Pennsylvania Net Loss Deduction; Due Process; Refund of Corporate Net Income Tax
Alcatel-Lucent USA Inc. v. Com., 291 A.3d 438 (Pa. Cmwlth. 2022), direct appeal, appeal docket 8 MAP 2023
For the 2014 tax year, Pennsylvania’s Corporate Net Income Tax (CNIT) permitted taxpayers a net loss carryover (NLC) deduction equal to the greater of 25% of apportioned income or $4 million. Due to the NLC limitation, Alcatel-Lucent, a technology company operating in Pennsylvania, had a loss deduction of approximately $6.8 million, i.e., 25% of its apportioned Pennsylvania income. Alcatel-Lucent petitioned the Department of Revenue’s (Department) Board of Appeals (BOA) for a refund.
Commonwealth Court summarized the procedural history and relevant cases decided during the pendency of Alcatel-Lucent’s appeal as follows:
Prior to the Supreme Court’s Nextel decision, Taxpayer filed a Petition for Refund with the BOA seeking a refund of the Pennsylvania corporate net income tax in the amount of $2,047,875 paid for the 2014 Tax Year. Taxpayer raised general issues regarding the calculation of the corporate net income tax as well as a constitutional challenge that the NLC deduction limitation violated the Uniformity Clause of the Pennsylvania Constitution, Pa. Const. art. VIII, § 1, by creating variable effective tax rates, i.e. , Taxpayer paid tax while similarly situated taxpayers did not. Taxpayer requested an unlimited NLC deduction and corresponding tax refund. The BOA and, on further appeal, F & R denied Taxpayer’s refund request and declined to address the constitutional issues. Taxpayer’s petition for review to this Court followed.
On October 18, 2017, the Supreme Court decided Nextel , in which it severed the unconstitutional flat-dollar cap, while preserving the percentage cap, from the NLC provision at issue. Nextel , 171 A.3d at 705. Following the Nextel decision, the Department issued Corporation Tax Bulletins, which accurately reflect the Department’s past and ongoing policy practice to not reassess corporations that utilized the flat-dollar deduction until after January 1, 2017. S.F. No. 22. Thus, the Department implemented Nextel prospectively by removing the flat-dollar deduction beginning in 2017 and thereafter. Id.
Before this Court, Taxpayer argued that the Department violated the Uniformity Clause of the Pennsylvania Constitution by applying the 2014 NLC deduction provision as written, rather than by retroactively applying Nextel and recalculating the tax liabilities of all taxpayers that had utilized the $4,000,000 cap in accordance with the remaining percentage cap. Alternatively, Taxpayer asserted that the Due Process and Equal Protection Clauses of the United States Constitution, U.S. Const. amend. XIV, § 1, and the Remedies Clause of the Pennsylvania Constitution, Pa. Const. art. 1, § 11, entitles Taxpayer and other similarly situated corporations to a remedy.
In Alcatel-Lucent , a panel of this Court rejected both arguments. In determining whether Nextel should apply retroactively, we applied the three-part Chevron test: “(1) whether the decision establishes a new principle of law; (2) whether retroactive application of the decision will further the operation of the decision; and (3) the relevant equities.” Alcatel-Lucent , slip op. at 8 (quoting GM I , 222 A.3d at 457 ; citing Chevron Oil Co. v. Huson , 404 U.S. 97, 106-07, 92 S.Ct. 349, 30 L.Ed.2d 296 (1971) (plurality)). We determined that while the first prong supported retroactive application, the second and third prongs did not. Id. With regard to the first prong, we held that the Supreme Court did not establish a new principle of law, but rather applied existing case law to which it had steadfastly adhered for over a century. Id. , slip. op. at 11. However, we determined that retroactive application would not forward the application of Nextel because, in Nextel , the Supreme Court eliminated the flat-dollar deduction, but upheld the percentage cap, which Taxpayer correctly paid and is attempting to avoid. Id. , slip op. at 11-12. As for the third prong, we concluded that retroactively applying Nextel was inequitable for unsuspecting taxpayers that legally claimed the dollar-based deduction and would now owe more taxes, but for the statute of limitations. As a result, we concluded that the Nextel decision would apply prospectively only to the case. Id. We also detailed the reasons for rejecting Taxpayer’s arguments under the Due Process, Equal Protection, and Remedies Clauses. Ultimately, this Court determined that Taxpayer correctly paid corporate net income taxes in the amount of $2,047,875 for the 2014 Tax Year by using the 2014 NLC deduction provision and was not entitled to a refund. Thus, we affirmed F & R’s decision denying Taxpayer’s refund request. Id.
