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The unitary business principle, in connection with a state taxing a multi-state business, is not so inflexible that as new methods of finance and new forms of business evolve it cannot be modified or supplemented where appropriate. Situations may occur in which apportionment might be constitutional even though the payee and the payor were not engaged in the same unitary business. An asset could form part of a taxpayer's unitary business if it serves an operational rather than an investment function in that business. Capital transactions can serve either an investment function or an operational function.
Illinois taxed a capital gain realized by Mead, an Ohio corporation that is a wholly owned subsidiary of petitioner, when Mead sold its Lexis business division. Mead paid the tax and sued in state court. The trial court found that Lexis and Mead were not unitary because they were not functionally integrated or centrally managed and enjoyed no economies of scale. It nevertheless concluded that Illinois could tax an apportioned share of Mead's capital gain because Lexis served an operational purpose in Mead's business. Affirming, the State Appellate Court found that Lexis served an operational function in Mead's business and thus did not address whether Mead and Lexis formed a unitary business.
Did the state courts err in considering whether the business division served an "operational purpose" in the taxpayer's business after determining that the business division and the taxpayer were not unitary?
Where the asset in question was another business, the "hallmarks" of a unitary relationship had been described as functional integration, centralized management, and economies of scale. The state trial court had found each of those hallmarks lacking and concluded that the business division was not a unitary part of the taxpayer's business. The appellate court, however, made no such determination. Relying on its operational function test, it reserved judgment on whether there was a unitary business. That question could be taken up on remand, and no opinion on that issue was expressed. The argument that the business division's own contacts with the State sufficed to justify the apportionment of the capital gain had not been raised nor passed upon in the state courts. Nor was it addressed in briefing, and thus, was not addressed.