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What's next in South Central Bell?

On March 23, 1999, the Supreme Court released its long-awaited decision in South Central Bell Telephone Co. v. Alabama. The Court rejected Alabama's Eleventh Amendment challenge to the Court's jurisdiction, and upheld the taxpayer's Fourteenth Amendment due process rights and the Commerce Clause restriction against nonresident discrimination. (For a discussion, see News Notes, "Alabama Foreign Franchise Tax," TTA, May 1999, p. 284.) Bell marks the second time in 14 years that the Supreme Court has struck down an Alabama tax designed to impose a heavier tax burden on nonresident businesses. As in its earlier decision in Metropolitan Life Insurance Co. v. Ward, 470 US 869 (1985), the Court remanded the case to the state court to determine an appropriate remedy.

At this time, there can only be speculation as to what the remedy might be. The plaintiffs in Metropolitan Life settled their refund claims outside the court system, with the state agreeing to redesign the objectionable taxing system. This redesigned system of taxation was implemented eight years after the Court directed the state to develop a solution. If Alabama is to achieve a similar resolution of the current issue, it will likely be more difficult. To begin with, unlike the tax involved in Metropolitan Life, the corporate franchise taxes are imposed by the state constitution. The state constitution restricts the taxation of both domestic corporations and foreign corporations to the scheme found objectionable by the Federal court. Therefore, one or more constitutional amendments will be required to eliminate the existing taxing system. An amendment removing the constitutional provisions related to corporate franchise taxes has already passed the first steps in the process. Assuming the proposed amendment is ultimately approved, it will then be up to the Alabama legislature to craft a replacement for the lost revenue. Presumably, this will be in the form of a constitutionally acceptable replacement corporate franchise tax.

Will the plaintiffs in Bell eventually abandon their claims for refunds in exchange for a prospective remedy? Certainly, the state will correct the taxing system with or without an agreement from the Bell plaintiffs to abandon their claims. One initial proposal would have limited the tax to an amount less than $9,000, regardless of the assets the corporation employs in Alabama. To taxpayers like the plaintiffs in Bell, this limitation most likely is very attractive and may well be the incentive needed for them to drop their claims.

The Court's earlier decision in Newsweek, Inc. v. Florida Department of Revenue, 118 SCt 904 (1998), would appear to require Alabama to refund this tax. In Newsweek, the Court stated, "We emphasized a State `has the flexibility to maintain an exclusive predeprivation remedial scheme, only so long as that scheme is clear and certain.'" Absent such a clear and certain predeprivation remedial scheme in Alabama, the Bell decision seems to require a refund.

Regardless of whether the Bell plaintiffs drop their claims for refund, will other taxpayers petition for a refund and, if necessary, carry their petitions to the courts? Clearly, it would be less expensive to litigate such a claim than the total cost to Bell plaintiffs. Alabama Code Section 40-2A7(c)(1) provides that "[a]ny taxpayer may file a petition for refund with the department for any overpayment or other amount erroneously paid." It is difficult to contend that an unconstitutional tax paid is neither overpaid nor paid in error. Therefore, any taxpayer that has paid an Alabama foreign corporation franchise tax during a period currently open under the Alabama refund statute may submit such a petition. The Alabama Department of Taxation has six months to grant or deny the petition. If the Department fails to grant a refund within the six-month period, it is deemed to have been denied. On denial of the petition, the taxpayer has two years to submit an appeal.

While the Bell plaintiffs might receive significant benefit from any prospective amendment of the corporate franchise tax, what are the chances that similar prospective relief will be provided outside a compromise with the plaintiffs? Would increasing the tax on local businesses to the level the previous tax imposed on nonresidents be sufficiently unpopular for the citizens to demand change? It is precisely this power of the local electorate that the Supreme Court has cited for not objecting to taxing schemes that tax citizens of the state more heavily than nonresidents. We can logically presume the elected legislators are not oblivious to this power.

Analyzing the proposal, the upper limit on its assessment clearly favors local business, albeit seemingly within constitutional restrictions. Clearly, any cap on a tax benefits those with higher tax bases in the state over those with a minimal presence. It is doubtful that anyone would claim such a scheme does not favor large corporations domiciled within the state. However, this same benefit would also be available to corporations domiciled in other states with significant property and payroll in Alabama. This situation seems to provide a solution to Alabama's constitutional issue without increasing the tax on local businesses to the relative levels assessed by the prior scheme on many out-of-state corporations doing business in the state. Elected officials can protect their electoral base if they can convince their electorate to accept a limited tax increase. It would seem a lower tax rate with a higher upper limit may be more attractive to the business community in Alabama. The tax rate and the minimum and maximum tax base may vary significantly from the initial proposal, but something similar to-this proposal seems a most likely replacement.

What will other corporations subjected to this tax now do? Many will weigh the benefit of potential refunds against the expense and cost of attempting to obtain them, possibly proceeding to make applications for refunds. It remains to be seen how difficult and costly this process will be. However, those applying for refunds should be prepared to stay the course or walk away from their investment at some point in the process.

FROM RICHARD H. GRIFFEN, CPA, ELKHART, IN TTA
COPYRIGHT 1999 American Institute of CPA's
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Title Annotation:U.S. Supreme Court tax case concerning state discrimination against nonresident businesses
Author:Griffen, Richard H.
Publication:The Tax Adviser
Geographic Code:1USA
Date:Sep 1, 1999
Words:1003
Previous Article:Reverse sales and use tax audits.
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