Appeal from the Circuit Court of Cook County. No. 96 L 51389 The Honorable John A. Ward, Judge, Presiding.
The opinion of the court was delivered by: Justice Hourihane
Plaintiffs, the trustees of certain taxpayer trusts, appeal an order of the circuit court affirming a decision of the Illinois Department of Revenue (Department), which determined that the trusts are not entitled to a foreign tax credit under section 601(b)(3) of the Illinois Income Tax Act (Act) (Ill. Rev. Stat. 1987, ch. 120, par. 1-101 et seq.) against their Illinois income tax liability for tax years prior to 1988, or against their replacement tax liability.
We reverse in part and affirm in part.
The underlying facts are undisputed. Each trust is a "resident" of Illinois for purposes of the Act. See Ill. Rev. Stat. 1987, ch. 120, par. 15-1501(a)(20). Only tax years ending on or before December 31, 1987 are in issue. For each such year in which the trusts earned income from a state other than Illinois, i.e., from a "source state", they paid income tax to the source state on the income earned there.
On their federal income tax returns, the trusts each took a section 164 deduction for income taxes paid to a source state. See 26 U.S.C.A. § 164 (1986). On their Illinois returns for the same years, the trusts added back the federal deduction when calculating their "base income" under the Act, and then claimed a foreign income tax credit for taxes paid to a source state. The trusts also claimed a credit against their replacement tax liability. *fn1
The Department disallowed both credits. It determined that, for the tax years in issue, the trusts were not permitted to add back the federal deduction taken for source state taxes to their Illinois base income in order to preserve their ability to take the foreign tax credit. The Department also determined that the foreign tax credit applies only to income tax calculations and not to replacement tax calculations. The Department further rejected the trusts' arguments that disallowing the tax credits runs afoul of the uniformity clause of the Illinois Constitution (Ill. Const. 1970, art. IX, §2), the federal due process clause (U.S. Const., amend. XIV, §1), or the commerce clause (U.S. Const., art. I, §8). On administrative review, the circuit court affirmed the Department's decision, and this appeal followed.
Because the facts are undisputed and only questions of law are raised on appeal, review of the Department's decision proceeds de novo. Nokomis Quarry v. Department of Revenue, 295 Ill. App. 3d 264, 267, 692 N.E.2d 855 (1998).
Under section 601(b) of the Act, the amount of income tax payable shall be the balance due after giving effect to, among other things, the following:
(3) Foreign tax. The aggregate amount of tax which is imposed upon or measured by income and which is paid by a resident for a taxable year to another state or states on income which is also subject to the tax imposed by subsections 201(a) and (b) of this Act shall be credited against the tax imposed by subsections 201(a) and (b) otherwise due under this Act for such taxable year. *** The credit provided by this paragraph shall not be allowed if any creditable tax was deducted in determining base income for the taxable year." (Emphasis added.) Ill. Rev. Stat. 1987, ch. 120, par. 6-601(b)(3).
The "base income" of a trust is its federal taxable income. Ill. Rev. Stat. 1987, ch. 120, par. 2-203(c), (e)(1). In computing its federal taxable income, a trust is entitled to a deduction for state income taxes. 26 U.S.C.A. § 164 (1986). Thus, a trust's base income necessarily reflects the federal deduction. Accordingly, a trust is precluded from taking the foreign tax credit unless it either forgoes the federal deduction for state income taxes, or adds back the federal deduction when calculating its base income. However, prior to the passage of Public Act 85-1200, effective August 24, 1988, section 203 of the Act prohibited any modifications to taxable income or base income except those expressly provided therein. Ill. Rev. Stat. 1987, ch. 120, par. 2-203(h).
Public Act 85-1200 amended section 203 of the Act by providing that the taxable income of a trust may be modified by adding thereto an amount equal to the tax deducted pursuant to section 164 of the Internal Revenue Code (IRC) (26 U.S.C.A. § 164 (1986)), if the trust is claiming the same tax for purposes of the foreign tax credit under section 601. However, the statutory amendment states that such modification is allowable ...