Title: Vogl v. Dept. of Rev.
Citation: N/A
Docket Number: S43375
State: Oregon
Issuer: Oregon Supreme Court
Date: June 18, 1998

Filed:  June 18, 1998

IN THE SUPREME COURT OF THE STATE OF OREGON

JOHN F. VOGL,			

	Appellant,	

	 v.					

DEPARTMENT OF REVENUE,	
State of Oregon,		

	Respondent.	

ORVILLE B. BUFFINGTON and		
ORVILLE B. BUFFINGTON as 		
Successor in Interest to	
Stefania M. Buffington, Deceased,	

	Appellant,	

	v.				

DEPARTMENT OF REVENUE,	
State of Oregon,	

	Respondent.	

MARVIN M. CARLSON and JOYCE M.		
CARLSON,				

	Appellants,	

	v.				

DEPARTMENT OF REVENUE,	
State of Oregon,		

	Respondent.	

                                                                 
CARA KIDD, JR., and NOLA E. KIDD,		

	Appellants,	

	v.				

DEPARTMENT OF REVENUE,	
State of Oregon,		

	Respondent.	

                                                               
HELEN I. STANLEY,		

	Appellant,	

	v.				

DEPARTMENT OF REVENUE,
State of Oregon,	Respondent.	

KENNETH R. AVERY and DORIS E.	
AVERY,				

	Appellants,	

	v.				

DEPARTMENT OF REVENUE,	
State of Oregon,		

	Respondent.	

                                                                  
JAMES M. DIXON and DAVID W.		
FLUAITT,				

	Appellants,	

	and				

ROBERT E. RENN (deceased),	

	Plaintiff,		

	v.					

STATE OF OREGON, JIM HILL, 	
Treasurer, and BARBARA ROBERTS,	
Governor,			

	Respondents.	

(OTC 3605, 3606, 3607, 3608, 3609, 3610; 

SC S43375 (Control))

(CC 9311-07480; CA A93208; S43379)

(Cases consolidated for argument and opinion)

	S43375 on appeal from the Oregon Tax Court.  S43379 on
appeal from Multnomah County Circuit Court, on certification from
the Court of Appeals.

	Carl N. Byers, Oregon Tax Court, and Nely Johnson, Multnomah
County Circuit Court, Judges.

	Argued and submitted September 4, 1997; resubmitted May 8,
1998.

	Michael G. Hanlon, Portland, argued the cause for
appellants.  With him on the briefs was Eugene O. Duffy, of
O'Neil Cannon &amp; Hollman, P.C., Portland.

	Michael D. Reynolds, Assistant Solicitor General, Salem,
argued the cause for respondents.  With him on the brief were
Hardy Myers, Attorney General, and Virginia L. Linder, Solicitor
General.

	Before Carson, Chief Justice, and Gillette, Van Hoomissen,

Durham, Kulongoski, and Leeson, Justices.

	GILLETTE, J.

	The judgment of the Tax Court in Vogl is reversed, and the
case is remanded to the Tax Court for further proceedings.  The
judgment of the circuit court in Dixon is affirmed in part and
reversed in part.  The case is remanded to the circuit court for
further proceedings. 

		GILLETTE, J.

		The primary issue in these consolidated cases is
whether Oregon Laws 1995, chapter 569, a statute that increases
Public Employes Retirement System (PERS) benefits to compensate
for "injuries" to PERS beneficiaries that arise out of the
taxation of their PERS benefits, violates the "equal tax
treatment" requirement that is inherent in the federal doctrine
of intergovernmental tax immunity.(1)  The plaintiffs in these two
very different cases argue that the answer to that question is
"yes" and that the courts below erred in concluding otherwise. 
We agree with plaintiffs that the statute violates the
requirement of equal tax treatment and that the contrary
decisions of the Oregon Tax Court and Multnomah County Circuit
Court must be reversed.

		We begin our analysis with a brief history of the
state's long-running struggle concerning the requirements of the
intergovernmental tax immunity doctrine.  That history begins in
1989, with the United States Supreme Court's decision in Davis v.
Michigan Dept. of Treasury, 489 US 803, 109 S Ct 1500, 103 L Ed
2d 891 (1989).  In Davis, federal government retirees challenged
a Michigan statute that exempted retirement benefits paid by
state and local governments from state income taxes, without
extending a similar exemption to retirement benefits paid by the
federal government.  The Supreme Court concluded that the statute
violated the principle of intergovernmental tax immunity.  Id.,
489 US at 817.  Davis also held that Michigan could remedy that
violation "either by extending the tax exemption to retired
federal employees * * * or by eliminating the exemption for
retired state and local government employees."  Id. at 818.

