United States: The Illinois Attorney General Offers To Settle False Claims Act Cases Against Wineries

Just as Reed Smith Obtains Private Letter Rulings Calling Legal Theory Underlyin

On July 23, 2015, the Illinois attorney general issued a group settlement proposal to the defendants in its Illinois False Claims Act ("IFCA") prosecutions of numerous out-of-state wineries. For at least the last decade, the Attorney General has authorized civil IFCA prosecutions by private plaintiffs alleging violations of the Illinois Use Tax Act. In recent years, the Attorney General authorized actions against Internet vendors registered to collect Use Tax but alleged not to have collected tax on shipping charges. An IFCA defendant can be held liable for three times the tax liability arising from the alleged violation, for a maximum of 10 years, with a penalty per violation of between $5,500 and $11,000, plus for the payment of attorney fees to the private plaintiff, referred to as a "relator."

Just days before the proposal, Reed Smith had informed the Attorney General that it expected to receive private letter rulings from the Illinois Department of Revenue (the "Department") on behalf of two wineries located outside of Illinois. In these rulings, the Department held that the separately stated shipping charges imposed by the wineries for purchases by Illinois customers were not subject to Illinois use tax, because the wineries offered their Illinois customers the option of picking up their purchases at the winery.

The timing of the Attorney General's settlement proposal gives the appearance of little more than an attempt to extract the maximum settlement value from the IFCA prosecutions at a time when the letter rulings have raised serious questions regarding the legal theory underlying the prosecutions.

The Letter Rulings On June 11, 2015 and July 14, 2015, Reed Smith requested private letter rulings from the Department on behalf of two wineries that are defendants in the IFCA prosecutions. In these requests, Reed Smith requested that the Department find that:

An out-of-state vineyard/winery that is registered as an Illinois Use Tax collector and which makes online sales of wine is not, pursuant to 86 Ill. Admin. Code § 130.415(d), required to charge Illinois Use Tax on the separately stated shipping charge on the invoice for such purchase by an Illinois purchaser when it offers its online customers (including, its Illinois customers) the delivery options to (A) have the wine shipped to the Illinois purchaser, or (B) have the purchaser take delivery of his or her purchase at the vineyard/winery outside of Illinois, and the Illinois purchaser declines option (B) and chooses option (A).

On July 14, 2015, based on the Department's representation that the private letter rulings would be issued, and that the above reading of the Department's Regulation, 86 Ill. Admin. Code § 130.415(d) was correct, and that the taxpayers would not owe tax on the shipping charges incurred by their Illinois customers, Reed Smith filed Motions to Dismiss the IFCA prosecutions authorized against the two wineries.1

The private letter rulings were signed by the Department on July 16, 2015 and received by Reed Smith on July 27, 2015. In the private letter rulings the Department examined its regulation in light of the decision in Kean v. Wal-Mart Stores, Inc., 235 Ill. 2d 351 (2009), and the Department determined as follows:

Thus, when charges for outgoing transportation and delivery are separately identified and the purchaser has the option to pick up the tangible personal property, outgoing transportation and delivery is considered a service separate and distinct from the sale of tangible personal property that is being transported or delivered and charges for such services should be excluded from the gross receipts subject to the Retailers' Occupation Tax (or Use Tax in the case of out-of-state wineries who sell directly to Illinois residents). When a seller offers the purchaser the option to pick up the property at the seller's location, the seller must maintain documentation which demonstrates that the purchaser had that option.

In your letter, you stated that your customers have the option to come to your winery and pick up any wine they purchase from you or they can have the wine delivered to them. In addition, you provided documentation to support your assertion that your customers have this pick-up option. Based on all the information you have provided in your letter, it is the Department's opinion that the transportation and delivery charges associated with your sales of wine are not subject to tax.

The Attorney General's Settlement Proposal Before the private letter Rulings were issued, Reed Smith had advised the Attorney General that the Department had provided Reed Smith with advance notice that it would be issuing rulings favorable to the wineries. It has been Reed Smith's experience that most of the defendant wineries in the IFCA prosecutions routinely and prominently offered the option to pick up wine purchases at the winery as an alternative to shipping to the purchaser. As a consequence, the Department's intent to issue the private letter rulings should have been a wake-up call to the Attorney General about the wisdom of pursuing the IFCA prosecutions against most of the defendant wineries.

