I. INCOME/FRANCHISE TAXES.

A. Legislative Developments.

None.

B. Judicial Developments.

1. World Acceptance Corporation, et al. v. Commonwealth of Kentucky, Finance & Administration Cabinet, Department of Revenue, Kentucky Board of Tax Appeals, File No. K13-R-18, Order No. K-24682 (August 29, 2014), appealed to Franklin Circuit Court, Civil Action No. 2014-CI-1193 (August 14, 2015), vacated and reversed (November 10, 2015), appealed to Kentucky Court of Appeals, Case No. 2015-CA-001852 (Pending).

On November 10, 2015, the Franklin Circuit Court granted the Kentucky Department of Revenue's (the "KDOR") motion to alter, amend, or vacate the Court's August 14, 2015 Order holding that an out-of-state corporation and its Kentucky subsidiary were required to file consolidated income tax returns. In so doing, the Court affirmed the final ruling of the KDOR and the Kentucky Board of Tax Appeals (the "KBTA"). The taxpayers, World Acceptance Corporation ("WAC") and its wholly-owned subsidiary, World Finance Corporation of Kentucky ("WFCKY") (collectively "Taxpayers") amended the separate returns initially filed by WFCKY to reflect the consolidated filing of the Taxpayers for tax years 2007-2010. The amended returns resulted in significant refund claims being owed to the Taxpayers, and the KDOR denied the refund claims. Notably, the Taxpayers relied upon a letter ruling issued by the KDOR advising WAC to file a consolidated return.

The Taxpayers appealed the KDOR's denial of their refund claims to the KBTA, which ruled in favor of the KDOR. The Taxpayers appealed the KBTA's decision to the Franklin Circuit Court, which initially reversed the KBTA and ordered the KDOR to grant the Taxpayers' refund claims. In its first order, the Court held the KDOR's interpretation of the relevant statutes contradicted fundamental rules of statutory construction. Nevertheless, the Court granted the KDOR's motion to alter, amend, or vacate the Court's judgment, finding its initial Order was "erroneous".

The KDOR argued the facts contained in the anonymous request for a letter ruling submitted by WAC were materially different from the facts provided in WAC's amended return because WAC failed to disclose that management services were performed outside Kentucky or that the employee providing services in Kentucky also worked in another state. The Court concluded the KBTA's finding that the facts presented in WAC's amended returns were materially different from the facts presented in WAC's request for a letter ruling was based upon substantial evidence. The Court noted that WAC did not disclose that its employee working in Kentucky also worked the majority of the time in other states or that management services were performed outside Kentucky. Furthermore, in a holding that provides unprecedented protections to the KDOR and greatly undermines the utility of the letter ruling process, the Court held:

[A]n anonymous request for a letter ruling submitted by a taxpayer is not binding on either [the KDOR], the taxpayer, or a Kentucky court of law so long as that request contains facts that are materially different from those submitted in a subsequent filing with [the KDOR] or if [the KDOR] misapplies the applicable statutes and regulations to the facts submitted to it by the taxpayer.

(Emphasis added).

The Court next proceeded to address the parties' statutory construction arguments. Kentucky Revised Statute ("KRS") 141.200(10)(b) requires taxpayers to file separate returns unless there is a "common parent corporation doing business in Kentucky" that has nexus with an affiliate. Under KRS 141.200(9)(c), a "common parent corporation" is defined as the member of an "affiliated group" that meets the ownership requirement of paragraph (a)1 or (b)1 of KRS 141.200(9). Because KRS 141.200(9)(a)1 applies to taxable years prior to January 1, 2007, only KRS 141.200(9)(b)1 applied in the instant case. KRS 141.200(9)(b)1 defines an "affiliated group" as "(1) or more chains of includible corporations connected through stock ownership with a common parent corporation which is an includible corporation if [the common parent owns 80% or more of the stock and value in at least one other includible corporation and 80% of the stock in each of the includible corporations, excluding the common parent, is owned directly by one or more of the other corporations]."

An "includible corporation" is defined as any corporation doing business in Kentucky unless the corporation falls within one of the nine exceptions enumerated in KRS 141.200(9)(e). Of relevance here, KRS 141.200(9)(e)7 provides that a corporation is not an includible corporation if the corporation realizes a net operating loss and the corporation's Kentucky property, payroll and sales factors pursuant to KRS 141.120(8) are de minimis. Similarly, KRS 141.200(9)(e)8 states that a corporation is not an includible corporation if the sum of its property, payroll, and sales factors described in KRS 141.120(8) is zero.

