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Kentucky Tax Case Update

The Kentucky CPA Journal / Issue 4 2010Tax in the Bluegrass

August 2010

Although the 2010 Kentucky General Assembly flirted with the idea of imposing sales tax on services, 2010 has (so far) been a year of few significant legislative changes.  There are, however, many Kentucky tax cases winding their way through the Kentucky Board of Tax Appeals (KBTA) and the Kentucky Courts.  Following is an update on select cases of particular interest. 

"I’m going to take this all the way to the Supreme Court!" 

Cliché though it may sound, this exclamation exemplifies Americans' faith in the judicial system.  And, rare though it may be, Kentucky taxpayers have recently felt compelled to try to take their cases all the way to the United States Supreme Court in two separate cases:  Johnson Controls, Inc. v. Miller and Monumental Life Insurance Company v. Department of Revenue

The Johnson Controls case involved a group of Kentucky corporate taxpayers that had been retroactively denied corporation income tax refunds based on the unitary filing method which were advanced subsequent to the Kentucky Supreme Court’s 1994 opinion in GTE v. Revenue Cabinet.  The Johnson Control taxpayers petitioned the U.S. Supreme Court to address the question of, "Whether a state’s interest in raising and controlling revenue gives the state an unfettered right to retroactively eliminate the post-deprivation remedy of a targeted group of taxpayers at the expense of their due process and equal protection rights." 

Unfortunately, the Supreme Court declined the taxpayer's invitation.  So, the lesson learned from this case is that it might be better to pursue your position on a tax issue on your initial tax return.  This is because when you chose the route in which you file an amended return seeking a refund, you run the real risk of having your refund retroactively extinguished by legislation.  Is it time for an amendment to the Kentucky Constitution that specifically addresses this problem? 

In Monumental, the taxpayer petitioned the Supreme Court to address whether Section 514 of the Employee Retirement Income Security Act of 1974 ("ERISA") preempts the imposition of a state ad valorem intangibles tax on retirement/pension plan assets of a life insurance company which were held in statutorily authorized "separate accounts."  Interestingly, the Department had not subjected the accounts to tax for decades in its audits/reviews of the taxpayer, but then chose to tax them.  As with Johnson Controls, the Supreme Court also declined to address this question. 

"I’m not there," - Bob Dylan (1969) 

In Revenue Cabinet v. Asworth, LLC, the Kentucky Court of Appeals held that non-Kentucky corporations had income tax nexus with Kentucky based on their passive investments in flow-through entities, even though they did not own or lease property in Kentucky and had no employees in Kentucky, relying on KRS 141.206.  The KBTA had originally concluded that the companies had no nexus with Kentucky under KRS 141.040 because they had no physical presence in Kentucky. Asworth has asked the Kentucky Supreme Court to review the decision. 

The composition of an elective Kentucky consolidated corporation income tax return group as in effect for tax years and elections made prior to Tax Modernization – 2005 – is at issue in Department of Revenue v. AT&T Corporation and Subsidiaries.  In that case, the Court of Appeals is considering the Department of Revenue’s appeal from the Jefferson Circuit Court's holding that the consolidated return statute did not trump the were included in the elective consolidated return group.  

"Well, something must have happened to them," - Jeff Spicoli in Fast Times at Ridgemont High (1982) 

In 2008, a collective chorus of, "We had interest when you guys came in here," could be heard from Kentucky taxpayers when the General Assembly enacted House Bill 704.  That bill and House Bill 216, enacted by the 2009 General Assembly, effectively changed the relevant date for the accrual of interest on a refund to the amended return filing date.  The result of this was a retroactive loss of refund interest to any taxpayer with an outstanding refund claim. 

The Court of Appeals in Asworth, considered whether House Bills 704 and 216 were constitutionally invalid because they retroactively denied the taxpayers interest on their tax refunds – essentially extinguishing interest that was statutorily authorized for years.  In its opinion in which its holding denied the refund claims at issue in Asworth, the Court went on to hold that the interest provisions of House Bills 704 and 216 were constitutional because taxpayers have no vested right in the tax code and retroactive application serves a legitimate government purpose of raising revenue and preventing significant, unanticipated revenue loss.  Yet another reason to pursue a tax position via an original return (i.e., consider not paying the contested tax in the first place), rather than via an amended return seeking a refund. 

"Wanna buy a painting?" 

In another sales tax case, Schilling v. Department of Revenue, the KBTA held that the Department properly assessed sales and use tax on a painting purchased and shipped from out-of-state to a Kentucky resident.  In that case, the KBTA noted that the Kentucky resident was unable to produce evidence that tax had been paid on the painting.  The taxpayer's appeal has been dismissed; so, this case is now final. 

One significant aspect of this case is that it involves an assessment of use tax against an individual rather than a business.  Many tax practitioners are used to seeing a sales and use tax assessment against a business, but it has been rare to see a sales and use tax assessment against a person. 

"Gimme another chance!" 

Traditionally, when a taxpayer disputes the value of real property for ad valorem tax purposes, the taxpayer only disputes the value for the year of the assessment.  This is done by requesting a conference with the Property Valuation Administrator during the open inspection period for that year.  The Court of Appeals held just that in Jefferson County Property Valuation Administrator v. Cromwell Louisville Associates, LP; however, the Kentucky Supreme Court has agreed to review that case.  Cromwell appealed both its 2001 and 2002 tax years during the 2002 open inspection period.  The PVA argued that the 2001 appeal was untimely.  Interestingly, Cromwell won its argument at the Circuit Court, but the Court of Appeals reversed, holding for the PVA.  If the Kentucky Supreme Court ultimately holds for Cromwell, it could open the door for multi-year real property tax appeals. 

Iceberg ahead! 

These cases are just the tip of the proverbial iceberg.  There are many more cases winding their way through the KBTA and the courts.  Keep a weather eye out for those that might impact your business or clients.  And, good luck to those who are currently contesting their tax assessments, whether at the Department of Revenue, the KBTA or in the Courts. 

About the author: Mark A Loyd, Esq., CPA, is a member of Greenebaum Doll & McDonald in Louisville and chairs its State and Local Tax Team.  He is a former member of the KyCPA board of directors; chair of the editorial board; member of the industry task force; and former chair of the taxation committee.



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