		After Davis, it became clear that Oregon would have to
make adjustments to its individual income tax system, because
that system contained a discriminatory element similar to
Michigan's -- a longstanding tax exemption for income from the
state employee retirement system (PERS), with no equivalent
exemption for federal retirement benefits.  Faced with the choice
outlined in Davis, between extending or eliminating the
problematic exemption, the 1991 Oregon legislature opted for the
latter route, repealing the PERS exemption and a related statute
that excluded PERS retirement benefits from the state taxable
income base.  Or Laws 1991, ch 823, §§ 1 &amp; 3. 

		The foregoing legislative choice would have been a
significant financial setback for Oregon government retirees,
except for one thing:  Within days of repealing the PERS
exemption, the legislature enacted Oregon Laws 1991, chapter 796,
which increased PERS retirement benefits by up to four percent
for those who had retired in the system, depending on the
individual retiree's years of service with the state.  Notably,
section 12 of that statute provided that the increase would not
be paid "in any tax year in which [PERS benefits] are exempt from
Oregon personal income taxation." Section 12 thus made it clear
that the statutory increase in benefits was meant to offset, at
least to some extent, the loss of the tax exemption that PERS
retirees previously had enjoyed. 

		The actions of the 1991 legislature were attacked,
almost immediately, on two fronts.  Retired employees of the
state and its political subdivisions challenged the repeal
statute (chapter 823) in Hughes v. State of Oregon, 314 Or 1, 838
P2d 1018 (1992), arguing that the repeal impaired the state's
contractual obligation to provide PERS retirement benefits free
of taxation and therefore violated Article I, section 26, of the
Oregon Constitution (relating to impairment of contracts).  This
court accepted that argument only in part, concluding that (1)
PERS members had a contract with the state to receive PERS
retirement benefits free from state and local taxation, (2) the
repeal amounted to a breach (but not an impairment) of that
contract, and (3) "[a]nyone whose PERS benefits are contractually
exempt from taxation * * * is entitled to a remedy for the
state's breach."  Id. at 33.(2)

		 Federal retirees also were dissatisfied with the 1991
legislature's response to Davis.  Their position was asserted in
Ragsdale v. Dept. of Rev., 321 Or 216, 895 P2d 1348 (1995), cert
den 516 US 1011, 116 S Ct 569, 133 L Ed 2d 493 (1995).  In
Ragsdale, a federal retiree sought a refund of that portion of
her Oregon state taxes that were attributable to federal
retirement benefits.  She argued that, despite the repeal of the
PERS exemption, Oregon continued to operate a discriminatory and,
therefore, unlawful, tax system, because (1) under Hughes, PERS
recipients, but not federal retirees, are entitled to a contract
remedy for the loss of the tax exemption and (2) under Oregon
Laws 1991, chapter 796, PERS recipients, but not federal
retirees, had been given what amounted to a tax rebate to make up
for the lost exemption.

		This court rejected the latter argument, identifying
several factors as pointing to a conclusion that the 1991 benefit
increase was "compensation," rather than an unlawful "tax
rebate:"  (1) the 1991 legislature had obeyed the express dictate
of Davis by repealing the PERS exemption; (2) Davis and, more
generally, the principle of intergovernmental tax immunity, are
indifferent to the level of compensation a state pays to its
retirees; (3) the 1991 PERS increase was not part of the system
of taxation in Oregon but, instead, involved the expenditure of
retirement trust funds in the form of increased compensation; and
(4) there was "no correlation, either direct or indirect, between
state retirees' state tax obligations and the amount of increased
PERS retirement benefits" under the 1991 statute.  Id. at 227-28. 
Notably, the court expressly declined to address plaintiff's
arguments pertaining to Hughes, because the 1991 statutory
amendments were not a legislative reaction to that case.  321 Or
at 226.          

