This article originally appeared in the May 2025 issue of The Tax Adviser.
Income tax apportionment is an area of complexity for multistate taxpayers, practitioners, and state auditors. States use apportionment to determine what portion of a taxpayer’s business income they can tax, which often is based on the percentage of sales sourced to a state. States use cost of performance (COP) and market–based sourcing to source revenue from services, with a trend toward moving away from the COP method.
The shift from COP to market–based sourcing has created ambiguity and dispute. For instance, courts have highlighted that states “have struggled with issues related to sourcing sales of services.” Some confusion arises when taxpayers assume the billing address determines the customer or market location, only to find on state audit that another basis to determine sourcing applies. Taxpayers might also lack supporting documentation for their sales or incorrectly interpret “lookthrough” rules, which allow them to source receipts based not on characteristics of their customers but instead on characteristics of their customers’ customers.
This article outlines recent legislative and judicial changes in sourcing–of–services trends. It provides recommendations readers should consider in determining revenue sourcing and whether using a lookthrough approach is appropriate.
BDO’s Ilya Lipin and John Damin provide details in the full article in The Tax Adviser.