Key Takeaways
- The Arkansas Supreme Court rules that gains from a complete liquidation are non-business income, even if the assets sold were used in ongoing operations.
- A one-time, extraordinary sale may fall outside the functional test where the taxpayer is not in the business of disposing of assets.
- Treating liquidation gains as nonbusiness income shifts taxation to the taxpayer’s commercial domicile and can reduce multi-state exposure.
For multistate businesses, few state tax issues generate more controversy than the classification of income as business or non-business. The distinction may sound technical, but it can drive drastically different tax outcomes, particularly when large, one-time transactions are involved.
In a recent decision, the Arkansas Supreme Court reaffirmed that not all gains from the sale of operating assets are apportionable business income. In Hudson v. United States Beef Corporation, the court held that gains from a complete liquidation of restaurant franchises were non-business income, allocable to the taxpayer’s commercial domicile rather than taxable in Arkansas.
The Basics: Business vs. Non-Business Income
Under the Uniform Division of Income for Tax Purposes Act (UDITPA) — which Arkansas continues to apply for pre-2026 tax years — income must be classified as either:
- Business income, which is apportioned among the states where the taxpayer operates.
- Non-business income, which is allocated to a specific state, most often the taxpayer’s commercial domicile.
That distinction is critical. Apportionment spreads income across multiple jurisdictions, while allocation is typically an all-or-nothing result.
The Case: Hudson v. United States Beef Corporation
United States Beef Corporation was commercially domiciled in Oklahoma and operated Taco Bueno and Arby’s franchises across several states, including Arkansas. In 2018, after receiving unsolicited offers, the company sold all its operating assets — both tangible and intangible — and fully liquidated the business.
On its Arkansas corporate income tax return, US Beef treated the gains from the sale of intangible assets as non-business income and allocated them to Oklahoma. The Arkansas Department of Finance and Administration disagreed, asserting the gains were apportionable business income. The dispute worked its way through administrative appeals and the circuit court before reaching the Arkansas Supreme Court.
Arkansas applies two alternative tests to determine whether income qualifies as business income:
- Transactional Test – Income arising from transactions in the regular course of the taxpayer’s trade or business.
- Functional Test – Income from property where the acquisition, management, and disposition of the property are integral parts of the taxpayer’s regular business operations.
The parties agreed that the transactional test was not satisfied. On the functional test, the court held that US Beef was in the business of operating franchises, not disposing of them. The sale was a one-time, extraordinary event resulting in complete liquidation and was not part of regular business operations. As a result, the gains were properly treated as non-business income, allocable to Oklahoma, and not taxable by Arkansas.
Why This Matters
This decision underscores several important principles for multi-state taxpayers:
- States cannot automatically classify exit or liquidation gains as business income merely because the assets were operational.
- The functional test has meaningful limits when a taxpayer is not regularly engaged in asset dispositions.
- Proper classification can dramatically affect state tax exposure, often shifting income entirely out of a taxing jurisdiction.
Practical Takeaways for Multi-State Taxpayers
- Don’t assume large gains are apportionable. Even sales of operating assets can generate non-business income if the disposition is extraordinary.
- Document the transaction. Evidence that a sale was unsolicited, infrequent, or part of a complete liquidation can be outcome-determinative.
- State-specific statutes still matter. Many states have modernized their definitions of business income. However, for earlier years, the legacy UDITPA language can still control.
- Expect scrutiny. States remain aggressive in challenging non-business income treatment, particularly where large refunds are at stake.
Planning a merger, acquisition, or exit transaction?
This case is a timely reminder that transaction structure and income classification can materially impact state tax exposure. Issues related to asset sale gains, intangibles, and multistate apportionment should be evaluated early in the process.
If you are contemplating a merger, acquisition, or other significant transaction, our State and Local Tax (SALT) team can help with potential state tax implications and planning opportunities.
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