		In 1995, the legislature again enacted a statutory
increase in PERS benefits, this time clearly in reaction to
Hughes.  Like the 1991 statute, Oregon Laws 1995, chapter 569,
increases the retirement benefits payable to PERS members for any
year in which PERS income is not exempt from Oregon personal
income taxation(3) and pays for that increase by enlarging employer
contributions to the PERS fund.  However, the 1995 adjustment
differs from the 1991 adjustment in several respects.  First, it
adjusts benefits using a formula that is more closely and
obviously tied to the Oregon personal income tax rate.(4)

  Second,
it applies that formula only to that portion of a PERS member's
income that is attributable to service rendered before October 1,
1991, the effective date of the exemption repeal.  Or Laws 1995,
ch 569, § 3(4)(b).  Third, it provides that no PERS member "shall
acquire a right, contractual or otherwise, to the increased
benefits."  Id. at § 2(3).  Finally, it expressly states, in a
variety of ways, that the increased benefits are provided as full
and final payment of damages for any claim arising out of the
repeal of the previously existing exemption.  For example,
section 2(1) provides: 

		"The increased benefits provided by section 3 of
this 1995 Act, and by the amendments to ORS 237.209,
237.230, 237.233, and section 14, chapter 796, Oregon
Laws 1991, by sections 5, 6, 7 and 8 of this 1995 Act,
are paid to members of the Public Employes' Retirement
System and their beneficiaries in compensation for
damages suffered by those members and beneficiaries by
reason of subjecting benefits paid pursuant to ORS
237.301 to 237.315 to Oregon personal income taxation. 
The increased benefits provided by this 1995 Act are
intended to provide full, complete and final payment of
any claim of a member of the system, or a beneficiary
of a member, arising out of the taxation of those
benefits."

In a related vein, section 2(4) provides:

		"Notwithstanding any other provision of law, a
class action may not be commenced on or after the
effective date of this 1995 Act based on a claim for
damages arising out of the subjecting of benefits paid
pursuant to ORS 237.301 to 237.315 to Oregon personal
income taxation."(5)

The issue in the present cases is whether the foregoing changes
dictate a legal outcome that is different from that reached in
Ragsdale.

		We turn to the procedural history of the present cases. 
The Vogl case began in 1993, when plaintiffs, who are retired
from federal government service, filed amended tax returns for
the tax years 1991 and 1992, seeking refunds of Oregon personal
income taxes that they had paid in those years on their federal
retirement benefits.  When the Department of Revenue (the
Department) denied plaintiffs' claims, they appealed to the
Oregon Tax Court.  At the Tax Court, plaintiffs argued that,
despite the repeal of the discriminatory PERS exemption, Oregon's
tax system continued to discriminate against federal retirees, in
violation of 4 USC section 11, Davis, and the doctrine of
intergovernmental tax immunity.  They alleged, in particular,
that 

	"[t]he remedy afforded Oregon PERS retirees in Hughes
v. State of Oregon, 314 Or 1, 838 P2d 1018 (1992),
together with the enactment of Or Laws 1991, ch 796 and
any other action which increased PERS benefits to
compensate PERS retirees for (or to offset the effect
of subjecting PERS benefits to) state income taxation,
create a disparate tax structure which violates the
equal treatment mandate of Davis." 

(Emphasis added.)

	 Two significant events occurred in the course of the Vogl
proceedings:  this court issued its decision in Ragsdale, and the
legislature enacted Oregon Laws 1995, chapter 569, the second of
the two benefit increases discussed above.  The Department
responded to the Ragsdale decision by filing a summary judgment
motion in the Tax Court case, arguing that the Ragsdale decision
essentially resolved the Vogl action in its favor.  Plaintiffs
responded that Ragsdale did not address the effect of Oregon Laws
1995, chapter 569.  However, the Tax Court ultimately agreed with
the Department and granted the Department's summary judgment
motion.

		On direct appeal to this court, ORS 305.445, the Vogl
plaintiffs contend that the Tax Court erred in concluding that
denial of their claims is compelled by Ragsdale.  Plaintiffs note
that the opinion in Ragsdale addresses only the 1991 benefit
adjustment statute and does not speak to the later (1995)
statute.(6)  They argue that the 1995 statute is "directly and
precisely calculated to give PERS members a tax rebate" -- a
result that, even under Ragsdale, is impermissible.  

		It is obvious from the foregoing description that,
although Oregon Laws 1995, chapter 569, was enacted after the
Vogl case was commenced, its effect, vis-a-vis the
intergovernmental tax immunity doctrine, nevertheless is squarely
at issue in Vogl.  Arguably, however, the same cannot be said
about the Dixon case, which we now describe briefly.  

