California Superior Court rules LLC "fee" unconstitutional.In two recent decisions--Northwest Energetic Services, LLC (Logical Link Control) See "LANs" under data link protocol.
LLC - Logical Link Control (NES NES Nintendo Entertainment System
NES Not Elsewhere Specified (shipping)
NES Nuclear Export Signal
NES National Election Studies
NES Nashville Electric Service
NES National Evaluation Systems, Inc. ) v. Franchise Tax Board (FTB FTB Franchise Tax Board (California; they collect income and sales tax)
FTB Family Tax Benefit (Australian welfare assistance)
FTB First Time Buyer (housing) ), Case No. CGC-05-437721 (4/13/06), and Ventas Finance I, LLC (Ventas) v. FTB, Case No. CGC-05-440001 (11/7/06)--the San Francisco San Francisco (săn frănsĭs`kō), city (1990 pop. 723,959), coextensive with San Francisco co., W Calif., on the tip of a peninsula between the Pacific Ocean and San Francisco Bay, which are connected by the strait known as the Golden County Superior Court held that the limited liability company (LLC) "fee" imposed by California Revenue and Taxation Code (CRTC CRTC Canadian Radio-Television & Telecommunications Commission
CRTC Combat Readiness Training Center
CRTC Cathode Ray Tube Controller
CRTC China Railway Telecommunications Center
CRTC Cold Region Test Center
CRTC Continuously Regenerated Trap Column ) Section 17942 is unconstitutional. Although California law California Law consists of 29 codes, covering various subject areas, the State Constitution and Statutes. See also
An unsuccessful party in a lawsuit must file an appeal with an appellate court in order to have the decision reviewed. , LLCs registered or doing business in California should consider filing protective refund claims, particularly if the statute of limitations A type of federal or state law that restricts the time within which legal proceedings may be brought.
Statutes of limitations, which date back to early Roman Law, are a fundamental part of European and U.S. law. for any year is about to close.
California's LLC Fee
In addition to the $800 minimum fee imposed by CRTC Section 17941 on all LLCs, CRTC Section 17942 also imposes a tiered fee on LLCs. The tiered fee is imposed on all LLCs doing business in California or, if they are not doing business there, that are organized or registered to do business there.
The fee is based on the LLC's total income, defined as gross income plus the cost of goods sold Cost of goods sold
The total cost of buying raw materials, and paying for all the factors that go into producing finished goods.
cost of goods sold . The fee ranges from zero for LLCs with total income of less than $250,000, to $11,790 for LLCs with total income of $5 million or more. Importantly, there is no provision for apportioning ap·por·tion
tr.v. ap·por·tioned, ap·por·tion·ing, ap·por·tions
To divide and assign according to a plan; allot: "The tendency persists to apportion blame as suits the circumstances" total income when determining the fee. Thus, income earned outside of California's borders is not removed from the LLC's tax base; instead, the fee is calculated with reference to the LLC's entire income, wherever earned.
In both NES and Ventas, the taxpayers argued that the lack of an apportionment The process by which legislative seats are distributed among units entitled to representation; determination of the number of representatives that a state, county, or other subdivision may send to a legislative body. The U.S. mechanism rendered the statute unconstitutional under both the Due Process and Commerce Clauses of the U.S. Constitution.
NES was an LLC organized under Washington state law. Although it was registered with the Secretary of State to do business in California, it conducted no business activities there and had no operations, property, inventory or place of business there. Further, it had no employees, agents or independent contractors acting on its behalf in that state.
For the calendar years 1997 and 1999-2001, NES paid the $800 minimum tax imposed on LLCs by CRTC Section 17941; however, it did not pay the Section 17942 fee. The FTB assessed NES for amounts statutorily required under Section 17942. NES paid the assessment, filed a refund claim and, after exhausting its administrative remedies, filed suit in superior court.
After determining that the "fee" constituted a tax, the court determined that the unapportioned fee violated the U.S. Constitution. Specifically, it determined that the fee violated the "fair apportionment" requirement imposed by the Due Process and Commerce Clauses, failing both the internal and external consistency tests.
