Hernandez, which has been an S corporation since inception, is subject to tax in States Y and Z. On Schedule K of its Federal Form 1120S, Hernandez reported ordinary income of $500,000 from its business, taxable interest income of $10,000, capital loss of $30,000, and $40,000 of dividend income from a corporation in which it owns 30%.
Both states apportion income by use of a three-factor formula that equally weights sales, payroll, and the average cost of property; both states treat interest and dividends as business income. In addition, both Y and Z follow Federal provisions with respect to the determination of corporate taxable income. Y recognizes S status, but Z does not.
Based on the following information, write a memo to the shareholders of Hernandez, detailing the amount of taxable income on which Hernandez will pay tax in Y and Z. Hernandez corporate offices are located at 5678 Alabaster Circle, Bowling Green, KY 42103.
State Y State Z
Sales $1,000,000 800,000
Property (average cost) 500,000 100,000
Payroll 800,000 200,000