		In Dixon, plaintiffs, a group of individuals who had
retired from both state and federal government service, filed an
action against the state in the Multnomah County Circuit Court,
asking that court to declare their remedy under Hughes.(7)  In
their complaint, plaintiffs noted that Hughes had established the
right of PERS retirees to recover some amount in damages for the
loss of their contractually based tax exemption.  They alleged
that the legislature had failed to provide that remedy during the
1993 legislative session.  Plaintiffs further alleged that the
state could not meet the equal treatment mandate of Davis by
taxing both PERS and federal retirement benefits equally, while
at the same time fulfilling its Hughes obligation to provide PERS
retirees a remedy for its taxation of contractually tax exempt
benefits.  Plaintiffs asked the court to declare what they deemed
to be the only legally tenable Hughes remedy -- reinstatement of
the exemption for PERS benefits and extension of that exemption
to federal pension benefits.  Later, plaintiffs and defendants
filed a joint memorandum of trial stipulations and contentions
that added (or clarified) a contention that, "[i]rrespective of
the nomenclature, the state may not use an artifice (whether
called damages, rebates, retroactive increases in benefits or any
similar device) to * * * compensate solely PERS recipients for
the taxation of their benefits."  

		As in the Vogl case, both this court's decision in
Ragsdale and the enactment of Oregon Laws 1995, chapter 569, then
occurred.  In response to the latter event, plaintiffs moved for
permission to supplement their complaint by adding challenges to
the new statute's adequacy under Hughes.  Defendants opposed that
motion, suggesting that, without such supplementation, the case
was ready to be decided.  The trial court agreed with the state,
denied the motion to supplement and, ultimately, issued a
judgment for defendants.  The court held that plaintiff's claims
as state retirees became moot after the adoption of Oregon Laws
1995, chapter 569, and that the issues presented were controlled
by the decision in Ragsdale.     

		The Dixon plaintiffs appealed to the Court of Appeals,
assigning error to the trial court's denial of their motion to
supplement and to its failure to issue the declaration that
plaintiffs sought.  With respect to the latter assignment,
plaintiffs argued that their claims were neither moot nor
controlled by Ragsdale.  The Court of Appeals certified their
appeal to this court, and it was consolidated with Vogl for
purposes of review.

		In Dixon, a large part of the controversy in this court
is whether the 1995 statute was pleaded or argued.  Although that
controversy is important (and, perhaps, even dispositive) within
the confines of that case, it is best left to a later point in
this opinion.  We begin, instead, with the issue that is echoed
in Vogl:  Does Ragsdale compel a conclusion that the 1995
adjustment in PERS benefits violates the doctrine of
intergovernmental tax immunity?  

  		Predictably, all the arguments by the parties are
framed in terms of Ragsdale.  Both sets of plaintiffs
(plaintiffs) argue that, contrary to the views separately
expressed by the Tax Court and the circuit court, Ragsdale does
not resolve the Davis issue with respect to the 1995 statute. 
Plaintiffs note, first, that Ragsdale explicitly declined to
address the intergovernmental tax immunity implications of a
Hughes remedy, an issue that clearly is raised by the 1995
enactment.  Plaintiffs further note that Ragsdale itself
acknowledges, both explicitly and implicitly, that a tax rebate
program aimed solely at PERS members would violate Davis. 
Finally, plaintiffs note that there are aspects of the 1995
statute that were not present in the 1991 statute at issue in
Ragsdale -- most significantly, that the increase in benefits is
tied directly to the rate of taxation and that the statute
expressly announces its compensatory purpose.  Plaintiffs
conclude that, regardless of the status of the 1991 statute at
issue in Ragsdale, it is abundantly clear that the 1995 statute
was designed to, and does, offer a tax rebate on a discriminatory
basis, viz., that the rebate goes solely to PERS members.  

		Defendants respond that any question regarding the
intergovernmental tax immunity implications of Oregon Laws 1995,
chapter 569, is resolved by Ragsdale, because there is no legally
significant distinction between the two statutes.  Defendants
concede that the express purpose of the 1995 increase is to
offset the loss of the tax exemption formerly available to PERS
members and that the statute is drafted more specifically to
achieve that purpose than was its 1991 predecessor.  They argue,
however, that Ragsdale's analysis of the 1991 statute turned not
on the formula used to calculate the amount of the increase, but
on the fact that the increase would be paid to PERS retirees
regardless of their actual individual tax obligations.  That
aspect is repeated in the 1995 statute.  More importantly,
defendants argue, the factors that plaintiffs rely on are
irrelevant because, under Ragsdale, neither a compensatory
purpose nor effect transforms a benefit increase into a tax
rebate. 