"Internal consistency In statistics and research, internal consistency is a measure based on the correlations between different items on the same test (or the same subscale on a larger test). It measures whether several items that propose to measure the same general construct produce similar scores. " test: The internal consistency test is a hypothetical one that asks whether imposition of the same tax by all 50 states would add a burden to interstate commerce interstate commerce
In the U.S., any commercial transaction or traffic that crosses state boundaries or that involves more than one state. Government regulation of interstate commerce is founded on the commerce clause of the Constitution (Article I, section 8), which that intrastate commerce would not also bear. The court noted that if one assumes that California's LLC fee was replicated in every state, an interstate LEG with the same total income as NES would pay the maximum tax in every jurisdiction in which it operated or registered to do business. On the other hand, an LLC operating wholly within a single state would pay the maximum fee only once. The court thus concluded that the statute failed the internal consistency test; under such circumstances, the statute would clearly place a greater burden on interstate than on intrastate commerce.
"External consistency" test: The external consistency test, on the other hand, asks whether a state tax reaches beyond that portion of value fairly attributable to economic activity within the taxing state. The court found that California's LLC fee also failed this test; while NES did not have any activity in California, it was still subject to the maximum fee, a clear indication that the fee was not calibrated cal·i·brate
tr.v. cal·i·brat·ed, cal·i·brat·ing, cal·i·brates
1. To check, adjust, or determine by comparison with a standard (the graduations of a quantitative measuring instrument): to NES's instate in·state
tr.v. in·stat·ed, in·stat·ing, in·states
To establish in office; install. activity.
While NES provided clear guidance with regard to an LLC that had no California activity, it did not address the viability of CRTC Section 17942 as applied to a taxpayer with activity in California. This issue remained unresolved until the decision in Ventas.
Ventas was an LLC organized under the laws of Delaware that was qualified to do business in California. Ventas maintained its headquarters in Kentucky and conducted only a small fraction of its business activities in California. According to Ventas's complaint, it would have had California apportionment percentages ranging between 6.94% and 8.34% for the years at issue.
For calendar years 2001-2003, Ventas paid both the minimum tax imposed on LLCs under CRTC Section 17941 and the fee imposed under CRTC Section 17942. For each of the three years, the LLC fee amounted to $6,000, $11,790 and $11,790, respectively. Ventas filed a refund claim and, after exhausting its administrative remedies, filed suit in San Francisco Superior Court.
After determining that the "fee" constituted a tax, the court held that the fee violated the U.S. Constitution as applied to Ventas. As in NES, the court reasoned that the fee violated the Due Process and Commerce Clauses, because it was based on Ventas's worldwide receipts, rather than its California activities.
The court then had to determine whether the statute was invalid in its entirety or could be reformed. The court determined that reformation of the statute by adding an apportionment mechanism would run counter to the express intent of the legislature, and that the statute was thus invalid in its entirety.
Effect on Taxpayers
As noted, both NES and Ventas are superior court decisions. Article III, section 3.5 of the California Constitution requires state agencies to continue to enforce statutes until they are either repealed or declared unconstitutional by an appellate-level court. Thus, the FTB must continue to enforce CRTC Section 17942 until an appellate-level court issues a final decision.
As such, the decisions in NES and Ventas do not change any current or prospective filing requirements. However, taxpayers should consider filing protective refund claims for all open years, to avoid expiration of the statute of limitations during the time an appellate-level decision is pending. A Notice of Appeal was filed by the FTB in NES on Sept. 13, 2006 and in Ventas on Dec. 19, 2006. These appeals may take one or two years before final resolution, making the filing of protective claims all the more important.
Protective Claim Procedure
A protective refund claim is filed to protect a taxpayer's right to a potential refund based on a contingent event, such as pending litigation An action brought in court to enforce a particular right. The act or process of bringing a lawsuit in and of itself; a judicial contest; any dispute.
When a person begins a civil lawsuit, the person enters into a process called litigation. . The effect of the claim is to prevent an (otherwise expiring) statute of limitations from closing.
In a Public Service Bulletin issued on March 21, 2006, the FTB indicated that LLCs wishing to file a protective claim related to NES and Ventas should fax a letter to the FTB at (916) 845-9796. The letter should state that it is a protective claim and should include the LLC's name and identification number, the tax years involved, a description of the issue, the claim amount and the name, phone and fax number of the person to be contacted.
FROM VALERIE C. DICKERSON, J.D., CPA (Computer Press Association, Landing, NJ) An earlier membership organization founded in 1983 that promoted excellence in computer journalism. Its annual awards honored outstanding examples in print, broadcast and electronic media. The CPA disbanded in 2000. , COSTA MESA, CA, TIM TIM Timothy
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TIM Telecom Italia Mobile (Italian cellular provider) HAYES, CPA, SAN FRANCISCO, CA, AND FREDERICK THOMAS, J.D., Los ANGELES, CA