Final Nail in the Coffin for Cash Management System "Debt" in Massachusetts

Staples, Inc. and Staples Contract & Commercial, Inc. v. Commissioner of Revenue

Appellate Tax Board Docket Nos. C310639 and C310640 (September 4, 2015)  

The Appellate Tax Board has ruled in favor of the Commissioner of Revenue in yet another case involving the tax treatment of payments made within a centralized cash management system.  Given the string of Commissioner of Revenue victories on this issue, it does not appear that there is any scenario where the Appellate Tax Board would agree that true debt is created within the context of a cash management system.  See Kimberly-Clark Corporation & Kimberly-Clark Global Sales, Inc. v. Commissioner of Revenue, Mass. ATB Findings of Fact and Reports 2011-1, aff’d, 83 Mass. App. Ct. 65 (2013); Sysco Corporation v. Commissioner of Revenue, Mass. ATB Findings of Fact and Reports 2011-918, 940, aff’d, 465 Mass. 1109 (2013).   

In this case, Staples took the position that certain intercompany balances were bona fide debt owed by Staples to subsidiaries that were participating in its cash management system (“CMS”).  The Board was presented with two issues associated with treatment of intercompany balances under a CMS.  Whether the balances could be treated as liabilities in calculating Staples’ taxable net worth and whether the interest payments on the balances were deductible in computing taxable net income.   The disallowance of the interest deductions in a CMS has been previously upheld in Kimberly-Clark and Sysco.  The primary issue remaining was whether payables under a cash management system were deductible as liabilities in computing the net worth, or non-income, measure of the Massachusetts corporate excise.   

The Board determined that the intercompany transfers associated with the CMS did not give rise to bona fide debt, either for purposes of the net income portion or the net worth portion of the corporate excise.  The amounts transferred to Staples under the CMS were not limited in any manner.  There was no evidence of actual repayment, or intent to repay, the excess cash retained by Staples.  Although interest was accrued, no amounts of interest or principal were ever actually paid by Staples to the operating subsidiaries under the CMS.  Promissory notes did not reflect the actual transactions under the CMS and repayment of the purported debt was not secured.   

Staples argued that M.G.L. Ch. 63, § 30 required that the net worth of a corporation be determined by reference to the “book value” of its tangible and intangible assets. The Board pointed out that Massachusetts courts and the Board have rejected the notion that a taxpayer’s books and records should be controlling for tax purposes.  The Appeals Court specifically has held that the “method by which two related businesses account for cash transfers on their internal financial records  … do[es] not necessarily constitute a reliable reflection of the true nature of the transaction.” New York Times Sales, Inc. v. Commissioner of Revenue, 40 Mass. App. Ct. 749, 753 (1996).  Additionally, in Overnite Transportation Company v. Commissioner of Revenue, 54 Mass. App. Ct. 180 (2002), the Appeals Court confirmed that if interest expense could not be treated as a deduction from gross income with respect to the net income measure of the corporate excise, the “debt” could not figure as a liability in calculating the net worth measure.   

Finally, the Board rejected Staples’ argument that the transactions at issue satisfied the exception to M.G.L. c. 63, § 31J, which provides that the add back of expenses accrued or incurred by a related member is not required when an expense was the result of a transaction “(1) that was primarily entered into for a valid business purpose and (2) that is supported by economic substance,” so long as the taxpayer can demonstrate that reduction of tax was not the primary purpose for the transaction.   Since the Board had concluded that the transactions did not constitute debt, there was no interest that would qualify for a deduction. Therefore, the add-back statute was not applicable. 

Pierce Atwood LLP’s State and Local Tax Group consists of tax and litigation attorneys with decades of experience representing businesses and individuals before state and local taxing authorities throughout New England.  Our representation includes assisting clients with tax audits, challenging and resolving assessments, litigating contested tax issues, seeking refund claims before administrative tribunals and state courts, and advocating our clients’ positions before state appellate courts. Pierce Atwood attorneys routinely handle matters involving all tax types including state income, excise, sales and use, franchise, utility, telecommunications, and fuels taxes, as well as real and personal property tax.