In Rent-A-Center West, Inc. v. South Carolina Department of Revenue,¹ the South Carolina Court of Appeals (Court) reversed an Administrative Law Court's decision and found that the South Carolina Department of Revenue (DOR) had not met its burden of proof in asserting an alternative apportionment method to assess corporate tax liability. The DOR asserted that the statutory filing method was unrepresentative of the taxpayer's business activities in South Carolina.

The taxpayer, Rent-A-Center West Inc. (RAC West), is the wholly owned subsidiary of Rent-A-Center East Inc. (RAC East). RAC East owns and operates retail stores in eastern states including South Carolina, while RAC West owns and operates retail stores in western states. RAC East and RAC West formed a licensing agreement in which RAC East remits royalty fees to RAC West for the use of RAC West's intellectual property. RAC West owns and licenses the Rent-A-Center trademarks, trade names, and other intellectual property to all Rent-A-Center companies. RAC West does not own or operate any retail locations in South Carolina; thus, its only activity in South Carolina comes from the royalty fees it receives from RAC East.

For tax years 2003-2005, RAC West filed its South Carolina corporate income tax returns using the three-factor apportionment formula (i.e., property, payroll, sales). During an audit, the DOR applied an alternative apportionment method resulting in RAC West owing additional income tax, interest and penalties. The DOR argued that RAC West was diluting its South Carolina apportionment by including royalty income in the numerator while the denominator had royalty income and retail receipts, stating that the comparison was "apples to oranges." RAC West filed an appeal, and before the hearing, amended the 2003-2005 returns to use the gross receipts method under S.C. Code Section 12-6-2990 (single sales factor method).

During the hearing, the Court looked to the case of CarMax Auto Superstores West Coast, Inc. v South Carolina Department of Revenue.² In the CarMax case, which had a fact pattern very similar to RAC's, the Court ruled for the taxpayer and stipulated as follows:

"The party advocating an alternative apportionment method has the burden of proving by a preponderance of the evidence that: '(1) the statutory formula does not fairly represent the taxpayer's business activity in South Carolina and (2) its alternative accounting method is reasonable.'"

Providing a similar outcome as in CarMax, the Court ruled in favor of RAC West after concluding that the DOR did not present sufficient evidence showing that RAC West's use of the gross receipts method does not fairly reflect its business activity in South Carolina, stating that "substantial evidence does not support the ALC's finding the DOR met its burden."

Because the DOR did not meet its burden, the Court did not address whether the DOR's alternative method was reasonable.

Implications

As shown in court opinions for CarMax and Rent-A-Center, the party requesting an alternative method of apportionment has the burden of proving that (1) the statutory method fails to accurately represent business activities and that (2) the alternative method is reasonable. Notably, the DOR is commonly asserting alternative apportionment under audit, and these are the only recent cases to be published addressing burden of proof.

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ENDNOTES

¹ Rent-A-Center West Inc. v. South Carolina Dept. of Rev., No. 2012-208608 (S.C. Ct. App. Oct. 26, 2016).

² Carmax Auto Superstores West Coast, Inc. v. South Carolina Dep't of Revenue, 411 S.C. 79, 767 S.E.2d 195 (2014).