		In view of the parties' competing contentions, it is 
imperative to sort out what Ragsdale does (and does not) say.  We
begin with one obvious point.  Ragsdale clearly endorses the
notion that, just as a tax exemption that discriminates against
federal retirees would violate the doctrine of intergovernmental
tax immunity, so would a tax rebate that discriminates against
federal retirees.  See Ragsdale, 321 Or at 231 ("A tax rebate or
tax benefit program only for state employees clearly would be
impermissible.").  A less obvious point, but a significant one,
is that Ragsdale does not say or imply that an act of
governmental largesse must be labeled a tax rebate in order to
qualify as one.  If anything, Ragsdale suggests just the
opposite, viz., that, in the world of intergovernmental tax
immunity, substance does count.  

		That latter point is evident from Ragsdale's discussion
of Sheehy v. Public Employees Retirement Div., 262 Mont 129, 864
P2d 762 (1993).  In Sheehy, the Montana Supreme Court invalidated
a nominal increase in pension benefits to state retirees on
intergovernmental tax immunity grounds, finding that the increase
was a "partial tax rebate denominated otherwise."  In explaining
what it viewed as the irrelevance of Sheehy to the 1991 Oregon
statute, this court never suggested that the whole notion of a
"tax rebate denominated otherwise" was specious;   rather, the
court carefully differentiated the particulars of the Montana law
at issue in Sheehy from those of Oregon Laws 1991, chapter 796. 
Ragsdale, 321 Or at 230-32.  The dissent in Ragsdale relied on
the rationale expressed in Sheehy.  See Ragsdale, 321 Or 233-35
(Gillette, J., dissenting).  Thus, this entire court accepted the
Sheehy principle.  The dispositive factors separating the
majority and dissent were based on the peculiar characteristics
of the 1991 statute.

		We turn to Oregon Laws 1995, chapter 569, which, as we
previously have noted, differs from its predecessor in several
significant ways.  First, unlike the flat percentages employed in
the 1991 statute, the 1995 statute increases benefits by way of a
formula that is fairly closely matched to the task of replacing
PERS income that will be lost to taxes.  In theory, that formula
will leave PERS recipients with an after-tax amount that roughly
approximates what they would have received, had their pension (or
that portion of it that vested before 1991) been tax exempt.  The
formula parallels the maximum state income tax rate, including
allowing the increase to rise and fall along with that rate. 
Although, in any individual case, the formula can only
approximate the amount needed to offset the effect of 1991
repeal, the formula is as close as the state can get to
replicating the effect of the repealed tax exemption without
delving into individual tax circumstances.

		On the other hand, as with the 1991 increase,
entitlement to the 1995 increase is not conditioned on actual
liability for an equivalent amount in state taxes.  PERS
recipients receive the increase even if they pay little or no
state income tax on their PERS benefits.  Again, although the
increase generally replicates the effect of a tax rebate, it may
or may not have that effect in individual cases.

		The upshot of the foregoing discussion is that,
although the 1995 statute is similar to its 1991 predecessor in
that it does not purport to offset, dollar for dollar, the amount
lost to the exemption repeal in every individual case, its design
and effect far more closely match such a purpose.  Clearly, as
the state moves closer to replacing the lost net income on a
dollar-for-dollar basis, the fact that the increase is in fact a
tax rebate, rather than a general increase in compensation to
"make up" for lost net income, becomes more apparent.  That is
particularly so in view of the fact that the increase is
available only in those years when PERS benefits are not tax
exempt.  Although that fact, by itself, does not transform the
increase into a tax rebate, Ragsdale at 231, it is a relevant
consideration where, as here, other suggestive factors are
present.  

		A second notable point about the 1995 statute is that
it provides expressly that "[no PERS member] shall acquire a
right, contractual or otherwise, to the increased benefits
provided [therein.]"  Or Laws 1995, ch 579, § 2(3).  Although
that fact does not point particularly to a tax rebate, it does
point away from defendants' contention that the increase is
simple compensation.  If the increase were, in fact, part of PERS
employees' compensation, we would expect those employees to
obtain a vested right to it.  See Taylor v. Mult. Dep. Sher. Ret.
Bd., 265 Or 445, 450-51, 510 P2d 339 (1973) (noting that Oregon
follows contract theory of pensions, under which a pension is
viewed as part of employee's promised but delayed compensation
for the performance of his job).

