April 14, 2011
RE: Iowa Source Income, your letter dated April 8, 2011
Dear :
Your letter dated April 8, 2011 has been referred to me for reply. You are asking if the capital gain from the sale of stock from an Iowa-based corporation would be Iowa source income for a nonresident based upon the following factual scenario.
Your scenario involves a nonresident of Iowa who owns stock in an Iowa-based family owned corporation. The stock was sold in 2010, and the sale was done to create an ESOP. You are asking if the capital gain from the sale of stock would be considered Iowa source income.
Iowa Code section 422.8(2)(a) relates to the determination of income for a nonresident of Iowa. This section states that the net income from a business, trade, profession, or occupation carried on within Iowa is considered Iowa source income. However, this section also states that annuities, interest on bank deposits and interest-bearing obligations, and dividends are allocated to Iowa only to the extent to which they are derived from a business, trade, profession, or occupation carried on within the state.
Iowa Administrative Rule 701—40.16(9)(a) provides more detail on the treatment of capital gain income from the sale of stock of a C corporation or S corporation for nonresidents. The relevant portion of the rule reads as follows:
40.16(9) Capital gains or losses from sales or exchanges of ownership interests in Iowa businesses entities by nonresidents of Iowa. Nonresidents of Iowa who sell or exchange ownership interests in various Iowa business entities will be subject to Iowa income tax on capital gains and capital losses from those transactions for different entities as described in the following paragraphs:
a. Capital gains from sales or exchanges of stock in C corporations and S corporations. When a nonresident of Iowa sells or exchanges stock in a C corporation or an S corporation, that shareholder is selling or exchanging the stock, which is intangible personal property. The capital gain received by a nonresident of Iowa from the sale or exchange of capital stock of a C corporation or an S corporation is taxable to the state of the personal domicile or residence of the owner of the capital stock unless the stock attains an independent business situs apart from the personal domicile of the individual who sold the capital stock. The stock may acquire an independent business situs in Iowa if the stock had been used as an integral part of some business activity occurring in Iowa in the year in which the sale or exchange of the stock had taken place. Whether the stock has attained an independent business status is determined on a factual basis.
For example, a situation in which capital stock owned by a nonresident of Iowa was used as collateral to secure a loan to remodel a retail store in Iowa, regardless of the ownership of the store, would meet the test for the stock being used as an integral part of some business activity in Iowa.
In your scenario, the Department contends that the creation of an ESOP results in the stock attaining an independent business situs since the stock is being used as an integral part of the business activity occurring in Iowa through the creation of the ESOP. Therefore, the Department contends that the capital gain earned by the nonresident should be considered Iowa source income.
Please be advised that this is an informal opinion of the author and is only applicable to the factual situation referenced and to the statutes in existence at the time of issuance. Because of this, the Department could, in the future, take a position contrary to that stated in this letter. Any oral or written advice or opinion rendered to members of the public by Department personnel that is not pursuant to a Petition for Declaratory Order under 701 IAC 7.56 is not binding upon the Department.
If you have any questions on this matter, please contact me at (515) 281-6183.
Sincerely,
Jim McNulty,
Taxpayer Services and Policy Division