The KDOR argued that under KRS 141.200(9)(b)1, the parent, WAC, must, but does not, meet the definition of "includible corporation" because WAC was a corporation realizing a net operating loss whose property, payroll and sales factors were de minimis. The Taxpayers argued the definition of "includible corporation" applicable to a "common parent corporation" is set forth at KRS 141.200(9)(b), i.e., a common parent corporation is an includible corporation if the ownership requirements set forth in that section are satisfied. Furthermore, the Taxpayers argued that even if KDOR was correct that KRS 141.200(9)(e)7 is applicable, WAC's apportionment factors were not de minimis (per KDOR's own letter ruling), and therefore, this section does not prohibit WAC from meeting the definition of "includible corporation".

In its final Order, the Court rejected the Taxpayers' argument that KRS 141.200(9)(b) contains the definition of "includible corporation" applicable to a "common parent corporation". The Court found KRS 141.200(9)(e) sets forth the definition of "includible corporation" for both "common parent corporations" and other non-parent companies, while KRS 141.200(9)(b) enumerates the ownership requirements for the affiliated group as a whole. The Court reasoned it must presume that when the legislature uses a defined term in a section in which it has already defined the term, the term must mean what is written in its definition and nothing else. The Court also held WAC's interpretation was contrary to the legislative history of KRS 141.200(9), finding the legislature amended the statute in 2006 to narrow the types of common parent corporations that could be part of an affiliated group.

After holding WAC must meet the definition of "includible corporation" in KRS 141.200(9)(e), the Court next found WAC did not meet this definition because WAC fell within the exceptions in either KRS 141.200(9)(e)7 or KRS 141.200(9)(e)8, as its property, payroll, and sales factors were either zero or de minimis.

The Court also summarily dismissed the Taxpayers' arguments that the KDOR's denial of their refund claims violated KRS 13A.130, Sections 27 and 28 of the Kentucky Constitution, and the doctrine of contemporaneous construction.

The Court's Order gives short shrift to the standard that must be satisfied for a motion to alter, amend, or vacate to be granted, which the Court acknowledges is "an extraordinary remedy and should be used sparingly."

The Taxpayers have appealed to the Kentucky Court of Appeals, and briefing has been completed.

The authors' firm represents the Taxpayers in this action.

C. Administrative Developments.

1. 2017 Kentucky Tax Alert – Electronic Filing of Tax Returns.

On January 1, 2017, the KDOR issued a special edition of the Kentucky Tax Alert addressing electronic filing of returns. The KDOR began accepting corporate income tax returns on January 6, 2017. Forms 725 and 720 mandatory nexus consolidated returns and supporting schedules can now be e-filed for tax year 2016. If a federal extension is used as a six-month extension to file a Kentucky return, a copy of the image of the federal extension is required to be attached to the electronic submission.

Direct debit is an option for e-filed corporate income tax return forms, although direct deposit is not available. Any Kentucky form or schedule requiring a Kentucky Corporation/LLET account number must be populated with the appropriate number associated with the FEIN, and the numbers must match the KDOR's records. The KDOR encourages taxpayers to file electronically but also notes that, for taxpayers who choose to file by mail, the mailing address for the filing of paper returns has changed to: Kentucky Department of Revenue, P.O. Box 856910, Louisville, KY 40285-6910.

The KDOR also encourages the electronic filing of withholding returns using its Withholding Returns and Payment System ("WRAPS"). Employers with 100 or more W-2s are required to file electronically, and employers with 250 or more 1099 or W-2G forms are required to submit those forms in electronic format to: Kentucky Department of Revenue, CD Processing, 501 High Street, Station 57, Frankfort, KY 40601.

2. New Markets Development Program Credit.

The KDOR has issued a permanent regulation, 103 KAR 15:180, effective November 4, 2016, regarding implementation of the new markets development program credit. KRS 141.434 establishes a nonrefundable tax credit for a person or entity making a qualified equity investment in a qualified community development entity ("CDE") as provided by KRS 141.432(6). The KDOR's regulation establishes guidelines and filing requirements of a CDE so that the KDOR may certify qualified equity investments and allocate tax credits accordingly.

D. Trends.

Taxpayers in Kentucky continue to hear a great deal about tax reform. In his State of the Commonwealth address in January, Governor Matt Bevin promised tax reform this year. The General Assembly, on the other hand, continues to show great reluctance with regard to the subject. Regardless, a commitment has been expressed to tackle tax reform in the near future—likely during the regular legislative session in 2018. The Governor has emphasized the need to make Kentucky's tax code more competitive, including repealing the business inventory tax while ensuring localities are made whole for any revenue loss. If the Governor is able to persuade the General Assembly to join him, corporation income tax topics that could be considered include single sales factor apportionment; repeal of Kentucky's mandatory nexus consolidated filing methodology; and conforming the definition of "cost of goods sold" that is part of the limited liability entity tax to the federal definition of the term.

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