Our analysis in Alcatel-Lucent mirrored our analysis in General Motors Corporation v. Commonwealth, 222 A.3d 454 (Pa. Cmwlth. 2019) (GM I), affirmed in part, reversed in part, GM II, 265 A.3d 353. We applied the same three-part Chevron test to both cases. However, in GM I, we determined that all three prongs of the Chevron test were met because the facts were different. The key difference between GM I and the present case was that the NLC deduction at issue in GM I contained only the flat-dollar deduction, not the percentage cap. The flat-dollar deduction created a non-uniform classification based solely on whether the taxpayer’s income exceeded the $2,000,000. Taxpayers whose income exceeded $2,000,000 paid the corporate net income tax, while taxpayers whose income did not exceed $2,000,000 did not pay the tax in violation of the Uniformity Clause. To remedy this constitutional infirmity, we severed the $2,000,000 flat-dollar deduction from the NLC provision of the Tax Code. With the removal of the statutory cap, the taxpayer in GM I was entitled to a refund. Conversely, here, Taxpayer paid tax under the percentage cap, which the Supreme Court upheld as constitutional. Consequently, we reached a different result in Alcatel-Lucent (no retroactive application of Nextel; no refund) than GM I (retroactive application of Nextel; refund).
Slip op. at 4-7. Alcatel-Lucent then filed Exceptions to the Commonwealth Court’s decision in Altcatel-Lucent I, raising the following issues:
1. Whether the Nextel decision, in which the Pennsylvania Supreme Court held that the statutory flat cap on net loss deductions violated the Uniformity Clause of the Pennsylvania Constitution and, therefore, must be stricken from the statute, leaving only a percentage cap, applies retroactively?
2. Whether federal due process requires the Commonwealth to issue a refund to Taxpayer to remedy the Uniformity Clause violation caused by the statutory flat cap on the net loss deduction?
Slip op. at 8-9. Subsequently, the Supreme Court issued an opinion in General Motors Corp. v. Commonwealth, 265 A.3d 353 (Pa. 2021) (GM II ) whereby the Court applied Nextel retroactively to hold that the NLC deduction limitation as it existed in 2001 violated uniformity principles, and that General Motors was entitled to receive a full refund for the tax paid as a result of the NLC deduction limitation on the basis that the due process clause requires “meaningful backward-looking relief” to put disfavored taxpayers in the same position as favored taxpayers pursuant to McKesson Corp. v. Florida Division of Alcoholic Beverages and Tobacco, 496 U.S. 18 (1990).
Applying the reasoning set forth in GM II, Commonwealth Court found that Alcatel-Lucent was entitled to a refund as a matter of due process and remanded the case to the Pennsylvania Board of Finance and Revenue to issue a refund. Commonwealth Court concluded that:
Based upon the Supreme Court’s retroactive application of Nextel and its discussion and application of McKesson in GM II, we now conclude that Taxpayer is entitled to a refund here. The right to uniform taxation is a right protected by the Due Process Clause. McKesson; GM II. “[B]ecause exaction of a tax constitutes a deprivation of property, the State must provide procedural safeguards against unlawful exactions in order to satisfy the commands of the Due Process Clause.” GM II, 265 A.3d 379 (quoting McKesson, 496 U.S. at 36). Applied here, in the 2014 Tax Year, the small corporate taxpayers benefited from the NLC’s flat-dollar deduction, which was declared unconstitutional. Small corporate taxpayers were favored while large corporate taxpayers with incomes greater than $4,000,000 were disfavored under the statutory scheme. Even though Taxpayer correctly paid its taxes in conformity with the retained and constitutionally valid percentage cap, Taxpayer was disadvantaged when compared to small corporate taxpayers that utilized the unconstitutional flatdollar deduction and paid no tax. To equalize the actual tax positions, McKesson requires that either the favored taxpayers be assessed additional taxes or the unfavored taxpayer be refunded the taxes it paid. GM II. Because a retroactive reassessment of favored taxpayers’ tax liability is foreclosed under the statute of limitations, replete with inequities, the only remedy available is to issue Taxpayer a refund to remedy the Uniformity Clause violation to equalize the tax positions between favored and nonfavored taxpayers.
Slip op. at 14-15. The Commonwealth appealed the Commonwealth Court’s decision on exceptions to the Pennsylvania Supreme Court.
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