California Appeals Court Affirms FTB's Alternative Apportionment Formula In 'General Mills'

The California Court of Appeal has affirmed a trial court's determination that a taxpayer's inclusion of gross receipts from commodity futures contracts used to hedge against price fluctuations was distortive, and an alternative apportionment formula used by the California Franchise Tax Board (FTB) was reasonable.1 In affirming the trial court, the Court of Appeal applied the qualitative and quantitative tests to determine that distortion existed. The Court held that the alternative apportionment formula that limited the amount in the sales factor to net gains was reasonable and fairly represented the extent of the manufacturer's business activity in the state.


The taxpayer, General Mills, is a large manufacturer of processed foods that is based in Minnesota and conducts business activities in various states, including California. In order to manage the risk of price fluctuations in the commodities used in manufacturing operations, General Mills engaged in a series of hedging transactions by entering into futures contracts for the purchase and sale of grain. On its originally filed California income tax returns, General Mills excluded all receipts from the sales of futures trading activities from the sales factor of the apportionment formula. Subsequently, General Mills filed refund claims by amending its California income tax returns to include these receipts in the sales factor. The FTB denied the refund claims and excluded all receipts from the futures contracts from the sales factor.

The California trial court originally held that General Mills' receipts were required to be excluded from its sales factor. The California Court of Appeal reversed the trial court's original decision, finding that General Mills' receipts were includible in the sales factor calculation.2 On remand, the trial court held that the use of gross receipts resulted in distortion and that the FTB's application of an alternative formula that used net gains was reasonable. General Mills appealed this decision to the Court of Appeal.

Use of Alternative Apportionment Formula

California law provides a taxpayer and the FTB with the power to employ, if reasonable, any method to equitably allocate and apportion the taxpayer's income if statutory allocation and apportionment does not fairly represent the extent of the taxpayer's business activity in California.3 Because the FTB was the party seeking to use an alternative apportionment formula, it had the burden of...

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