returns on the instruction of the Franchise Tax Board (FTB) and paid the tax calculated. He then filed refund claims. The FTB did not act on the claims, and the taxpayer filed suit. A trial court summarily upheld the FTB position that the taxpayer operated a “unitary business” within and without California, meaning that California regulations required apportionment of his sole proprietorship income and allowed California to tax a portion of his total professional receipts.

The Court of Appeal reversed, holding that the FTB had not established that, as a matter of law, the taxpayer was conducting a “unitary business.” The court reviewed California’s unitary business jurisprudence and observed that those cases almost uniformly involve two or more commonly owned, functionally integrated business entities or operations. The fact patterns discussed in prior unitary determinations typically showed a flow of value, interdependence, and centralization of management between multiple business entities or business activities. The taxpayer in this case was a single individual performing one professional activity for a single customer. The court found no authority applying the corporate-style unitary business concept to a nonresident individual who merely performs a single line of work for one payor, even when the ultimate patients and medical facilities are in multiple states. The court rejected the FTB reliance on administrative decisions such as Appeal of Bindley, which it characterized as inapposite, nonbinding, or insufficient support for extending the unitary concept. The court emphasized that the cross-reference to UDITPA in the regulation on which FTB relied did not alter the fundamental requirement that there must be a “unitary business” within and without California before apportionment is applied. Because the FTB had not met its burden on the unitary business element, the court reversed the summary judgment in FTB’s favor and remanded. The court expressly declined to address whether the taxpayer’s income might nevertheless be taxable under some other sourcing theory or regulation not before the court.

Please contact Candace Axline, Geoffrey Way, and Oksana Jaffe with questions about Matter of Suurs (2026-OTA-238) and Garcia-Rojas v. Franchise Tax Bd., Cal. Ct. App., 1st Dist., No. A172054 (May 1, 2026). 

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A New York appellate court has upheld the “Internet Activities Rule” promulgated by the New York Department of Taxation and Finance. The regulation adopts parts of the updated statement regarding the application of Public Law 86-272 as articulated by the Multistate Tax Commission (MTC) in the most recent version of its Statement of Information Concerning Practices of Multistate Tax Commission and Supporting States Under Public Law 86-272 (MTC Statement). P.L. 86-272 is a federal law which prevents a state from imposing a net income tax on a person whose sole activity in the state is the solicitation of orders for tangible personal property. Under the MTC Statement, certain activities are considered to exceed the solicitation of orders for tangible personal property and therefore disqualify a business from P.L. 86-272 immunity. A few specific examples provided under the MTC Statement, and incorporated in the New York regulation, include a business placing “cookies” on a user’s computer, assisting customers after a sale via email or electronic chat, and online applications for employment or credit cards among other similar activities conducted over the Internet. A trade association representing sellers who market merchandise via the telephone, catalogs, and the Internet challenged the regulation as violating due process and being preempted by P.L. 86-272. A trial court upheld the Department’s regulation against the P.L. 86-272 challenge, and the plaintiff appealed to the New York Supreme Court, Appellate Division, Third Judicial Department.

The plaintiff’s first argument on appeal was that the regulation impermissibly ignores the location where internet activities occur when determining whether a taxpayer exceeds P.L. 86-272 protection. In the court’s view, the regulation, read as a whole, limits its scope to activities conducted “in New York State.” Accordingly, the regulation preserves immunity when all in-state activities are limited to solicitation or are ancillary or de minimis; it denies immunity only when a taxpayer’s in-state activities—regardless of how conducted—exceed those bounds.

Second, the plaintiff argued that the regulation was incompatible with the original meaning of P.L. 86-272 (i.e., how the law would have been understood when it was adopted in 1959), which could not have included any understanding of internet activities. On this point, the court determined that P.L. 86-272 was a “functional” statute that requires “consideration of the nature or purpose of the business activity, not the means through which that activity is conducted.” Thus, “any tension between how business activity was considered to be occurring within a state in 1959 versus today is not enough to establish conflict preemption on the face of the regulation.” Finally, the plaintiff argued that the Department’s interpretation obstructed Congress’s objective of providing “a clear rule of immunity for small businesses engaged in interstate commerce.” Here, the court determined that the copious details and examples provided in the Department’s regulation sufficed to meet this goal.

The court concluded by noting that it was merely ruling on the Department’s regulation “as written,” preserving the possibility of a future challenge to the application of the regulation by the Department. Contact Aaron Balken with questions on American Catalog Mailers Association v. N.Y. Department of Taxation and Finance.

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In response to Washington State’s enactment of what is commonly called the “millionaire’s tax”, a state resident petitioned the Washington Supreme Court to require the Washington Secretary of State to process the petition and provide for a voter referendum on the tax at the November 2026 election. [For a discussion of the tax, see our TWIST of March 23, 2026.]

On May 4, the Washington Supreme Court denied the petition on the grounds that the bill contains a clause which states that the “tax imposed in this act is necessary for the support of the state government and its existing public institutions.” Although the Washington constitution provides a referendum power to allow the people to assert their will over the legislature, laws that are necessary for the support of the state government and its existing public institutions are excepted from this power, and a legislative declaration that a bill is subject to this exception is afforded great weight. Since the bill would undisputedly generate revenue for the state’s existing institutions, the court held that the bill was within the purview of the “support of state government” exception and not subject to referendum. The court made clear the constitutionality of the tax was not before it.

The sponsor of the petition has announced an intent to pursue an initiative petition to overturn the tax. An initiative in Washington requires twice as many signatures (about 310,000) as those for a referendum. Challenges to the constitutionality of the tax have also been filed. KPMG will continue to track developments regarding the tax. For additional questions regarding the petition or other Washington tax matters, please contact Michele Baisler.

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As most state legislatures continue the march toward concluding their 2026 sessions, three more states have passed bills addressing state conformity to the One Big Beautiful Bill Act (P.L. 119-21) (OB3).

Connecticut: The Connecticut legislature passed a supplemental budget bill that would decouple from the federal special depreciation provisions for qualified production property under IRC section 168(n) for income years beginning on or after January 1, 2026; the supplemental also decouples from the federal changes to treatment of research and experimental expenses under IRC section 174A for years before January 1, 2026. The bill would also decouple from the transitional rules under IRC section 174A. Instead, a taxpayer must capitalize and amortize under IRC section 174 prior to OB3. The bill is awaiting Governor Lamont’s signature. Contact Michael Rylant with questions about S.B. 1.

Iowa: A bill passed by the Iowa legislature would remove a specific reference to “global intangible low-taxed income” (GILTI) from its tax code, ensuring that the subtraction modification from federal income would apply to IRC 951A under OB3. The bill is awaiting Governor Reynold’s signature. Contact Dale Busacker with questions about S.F. 2492.

Kansas: Similarly, Kansas enacted legislation that removes the specific reference to “global intangible low-taxed income” (GILTI) from its tax code, ensuring that the subtraction modification from federal income will apply to IRC 951A under OB3. The bill has been presented to Governor Kelly for signature. Contact Alexander Karscig with questions about S.B. 300.

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