2015 LAW UPDATES
Tax Law – A Look Ahead Implications of IBM v. Department of Treasury By Camille Edwards
Overview On July 14, 2014, the Supreme Court of Michigan held that the taxpayer, International Business Machines (“IBM”), was entitled to use the three-factor apportionment formula under the Multistate Tax Compact for its 2008 Michigan taxes, instead of the sales-factor apportionment formula required by the Michigan Business Tax Act.1 This ruling entitled IBM to millions in refund and overturned the holding by the Court of Appeals that favored the Michigan Department of Treasury.2 In response to this ruling, both houses of the Michigan legislature passed S.B. 156, which retroactively repeals the state’s membership in the Multistate Tax Compact, effective January 1, 2008. This passage of a bill retroactively changing a decision by the state’s Supreme Court “raises many familiar state and local tax constitutional issues, including due process, separation of powers, compact law, and retroactive remedies law.”3 One major concern is the effect that laws such as S.B. 156 will have on multistate compact law, a major facet of relations among the states. Apportionment Issues and IBM v. Department of Revenue So what is apportionment and why was it an issue? States often deal with the issue of how to tax multistate taxpayers, as in “How should a tax liability be allocated to a firm that operates across many states?” What percentage of the corporation’s income can a state tax, when the revenues in that state are only a portion of a multistate or multinational business?
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Apportionment formulas, enacted by state law, are meant to measure business activity in a state, and consider the sales, property, and payroll (three-factor formula) of a taxpayer occurring in the state, or only the sales activity (single sales), to determine the percentage of income that the state can tax.4 For out-of-state corporations, those that have no property or payroll in a state, they benefit from the three-factor formula because a smaller percentage of their income will be taxed compared to a formula that only considers sales in the state; the total percentage allocated is diluted by having zero property and payroll. In a “quest for additional revenue” from out-of-state corporations, many states have begun to pass laws requiring apportionment formulas that only consider sales or that weight sales more than property and payroll.5 This was the case with IBM. In 1970 Michigan joined the Multistate Tax Compact (“MTC”), which provides taxpayers of member states the option to elect to use a three-factor apportionment, using equally weighted property, payroll, and sales.6 In 2008, Michigan enacted sweeping tax changes, introducing a new Michigan Business Tax (“MBT”), which requires all businesses to apportion using single sales factor. But while enacting this change, the legislature did not make any changes to its membership in the MTC. Thus IBM, an out-of-state taxpayer, elected to use the more favorable three-factor apportionment under the MTC on its 2008 return instead of
IBM v. Department of Treasury, Docket No. 146440, 2 (Supreme Court of Michigan, July 14, 2014). Id. Michael Herbert, Eric Burkheiser, and Timothy Pratschler, Michigan legislature passes bill retroactively repealing Multistate Tax Compact, September 11, 2014, Pwc Tax Insights from State and Local Tax Services, http://www.pwc.com/en_US/us/state-local-tax/newsletters/salt-insights/ assets/pwc-michigan-passes-bill-retroactively-repeal-multistate-tax-compact.pdf. Ama Sarfo, Multistate Tax Row Puts Compacts in Flux, Pomp Says, August 8, 2014, Law 360, http:// www.law360.com/articles/565507/print?section=tax. Id. IBM at 2-3. Id. at 15. Eric Burkheiser, Ralph Cornell, Michael Herbert, and Tim Pratschler, Michigan: Taxpayers entitled
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single sales, which would give it an additional $4.7 million refund. The Michigan Department of Treasury (“Department”) claimed that the MBT implicitly repealed the MTC by requiring only single sales, but the Supreme Court disagreed, declaring that Michigan’s pledge to allow members to use the three-factor apportionment was still intact. The majority led by Justice Viviano stated “Because the legislature gave no clear indication that it intended to repeal the Compact’s election provision, we proceed under the assumption that the legislature intended for both to remain in effect.”7 IBM was entitled to elect to use the three-factor apportionment under the MTC, which remained in effect until the legislature expressly amended the MTC’s election provision on May 25, 2011, disallowing making a three-factor election under the MTC as of January 1, 2011.8 Thus for 2008 through 2010, IBM and other taxpayers could elect threefactor apportionment under MTC. S.B. 156: Michigan’s Reactionary Law After the July 14 ruling, Michigan Attorney General Bill Schuette and Solicitor General Aaron Lindstrom filed a motion seeking a stay of enforcement of the decision, claiming that as a result of the decision Michigan would owe an estimated $1.1 billion in tax refunds, plus interest, to out-of-state corporate taxpayers, citing 134 ongoing cases where taxpayers were seeking refund in lower or administrative courts.9 The Department also requested a rehearing of the case, but the Supreme Court has not yet responded.10 The Michigan legislature acted
to apportion income under Multistate Compact three-factor election, July 16, 2014, Tax Insights from State and Local Tax Services, PricewaterhouseCoopers LLP, http://www.pwc.com/us/en/state-localtax/newsletters/salt-insights/michigan-taxpayers-entitled-apportion-under-compact-election. jhtml. Amy Hamilton, Michigan Owes $1.1 Billion in Tax Refunds Following IBM Decision, August 7, 2014, Tax Analysts, http://www.taxanalysts.com/www/features.nsf/Articles/D23458C825ADB62485257D2D0045B D92?OpenDocument. Michigan enacts legislation that could affect income apportionment, Ernst & Young, 1, October 13, 2014, https://www.google.com/webhp?sourceid=chrome-instant&ion=1&espv=2&ie=UTF8&safe=active&ssui=on#q=ernst%20and%20young%20michigan%20enacts%20legisaltion%20 that%20could%20affect%20income%20apportionment&safe=active&ssui=on.