		Finally, the 1995 statute expressly announces that the
increase is paid "in compensation for damages suffered by members
of [PERS] * * * by reason of subjecting [PERS] benefits * * *  to
Oregon personal income taxation" and is intended as "full,
complete and final payment of any claim of a member of the system
* * * arising out of the taxation of those benefits."  Or Laws
1995, ch 569, § 2(1).  Implicit in that provision is the
legislature's acknowledgment of the holding in Hughes that the
state has breached its contractual obligation to pay PERS members
tax-free retirement benefits and is obliged to provide a remedy
for that breach.  Section 2(1) makes it clear that the increase
is provided to discharge the state's legal obligation to
compensate those injured by the breach.

		The state cannot have it both ways.  It cannot claim
that, for one purpose, the increase is legal compensation, i.e.,
damages, while, for other purposes, it is "merely" a retirement
"benefit."  The two concepts have independent legal significance,
for tax and other purposes,(8) and, unless we are prepared to turn
an entirely blind eye to those sometimes incompatible legal
ramifications, we must treat the two as mutually exclusive.  The
legislature's designation of the increase as legal compensation
shows, in other words, that it is not a mere benefit increase. 
The increase purports to give PERS retirees what they were
promised, viz., tax-free retirement benefits.  Because the
retirees were taxed, the increase is the cure.  And a cure for
being overtaxed is a rebate.  The increase provided by Oregon
Laws 1995, chapter 569, is just that -- a rebate.  Calling it
increased compensation does not change its nature.     

		Put another way, the legislature's award of legal
compensation is (or at least purports to be) the amount that, in
the eyes of the law, is needed to make the injured PERS members
whole.  The relationship between the lost exemption and the 1995
increase, therefore, is not merely one of logical causation (the
relationship that was discussed in Ragsdale), but of purported
legal equivalence. 

		Taken collectively, the foregoing aspects of the 1995
statute satisfy this court that the benefit increase provided
therein is, in substance, a tax rebate.  There is relatively
little in the statute to pit against that suggestion -- only the
facts that the increase is to be funded by employer
contributions, Or Laws 1995, chapter 569, section 3(6), and that
it applies without regard to individual tax circumstances. 
Although those latter factors were deemed sufficient in Ragsdale
to counteract the relatively weak evidence that the 1991 increase
was a tax rebate, they cannot carry the day against the stronger
circumstances in the present context. 

		The foregoing conclusion resolves the question that is
before us in Vogl.  The Tax Court's grant of summary judgment for
the Department was predicated on a rejection of the plaintiffs'
assertion that Oregon Laws 1995, chapter 569, is a disguised tax
rebate.  We reverse that judgment and remand the case to the Tax
Court for further proceedings.

		The effect of the foregoing conclusion on Dixon is less
immediately obvious.  The Dixon plaintiffs brought their claims
both as federal and state retirees and sought a declaration that
they were entitled to tax exemptions in both of those roles.  In
denying the relief sought, the trial court offered the following
two-part explanation:

	"It appearing that plaintiffs' claims as state retirees
are, for the purposes of the present litigation, made
moot by the adoption of Or Laws 1995, ch 569 (House
Bill 3349), and it further appearing that the issues
presented by the parties to this court in the pending
litigation are controlled by the decision of the Oregon
Supreme Court in Ragsdale v. Dept. of Revenue, 321 Or
216, [895] P2d [1348] (1995) and no good cause to the
contrary appearing,

		"It is this 27th day of November, 1995, ordered
that judgment being the same is hereby entered in favor
of the defendants and against plaintiffs * * *."

		Clearly, insofar as the opinion of the circuit court 
purports to decide that the 1995 statute comports with the equal
treatment mandate of Davis, it is wrong.  The 1995 statute may
have undermined plaintiffs' claims, as state retirees, that the
state had failed to provide an appropriate Hughes remedy, but
their essential claims as federal retirees for equal tax
treatment remained viable, albeit in a somewhat different form
than originally pleaded.(9)  In that regard (as should be clear
from the preceding discussion), plaintiffs have made their case:
The increase provided by Oregon Laws 1995, chapter 569,
substantially eliminates the tax on PERS benefits, without
extending the same favorable tax treatment to federal retirement
benefits.  As such, plaintiffs were entitled to a declaration
that they were entitled to a refund of the amount of state income
tax paid on their federal retirement income.

