On September 11, Michigan Governor Rick Snyder approved legislation that is intended to prevent taxpayers from claiming Michigan Business Tax (MBT) refunds based on an election to use the Multistate Tax Compact's three-factor apportionment formula.1 This legislation addresses the Michigan Supreme Court's recent decision in International Business Machines Corp. v. Department of Treasury that allowed a taxpayer to elect to use the Compact's three-factor apportionment formula on its MBT return for the 2008 tax year.2 Specifically, the legislation retroactively repeals the Michigan statutes adopting the Compact effective January 1, 2008. The legislation also amends MBT statutes concerning the definition of "gross receipts," the sourcing of dock sales, the recapture of the investment tax credit and the renaissance zone credit. Finally, the legislation provides limitations on filing refund claims created by these MBT amendments.
Background
Effective July 1, 1970, the state of Michigan adopted the Compact.3 Under the Compact, a taxpayer subject to income tax may elect to use a state's apportionment formula or the Compact's equally-weighted three-factor apportionment formula.4 Michigan has changed its method of taxing businesses several times after adopting the Compact. In 1976, the state replaced its corporate income tax with the Single Business Tax (SBT).5 In 2008, Michigan replaced the SBT with the MBT.6 This tax, which consists of business income tax (BIT) and modified gross receipts tax (MGRT) components,7 expressly repealed the SBT, but did not expressly repeal the Compact. The MBT generally requires taxpayers to apportion their income using a single sales factor formula.8 Michigan returned to a corporate income tax (CIT) for tax years beginning on or after January 1, 2012.9 In May 2011, Michigan amended the statute adopting the Compact to expressly provide that the three-factor apportionment election is unavailable for MBT or CIT purposes beginning January 1, 2011.10 Such amendment, when enacted, was thought to imply that the election was available for MBT purposes prior to that date.
Taxpayers have argued that Michigan law permits them to make a three-factor apportionment election with respect to the MBT. In IBM, the Michigan Supreme Court agreed, holding that a taxpayer was allowed to elect to use the Compact's three-factor apportionment formula for purposes of the MBT for the 2008 tax year.11 An opinion written by a three-justice plurality of the seven-justice Court held that the legislature had not repealed the Compact's apportionment election provision by implication when it enacted the MBT. Also, the plurality held that the taxpayer could use the Compact's apportionment formula for the MGRT component of the MBT because it constituted an income tax for purposes of the Compact. In a concurring opinion, a fourth justice concurred with the plurality that the taxpayer was entitled to make the three-factor apportionment election and that the MGRT was an income tax for Compact purposes, but did not find it necessary to consider whether the legislature impliedly repealed the election when it enacted the MBT.12
Compact Retroactively Repealed
The legislation includes an "enacting section" providing that the Michigan statutes that adopted the Compact13 are repealed retroactively and effective beginning January 1, 2008. Furthermore, the legislation explains that "[i]t is the intent of the legislature that the repeal of [the Michigan statutes adopting the Compact] is to express the original intent of the legislature regarding the application of [the MBT apportionment statute] and the intended effect of that section to eliminate the election provision included within [the Compact]." Also, the 2011 legislation that "amended [Michigan's statute adopting the Compact's election provision] was to further express the original intent of the legislature regarding the application of [the MBT apportionment statute] and to clarify that the election provision included within [the Compact] is not available under the income tax."
MBT Amendments
The legislation also makes several MBT amendments that are effective for tax years beginning on or after January 1, 2010.
"Gross Receipts" Excludes Cancellation of Debt Income
For purposes of the MGRT component of the MBT, the legislation amends the definition of "gross receipts" to exclude amounts attributable to the taxpayer pursuant to a discharge of indebtedness as described under Internal Revenue Code (IRC) Section 61(a)(12), including forgiveness of a nonrecourse debt.14
Sourcing of Dock Sales
For MBT apportionment purposes, sales of tangible personal property are sourced to Michigan if the property is shipped or delivered to a purchaser within the state based on the ultimate destination at the point that the property comes to rest.15 Dock sales16 generally are sourced to the purchaser's destination state. If the purchaser does not pick up the dock sale for 60 days or more, the property is deemed to have come to rest at this ultimate destination. As amended, a dock sale that is picked up by the purchaser within 60 days is not deemed to have come to rest at this ultimate destination.17 This amendment corrects an apparent inconsistency that was in the statute.
Recapture of Investment Tax Credit
Under existing law, the MBT has a combined compensation and investment tax credit that is subject to recapture when the property is sold.18 The statute is amended to provide that the recapture is limited to the extent that the credit was used, and the rate at which the credit was used.19
Renaissance Zone Credit
The MBT currently provides a credit to taxpayers that conduct business activity within a renaissance zone.20 Generally, the credit equals the lesser of: (i) the tax liability attributable to business activity conducted within a renaissance zone in the tax year; (ii) 10 percent of adjusted services performed in a designated renaissance zone (collectively, (i) and (ii) are considered to be the "standard calculation"); or (iii) the result of an alternative calculation provided for taxpayers located and conducting business activity in a renaissance zone before December 31, 2002 (the "alternative calculation"). As amended, the standard calculation applies to taxpayers located and conducting business activity in a renaissance zone after November 30, 2002. For a taxpayer located and conducting business activity in a renaissance zone before December 1, 2002, the credit equals the greater of: (i) the amount computed under the standard calculation; or (ii) the amount computed under the alternative calculation.
