California OTA Opinion Sheds Light on Unitary Substantiation Requirements

The California Office of Tax Appeals (OTA) has designated as pending precedential its opinion affirming the Franchise Tax Board’s (FTB’s) denial of roughly $8.6 million in refund claims for tax years 2009 through 2015 (see Appeal of NextEra Energy Capital Holdings, Inc. and Affiliates, 2026-OTA-311P). A companion nonprecedential opinion, 2026-OTA-312, denies the petition for rehearing, and narrows Rev. & Tax. Code (RTC) §25128.9 by holding that losses flowing into combined group net income are not activity excluded from apportionment.

The case provides further guidance on the level of substantiation required by a taxpayer when arguing both a lack of unity (Cal. Code Regs. §25120(b)(3)) and whether alternative apportionment applies (RTC §25137) based on separate accounting or profit margin disparity narratives. 

Background

Appellant, NextEra Energy, Inc., is a Florida-based public holding company. Its two principal operating subsidiaries are Florida Power & Light (FPL), a vertically integrated, rate-regulated electric utility operating entirely in Florida under Florida Public Service Commission oversight, and NextEra Energy Resources (NEER), a wholesale and renewable energy business operating outside Florida, including in California. FPL had no assets, plants, employees, customers, or sales in California in the years at issue; all California activity ran through NEER. FPL was profitable during the audit period, while NEER generated losses.

NextEra filed worldwide combined reports that included FPL but then filed refund claims taking the position that FPL and NEER were not unitary. Removing FPL would have stripped most of the taxable income from the California group. 

In the alternative, NextEra sought alternative apportionment relief under RTC §25137 and proposed separate accounting for FPL. 

The FTB denied both arguments.

Arguments

Unity

NextEra argued before the OTA that FPL and NEER operated as economic silos. FPL operated entirely in Florida under oversight by the state, which dictated rates, cost allocations, and affiliate transactions, and had its own workforce and operating leadership. NEER competed in the national wholesale energy market with a different management team, capital structure, and customer base. NextEra argued that the contact between FPL and NEER was mostly administrative (shared HR, legal, IT, and treasury) rather than operational. It pressed the public utility carveout historically recognized in Section 2 of the Uniform Division of Income for Tax Purposes.

The OTA read the record differently: Cal. Code Regs. §25120(b)(3) establishes a strong presumption that a taxpayer’s activities constitute a single business if “there is strong central management, coupled with” centralized departments for functions such as financing and advertising. The FTB determined unity of operations, so NextEra bore the burden of rebuttal under the dependency or contribution test of Edison California Stores, Inc. v. McColgan (1947) 30 Cal.2d 472. 

The OTC held that NextEra had not carried its burden. Overlapping executives and directors at the parent level, including NextEra executive officers concurrently serving in FPL roles, established implicit control under Appeal of Trails End Sports, Inc., 2020-OTA-333P, even without evidence of NextEra’s involvement in day-to-day operations. NextEra’s attempt to recast those shared roles as “administrative and oversight” did not prevail: Under Chase Brass & Copper Co. v. FTB, 10 Cal.App.3d 496 (1970), executive control at the highest corporate level is itself evidence of unity.

The OTA found actual control in NextEra’s enterprise-wide cost-savings initiative from 2013 through 2015, its affiliate-wide Code of Business Conduct, and its board-level Executive Committee. Further, executive transfers among FPL, NextEra, and NEER — particularly FPL’s CFO becoming NEER’s president and CEO — satisfied the factor in Appeal of Monsanto Co., 70-SBE-038 (Cal. St. Bd. Equal. 1985), regarding overlapping employees and executives. And the four centralized operating divisions housed at FPL but serving NEER, along with centralized legal, finance, treasury, HR, and IT functions, showed substantial functional integration rather than the routine parent oversight NextEra described.

Alternative Apportionment

Regarding alternative apportionment, NextEra argued that even if the businesses were unitary, combining them produced a distorted result. FPL’s regulated Florida operations generated one profile of profits from one set of activities; NEER’s out-of-state wholesale business generated a different profile from different activities. NextEra claimed that the two should not be jointly apportioned. It proposed separate accounting for FPL as the alternative method and offered the disparity between separate accounting and the standard formula as proof of quantitative distortion.

The OTA rejected both premises. The framework it applied — from Microsoft Corp. v. FTB, 39 Cal.4th 750 (2006), and General Mills, Inc. v. FTB, 208 Cal.App.4th 1290 (2012) — treats qualitative difference and quantitative distortion as joint elements, not independent tests. Qualitatively, the Microsoft paradigm does not reach cases in which both business lines are the taxpayer’s principal operating activity. Neither FPL nor NEER is an incidental support function comparable to those in Microsoft or General Mills, and profit margin differences across states — without more — do not establish qualitative distinction.

Quantitatively, NextEra’s separate accounting comparison did not clear the threshold in Hans Rees’ Sons, Inc. v. North Carolina, 283 U.S. 123, (1931). An RTC §25137 taxpayer must identify the activities that generate the margins in question and show that the standard formula assigns the resulting income in a distortive way. Percentage disparities alone do not meet that requirement. As stated in Citizens Utilities Co. of Illinois v. Department of Revenue, 111 Ill. 2d 32, 53 (Ill. 1986), “percentages without explanation are not helpful.” Accordingly, the OTA held that whatever disparity results from combining an in-Florida regulated utility with an out-of-Florida wholesale business is not a failure of the standard formula; rather, it is the ordinary consequence of unitary combination.

The Petition for Rehearing

NextEra argued on rehearing that the OTA had improperly imported the “strong central management” factors from Cal. Code Regs. §25120(b)(3), even though the FTB had disclaimed the presumption. The OTA disagreed. Those factors were evidence under the dependency or contribution test, not an application of the presumption. The FTB cited Trails End and argued integrated executive force in briefing and at oral argument. Disclaiming the presumption, in other words, does not preclude the FTB from relying on the same underlying factors as evidence under the traditional test.

NextEra also raised — for the first time on rehearing — RTC §25128.9, arguing that the wholesale energy business had generated no income subject to apportionment and would have been excluded had the statute applied. The OTA disagreed on a narrow textual ground: Because NEER’s losses were included in the combined group’s net income, the wholesale energy business did not generate income or loss “not included in net income” within the meaning of RTC §25128.9. 

What This Means

The OTA has given California taxpayers additional guidance on the level of substantiation required when a taxpayer argues there is a lack of unity and whether alternative apportionment applies based on margin disparity or separate accounting narratives. 

Perhaps more interesting, although not a central argument made by NextEra in its original petition, is the OTA’s view on how RTC §25128.9 should apply. The statute, enacted only a few years ago, is typically viewed as a sword wielded by the FTB. However, NextEra’s argument to sweep out loss-generating segments of a business advances a distinctive interpretation that, in turn, provides insight into the OTA’s view of the statute’s proper application.

The pending precedential opinion will likely become precedential unless there are compelling arguments from the taxpayer community against the designation.