		However, for the reasons expressed above, plaintiffs
were not entitled to a similar declaration with respect to the
taxes paid on their PERS income.  As we explained in Hughes, we
leave it to the legislature to choose among the available
remedies for the state's breach of its contract with its
employees with respect to that income.  Hughes, 314 Or at 33 n
36.  This court remains available to assess the legality of the
legislative choice, whatever that may be.  That is true even if,
from the point of view of a particular group of plaintiffs, the
legislative choice is somewhat belated.

		Plaintiffs argue that, contrary to the circuit court's
judgment, their state PERS claims were not "made moot" by the
enactment of Oregon Laws 1995, chapter 569.  Plaintiffs contend
that they are entitled to obtain a declaration of their rights as
PERS retirees because, even with the 1995 enactment, a
substantial controversy continued to exist.

		In theory, plaintiffs are correct that the 1995 statute
did not "moot" their action as PERS retirees.  However, it did
resolve at least a portion of that action:  Once the legislature
had designated its choice of remedies, plaintiffs no longer could
claim a right to a tax refund as a default remedy.  Plaintiffs
may have been entitled to some declaration of their rights as
PERS retirees, but, within the context of their unsupplemented
pleadings and contentions, the declaration could not be the one
that they sought.

		Recognizing the foregoing point, plaintiffs argue that
the circuit court erred in denying their motion to file
supplemental pleadings challenging the adequacy of the 1995
enactment as a Hughes remedy.  They argue that, in general,
supplementation should be allowed as a matter of course.  They
also argue that, in these particular circumstances (where the
court would resolve the case by taking judicial notice of the
statute), the denial of the motion to supplement amounted to a
denial of due process.

		We disagree.  A trial court ruling on a motion to
supplement pleadings will not be reversed except for abuse of
discretion.  Pacific Form Corp. v. Burgstahler, 263 Or 266, 274,
501 P2d 308 (1972).  Given that the case, as pleaded and argued,
was ready to be decided, that the trial court granted plaintiffs
leave to pursue their new claims in a new action, and that the
court even went so far as to waive the filing fee in any such
action, we cannot say that denial of the motion to supplement was
an abuse of discretion.  Whatever may be the position of the
federal courts regarding its federal equivalent,(10) the discretion
conferred by ORCP 23 E is broad, and we will not lightly
interfere with it.(11)

		Neither do we see the denial of plaintiff's motion as
presenting a due process problem.  Basic notions of fair play are
not offended by a trial court's ruling that limits the issues
that the court will decide to those that have been pleaded and
argued.

		To conclude:  Plaintiffs as PERS retirees are not
entitled to the declaration that their PERS income is exempt from
state income taxation.  In the context of the unsupplemented
pleadings and contentions, the trial court's refusal to issue
such a declaration was permissible.  However, plaintiffs as
federal retirees are entitled to a declaration that Oregon Laws
1995, chapter 569, extends a tax rebate to PERS retirees and
that, under the principle of intergovernmental tax immunity, they
are entitled to an equivalent tax benefit.

		We emphasize that our holding necessarily is confined
to the 1995 statute.  We do not overrule Ragsdale or its analysis
of the 1991 law.  Neither do we direct any particular legislative
remedy for the problem identified in this opinion.  The
legislature may, for example, eliminate any further litigation
over intergovernmental tax immunity by granting equal tax
exemptions to PERS retirees (under the Hughes rationale) and to
federal retirees.  We hold only that the present legislative
"fix" of the problem is impermissible.

		The judgment of the Tax Court in Vogl is reversed, and
the case is remanded to the Tax Court for further proceedings.
The judgment of the circuit court in Dixon is affirmed in part 

and reversed in part.  The case is remanded to the circuit court
for further proceedings.

1. 	In simple terms, the doctrine of intergovernmental tax
immunity forbids direct taxation of one sovereign by another as
well as indirect taxes that discriminate against those with whom
the sovereign deals.  Davis v. Michigan Dept. of Treasury, 489 US
803, 811, 109 S Ct 1500, 103 L Ed 2d 891 (1989).  Although the
doctrine has its roots in the United States Constitution, it is
expressed most succinctly in a statute, 4 USC § 111, which
provides in part:

	"The United States consents to the taxation of pay
or compensation for personal service as an officer or
employee of the United States * * * by a duly
constituted taxing authority having jurisdiction, if
the taxation does not discriminate against the officer
or employee because of the source of the pay or
compensation."