Refund Claims
If a taxpayer has an overpayment of tax due to one of these MBT amendments for any tax year beginning after December 31, 2009 through the tax year beginning after December 31, 2013, the taxpayer must file a refund claim on or after January 1, 2015 but no later than December 31, 2015.21 Any refund paid under this provision will be paid in equal annual payments over six years beginning in 2016. The Department of Treasury may assess a taxpayer that claimed a refund under this provision for any amount determined after audit or investigation to have exceeded the correct overpayment amount. The standard audit and assessment time requirements and statute of limitations do not apply, but the assessment must be issued within four years after the taxpayer filed its refund claim.
Commentary
The IBM case and the three-factor apportionment election under the Compact have received considerable attention, as numerous taxpayers have filed refund claims based on the three-factor apportionment election over the past several years. The Department has estimated that the state would owe approximately $1.1 billion in refunds on the issue.22 By providing that the Compact was retroactively repealed effective January 1, 2008, the legislature is attempting to preclude all of these refund claims.
Many taxpayers that have filed refund claims will pursue litigation concerning this legislation. If they filed refund claims prior to the enactment of the legislation, taxpayers may argue that they have a "vested right" in the refund claim. Taxpayers potentially have a good argument to litigate based on retroactivity, though it is not certain whether the retroactivity argument will be successful. In Miller v. Johnson Controls, Inc., the Kentucky Supreme Court considered whether a lengthy retroactive period that effectively denied refunds for a class of taxpayers was permissible.23 The Kentucky Supreme Court upheld the constitutionality of amendments to corporate income tax statutes that barred the filing of combined tax returns under the unitary business concept and related tax refunds for tax years prior to 1995, because the amendments were considered to be rationally related to the legitimate governmental purpose of regulating revenue.24
The legislation's intended prevention of other similarly situated taxpayers from receiving a refund on the same basis as IBM, solely because the legislature decided to clarify its intent, sets a very troubling precedent. As noted above, in 2011, the legislature amended the Michigan statute adopting the Compact to provide that the three-factor election is unavailable beginning January 1, 2011.25 The Michigan Supreme Court explained in IBM that by only repealing the Compact's election provision starting January 1, 2011, the legislature created a window from 2008 through 2010 in which it did not expressly preclude the use of the Compact's election for MBT purposes. The Michigan legislature's most recent action implies that when it addressed the Compact issue in 2011, it did not intend that the Compact election could be made for the 2008 through 2010 tax years. The executive and legislative branches of the Michigan government may not have liked the decision in IBM, but effectively expunging the decision for similarly situated taxpayers strikes a blow to the vitality of the judicial branch. It stands to reason that any time a taxpayer receives a positive decision in a court, others in the same position may not be able to assume that they will be granted the same relief if the fiscal impact of the decision is perceived to be too great.
Overshadowed by the Compact issue is the fact that the legislation does provide for a few MBT refund opportunities, including the amendments to the definition of "gross receipts," the sourcing of dock sales, the recapture of the investment tax credit and the renaissance credit.26 However, even these opportunities include a refund provision that can best be described as parsimonious. While taxpayers must file these refund claims during 2015, taxpayers will only receive one-sixth of the full refund amount each year from 2016 until 2021. Given what has happened with respect to the Compact in Michigan, one can only wonder whether the Compact litigation will be settled by the time taxpayers fully receive their refunds from the effect of the MBT amendments contained in this legislation.
Footnotes
1 Act 282 (S.B. 156), Laws 2014. For further discussion of this legislation, see Bill Analysis of S.B. 156, Michigan Senate Fiscal Agency, Sep. 10, 2014.
2 Michigan Supreme Court, Dkt. No. 146440, July 14, 2014. For a discussion of this case, see GT SALT Alert: Michigan Supreme Court Allows Multistate Tax Compact Three-Factor Apportionment Election for 2008 MBT Return.
3 MICH. COMP. LAWS § 205.581.
4 MICH. COMP. LAWS § 205.581(Art III)(1).
5 Former MICH. COMP. LAWS § 208.1 et seq.
6 MICH. COMP. LAWS § 208.1101 et seq.
7 MICH. COMP. LAWS §§ 208.1201; 208.1203. The BIT base is calculated by taking federal taxable income and applying several state-specific additions and subtractions before apportionment. The MGRT base consists of a taxpayer's gross receipts less "purchases from other firms" before apportionment.
8 MICH. COMP. LAWS § 208.1301(1), (2).
9 MICH. COMP. LAWS § 206.601 et seq.
10 Act 40 (H.B. 4479), Laws 2011, amending MICH. COMP. LAWS § 205.581(Art III)(1).
11 Michigan Supreme Court, Dkt. No. 146440, July 14, 2014.
12 The remaining three justices filed a dissenting opinion, concluding that the taxpayer could not make the three-factor apportionment election under the Compact.
13 MICH. COMP. LAWS §§ 205.581 to 205.589.
14 MICH. COMP. LAWS § 208.1111(1)(ff).
15 MICH. COMP. LAWS § 208.1305(1)(a).
16 Id. A "dock sale" is defined as a "sale in which the purchaser uses its own or rented vehicles, or makes arrangements with a carrier, to pick up the property at the seller's location."
17 Id.
18 MICH. COMP. LAWS § 208.1403.
19 MICH. COMP. LAWS § 208.1403(d), (e), (f).
20 MICH. COMP. LAWS § 208.1433
21 S.B. 156, § 508.
22 Bill Analysis of S.B. 156, Michigan Senate Fiscal Agency, Sep. 10, 2014.
23 296 S.W.3d 392 (Ky. 2009), cert. denied, 130 S. Ct. 3324 (2010).
24 Id.
25 Act 40 (H.B. 4479), Laws 2011, amending MICH. COMP. LAWS § 205.581(Art III)(1).
26 The Department estimates that these MBT amendments will result in approximately $32 million in refunds. Bill Analysis of S.B. 156, Michigan Senate Fiscal Agency, Sep. 10, 2014.
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