Appeal from the Circuit Court of Cook County. Honorable Joanne L. Lanigan, Judge Presiding.
The opinion of the court was delivered by: Justice O'malley
The Illinois Department of Revenue (the Department) conducted an audit of Zebra Technologies' (taxpayer) corporate income tax returns for the years ended 1993, 1994 and 1995 (audit period). The Department included in taxpayer's unitary group subsidiaries that taxpayer previously excluded and treated certain income as business income that had been allocated to another state as nonbusiness income. Taxpayer paid all proposed adjustments with interest under protest. The Department did not issue an official notice of deficiency. Taxpayer then filed an action in the circuit court of Cook County. The circuit court found in favor of the Department. Taxpayer filed this timely appeal and we now affirm.
Taxpayer is a corporation engaged in the business of manufacturing two-dimensional bar coding equipment and related supplies that it sells throughout the world. Taxpayer is incorporated in Delaware with its corporate headquarters located in Vernon Hills, Illinois, and has several wholly owned subsidiaries located both within and outside the United States. Taxpayer, through its employees, developed patents, trademarks and other intellectual property, both before and after the audit period, used in the manufacture and sale of its products. Taxpayer deducted from its taxable income the expenses it incurred to develop and maintain this intellectual property.
Charles Whitchurch was taxpayer's chief financial officer and a director in each of the subsidiaries involved in this matter. Additionally, at all times during the audit period, a majority of the directors of each subsidiary referenced in this appeal were also officers or directors of taxpayer. Each subsidiary is described in greater detail below.
In 1994, taxpayer incorporated two wholly owned subsidiaries in Delaware, Zebra Domestic Intangibles (ZDI) and Zebra International Intangibles (ZII). Taxpayer transferred all of its intellectual property to ZDI and ZII and then each corporation licensed the intellectual property back to taxpayer and taxpayer's affiliated companies. ZDI licensed intellectual property used in the United States, while ZII licensed intellectual property used outside the United States.
ZDI and ZII charged a royalty of 9.5% of the gross sales of the products using the intellectual property to taxpayer and its affiliated corporations. After receiving the royalty payment, ZDI and ZII would pay its respective expenses and would declare a dividend of the remaining amount to taxpayer. Transfers of these funds occurred at a bank located in Illinois where taxpayer, ZDI and ZII had accounts. Taxpayer would transfer the royalty payments from its account at the bank located in Illinois to ZDI and ZII's account at the same bank. ZDI and ZII would simply do the reverse of the aforementioned transaction, minus expenses, to pay out the dividend to taxpayer. Taxpayer contends that the purpose of incorporating ZDI and ZII was to own, protect and license trademarks, patents and other intellectual property once belonging to taxpayer.
In 1995, ZDI and ZII moved its corporate headquarters to Hamilton, Bermuda, where each company rented office space and each paid $1,000 for a computer. Each company employed Steven Hantelman, a former certified public accountant and investment banker, to manage business affairs for the companies. He had no experience in managing intellectual property, trademark rights or patents. He testified that his services consisted mostly of signing registration applications and renewal papers sent to him by the law firm that handled taxpayer's intellectual property matters. Hantelman also testified that he received quality control reports from taxpayer's department heads which he read, signed and filed. Hantelman was paid $600 per month by each company for the performance of various duties related to the business of ZDI and ZII pursuant to an employment agreement.
In 1993, taxpayer incorporated ZIH, Inc., a wholly owned subsidiary of taxpayer, in Delaware with its corporate headquarters located in Wilmington, Delaware. Taxpayer contributed two large portfolios of cash and marketable securities to ZIH in exchange for all of ZIH's capital stock in 1993. ZIH placed the portfolios of cash and marketable securities with Smith Barney and Capital Insight, professional investment corporations, to invest and reinvest the earnings in accordance with taxpayer's investment policies. Whitchurch oversaw the managers' compliance with taxpayer's investment policy and recommended that the portfolio managed by Capital Insight be liquidated, thereafter ZIH implemented this recommendation. A local company provided site management services for ZIH in Wilmington, Delaware.