Nevertheless, on July 23, 2015, almost 10 days after Reed Smith filed its motions to dismiss on behalf of its clients, the Illinois Attorney General issued a group settlement proposal. This proposal was sent to counsel for the defendants in the IFCA prosecutions, as well as directly to new winery defendants in IFCA prosecutions, some of which received the settlement proposal before even being served with a complaint.

The terms of the settlement proposal, which has been agreed to by the "State and Relator"2 are as follows:

  1. Relator will voluntarily dismiss all shipping and handling cases involving potential shipping tax due (i.e., single damages) of less than $1,000.
  2. As to shipping and handling cases with potential shipping tax due of $1,000 or greater, the State and Relator agree to settle those cases for two times ("2X") the sales tax potentially due on shipping and handling charges for all defendants' sales to Illinois customers from November 19, 2009 (the date of the Illinois Supreme Court's decision in Kean v. Wal-Mart) to the present (the "Time Period"). This 2X settlement amount will include any amounts due to the Relator for a relator's share of the proceeds pursuant to 740 ILCS 175/4(d).
  3. If Relator has engaged in no motion practice or discovery, Relator agrees to cap its attorney's fees, costs and expenses (combined) at $3,000 for cases settled pursuant to the terms of item 2 above. The cases involving no motion practice and discovery as of the date of this letter are identified under Category I in the attachment to this letter.
  4. In the other cases, any amounts due to the Relator for reasonable expenses and reasonable attorney fees and costs, pursuant to 740 ILCS 175/4(d), should be either negotiated separately between the Relator and defendants or determined by the Court via the Relator's filing of a petition for expenses, attorney's fees, and costs. These other cases are identified under Category II in the attachment to this letter.

Is the Attorney General's Settlement Offer a "good deal"? As a result of the letter ruling requests, Reed Smith confirmed the Department's position that at all relevant times under the applicable regulation no tax would apply to shipping charges when the vendor offers the option to pick up the purchase at the vendor's location, even if the vendor's location is outside of Illinois. No vendor offering that pick-up option to its purchasers should ever have been prosecuted under the IFCA.

If the Department's position is that the tax liability for such a defendant should have been zero, then a "good" settlement of an IFCA prosecution against such a defendant should be a finding of no damages and a dismissal order which provides that each party shall bear its own costs and attorneys' fees. One would have thought that the Attorney General, after being advised that a favorable Department ruling was forthcoming, would have made the effort to offer a "good" settlement proposal. Instead, the Attorney General made a cynical offer. In exchange for dropping a now untenable prosecution, all the Attorney General has offered is to limit a defendant's liability to double a tax amount that the Department has taken the position is not due, plus the relator's attorney's fee demand. In other words, the Attorney General is offering defendants the choice between bearing the costs of defending themselves in the IFCA prosecutions or agreeing to a settlement payment based on a nonexistent violation of the law.

The Attorney General successfully opposed making the Department a formal party to the IFCA prosecutions, foreclosing the opportunity to have the Department abate taxes if the liability was based on positions contrary to the Department's regulation. Nevertheless, Reed Smith has directly asked the Department to abate all taxes associated with transportation and delivery charges in situations in which its winery clients can show that a pick-up option was available.

For more information on the IFCA prosecutions in Illinois and the suit brought by the Wine Institute and its members, contact the authors of this Alert or another member of the Reed Smith State Tax Group.

  1. The Motions to Dismiss are still pending before Judge Thomas R. Mulroy, Jr.
  2. It should be noted that while the Illinois Attorney General refers to Stephen B. Diamond, P.C. (the Plaintiff in these IFCA prosecutions) as a "relator," it has yet to be proven that the Plaintiff is a relator for purposes of the Illinois False Claims Act.

This article is presented for informational purposes only and is not intended to constitute legal advice.

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