San Francisco’s proposed regulation imitates California’s proposed regulation

San Francisco's Proposed Regulation No. 2025-01 largely follows California's proposed corporate income tax apportionment methodology. The California Franchise Tax Board’s (FTB) proposed revisions to its market sourcing regulation, Cal. Code Regs., tit. 18, § 25136-2, which are currently going through the formal rulemaking process. (See our prior coverage of California’s proposed amendments here, here, here, and here). Consistent with the proposed California amended regulation, San Francisco’s proposed regulation contains a waterfall approach to sourcing gross receipts from most services and intangible property and calls for the use of a “reasonable approximation” if a company is unable to use contracts, books and records, or other sources of information to determine the location of the benefit of a service or use of intangible property. Proposed Regulation No. 2025-01 also includes special industry apportionment rules that follow California’s special industry apportionment rules for franchisors (Cal. Code Regs., tit. 18, § 25137-3); motion picture and television film producers, distributors, and television networks (Cal. Code Regs., tit. 18, § 25137-8.2); print media (Cal. Code Regs., tit. 18, § 25137-12); and mutual fund service providers and asset management service providers (Cal. Code Regs., tit. 18, § 25137-14).

San Francisco’s Proposed Regulation No. 2025-01 differs, however, from the FTB’s proposed revisions to its market sourcing regulations in several ways. Some of the most notable differences are:

• Where FTB’s reasonable approximation rule expressly references the use of census (population) data as a reasonable approximation in certain circumstances, San Francisco’s proposed regulation references both census data and gross domestic product (GDP) data.
• San Francisco has a unique rule for sourcing sales of “financial instruments” to a corporation or business entity, looking first to the commercial domicile of a customer. San Francisco also has a unique presumption that the benefit of a service is received in San Francisco to the extent that it relates to “financial instruments if the customer is in San Francisco.”
• For mixed transactions, i.e., sales “from the provision of a service, and tangible or intangible property, or from the provision of tangible and intangible property,” where the value of each portion is not “readily ascertainable,” San Francisco has proposed a “principal purpose” test for characterizing the sale for apportionment purposes. This “principal purpose” test appears to be similar to the “true object” test used for sales tax purposes.
• San Francisco’s proposed regulation expressly states that it “does not preclude the application of the Tax Collector’s authority to determine gross receipts under Section 957 of the Business and Tax Regulations Code,” which permits the Tax Collector to require the use of an alternative apportionment rule if reasonable to “fairly reflect the gross receipts within the City.” Under California law, the FTB can require a departure from its apportionment regulations only where it establishes by “clear and convincing evidence” that the regulations do not fairly represent a taxpayer’s business activities in the state. See Appeal of Flour, 95-SBE-016 (Dec. 12, 1995).
• San Francisco also has not conformed to other California special industry apportionment rules applicable to partnerships, long-term contracts, banks and financial corporations (presumably because they are exempt from the gross receipts tax), commercial fishing, air transportation companies, railroads, trucking companies, and space transportation companies. Thus, for these taxpayers, the general allocation and apportionment rules would apply.

Anyone interested in submitting written comments can do so by sending them to taxreform2024@sfgov.org by 5:00 PM PST on Tuesday, April 8.