During taxpayer's audit period, ZIH owned two subsidiaries. In September 1993, Zebra Technologies Preston (Preston) was created as a wholly owned subsidiary of ZIH for the purpose of acquiring all the assets of an unrelated company known as Brooks Labels & Consulting (Brooks). In order to accomplish the acquisition of Brooks Labels, ZIH contributed $828,025 *fn1 in the form of a promissory note to Preston and Preston immediately used the cash to purchase the assets of Brooks Labels. In April 1994, ZIH made a capital contribution to Preston of the note securing the loan to Preston. Also in April 1994, ZIH acquired a second subsidiary, Zebra Technologies Europe, Ltd. (Europe), that had been organized as a wholly owned subsidiary of taxpayer, but was later organized as a wholly owned subsidiary of ZIH through an exchange of stocks plus a payment of $12,661 by ZIH to taxpayer. Preston then became a wholly owned subsidiary of Europe. Taxpayer's Illinois income tax returns for the audit period listed ZIH as a part of its unitary business group, but classified the income as nonbusiness income allocable to the state of commercial domicile.
The Department conducted an audit of taxpayer's Illinois corporate income tax returns for the years ending December 31, 1993, 1994 and 1995. In its returns for tax years 1994 and 1995, taxpayer excluded ZDI and ZII from its unitary business group. For the tax years 1993, 1994 and 1995, taxpayer included ZIH in its unitary business group, but allocated all of its income to Delaware, its state of commercial domicile, as nonbusiness income.
Pursuant to its audit, the Department included ZDI and ZII in the unitary business group for the 1993 and 1994 tax years and included ZIH's income as business income, subject to apportionment in Illinois. The Department did not impose any penalties and taxpayer paid, under protest, the amount of all proposed adjustments in full with interest. Taxpayer then filed this action in the circuit court of Cook County seeking a determination of its actual income tax liability and a refund for any overpayments.
After a three-day bench trial, the circuit court entered an order on July 23, 2001, finding that all subsidiaries in question were properly included in taxpayer's unitary business group for purposes of section 1501 of Illinois Income Tax Act (the Act) (35 ILCS 5/1501 (West 2000)). The trial court also found that the income of ZIH was taxable in Illinois to the extent that the income was used to fund corporate acquisitions, but not taxable as to any amount not used in business operations.
The trial court's first order determined neither the amount of tax owed to the Department nor the refund, if applicable, to taxpayer. At taxpayer's request, the circuit court issued a second order on August 8, 2002, making a Supreme Court Rule 304(a) (155 Ill. 2d R. 304(a)) finding relative to most of the July 23, 2001 order. The parties then entered into a stipulation as to the amount that would be refunded to taxpayer from the protest fund if the circuit court's ruling in the July 23, 2001, order were applied to the facts of this action. Pursuant to this stipulation, the trial court entered a judgment specifying the amount to be refunded to taxpayer in accordance with the rulings in its July 23, 2001, order. Taxpayer filed a new notice of appeal and the Department cross-appealed claiming that all income earned by ZIH was subject to apportionment as business income, not just the amount actually used in the acquisition of new corporations.
This court reviews pure questions of law under a de novo standard of review, without deference to the circuit court concerning the content of any rule of law relevant to this proceeding. Zeitz v. Village of Glenview, 304 Ill. App. 3d 586, 592, 710 N.E.2d 849 (1999). The circuit court's finding of fact, however, is entitled to deference by this court and may be reversed only if it is contrary to the manifest weight of the evidence. Zeitz, 304 Ill. App. 3d at 592. Mixed questions of fact and law, which involve the application of law to a particular set of facts, are subject to review under the clearly erroneous standard, affording the circuit court less deference than for questions of fact. Zeitz, 304 Ill. App. 3d at 592. Under the clearly erroneous standard of review, a finding by the trial court may be reversed only if, after careful examination of the record in light of the applicable rule of law, the reviewing court is left with the "definite and firm conviction" that the finding is in error. AFM Messenger Service, Inc. v. Department of Employment Security, 198 Ill. 2d 380, 395, 763 N.E.2d 272 (2001).
The Department argues in its brief that this court lacks jurisdiction over appeal number 1-01-2861. Without belaboring this point, we agree with the Department because the trial court's original order was not a final judgment under Supreme Court Rule 304 (155 Ill. 2d R. 304). Appeal number 1-01-2861 is therefore dismissed. The Department, however, conceded at oral argument that the trial court's subsequent order incorporating the parties' stipulations was a final judgment as contemplated by Rule 304 (155 Ill. 2d R. 304) and appeal number 1-02-0386 is ...