2. 	This court declined to express any opinion as to what
the remedy for the breach should be, noting that "the legislature
is the most appropriate branch of government in the first
instance to choose among the available remedies."  Hughes, 314 Or
at 33, n 36.  The balance of the history that we recite here is
the story of the legislature's ongoing effort to steer between
the Scylla of Davis and the Charybdis of the state's legal
obligation not to tax the benefits of PERS retirees.

3. 	The increase is reflected in two types of payments: 
(1) a one time lump sum payment on January 1, 1996; and (2)
increased future PERS benefits.

4. 	Section 3(4) provides:

		"(a) The Public Employe's Retirement Board shall
calculate a multiplier for the purposes of this section
equal to the percentage produced by the following
formula:

			            1         	

1 - the maximum Oregon 

personal income tax rate 

		"(b) Upon the retirement or death of a member of
the system, the board shall determine the fraction of
the member's retirement allowance or death benefit,
including any refund or lump sum payment, that is
attributable to service rendered by the member before
October 1, 1991.  The board shall then calculate a
percentage that is equal to that fraction multiplied by
the multiplier determined by the board under paragraph
(a) of this subsection.  The percentage so calculated
shall be used to determine the amount of the increase
in benefits provided to a member, if any, under this
section."

Moreover, section 3(7) provides that the formula must be adjusted
to reflect any changes in the maximum Oregon income tax rate.

5. 	The 1995 statute also requires that the increase be
reported to the Internal Revenue Service and to the Department of
Revenue separately from other benefits paid to members and that

	"[r]eporting under this subsection must be consistent
with the characterization of those benefits as being
made in compensation for Oregon personal income taxes
assessed in breach of contract rights of members of the
system."

Id. at § 2(5).  Section 2(5) was repealed by the 1997
Legislature.  Or Laws 1997, ch 175, § 4.

6. 	Plaintiffs note, and the Department agrees, that the
complaint fairly encompasses the 1995 statute, because it refers
to "any * * * action which increased PERS benefits to compensate
PERS retirees for * * * state income taxation."

7. 	The fact that plaintiffs were seeking a declaration of
their remedy for a judicially recognized breach of contract made
the issue an appropriate one for determination by the circuit
court, rather than the Oregon Tax Court.  See ORS 305.410 (Oregon
Tax Court declared to be "the sole, exclusive and final judicial
authority for the hearing and determination of all questions of
law and fact arising under the tax laws of this state.").	

8. 	It would appear that the 1997 repeal of section 2(5) of
Oregon Laws 1995, chapter 569, is in partial recognition of that
problem.  Section 2(5) called for separate reporting of the
increased amount to the Department of Revenue and the Internal
Revenue Service as "compensation for Oregon person income taxes
assessed in breach of contract rights of members of the system."  
  

9. 	Throughout most of the litigation, plaintiffs had
argued that, under Davis, any Hughes remedy, other than a tax
exemption for both PERS and federal retirement benefits, would
have to be extended to federal retirees.  However, when the 1995
statute was introduced as a possible resolution of the case, the
emphasis shifted away from that general argument, directed at
Hughes remedies per se, to a more specific argument about the
1995 statute itself.  Plaintiffs moved to supplement the
pleadings to include allegations that the 1995 statute provided
an inadequate Hughes remedy to plaintiffs as PERS retirees and
that it violated the equal tax treatment requirement of Davis. 
Defendants responded by arguing that supplementation should not
be permitted, because the issue of the statute's adequacy as a
Hughes remedy could and should be left to another case and that
the Davis issue had been resolved in light of Ragsdale:  

"Ragsdale II is persuasive authority that these
plaintiffs have no complaint against the State because
of PERS benefits increases adopted in [Or Laws 1995, ch
569] * * *. 

	"Plaintiffs would argue that Ragsdale II did not
decide whether HB 3349 violated the principles of 
Davis v. Dept. Of Treasury.  Of course, they would be
technically correct in this argument, since HB 3349
became law only after Ragsdale II was decided. However,
the analysis by the Court in Ragsdale II applies with
equal force to HB 3349 as it did to the benefits
directly under consideration there."

It is clear (both from the judgment itself and from the denial of
the motion to supplement) that, in rendering judgment for
defendants, the court did not purport to decide that the 1995
statute provided an adequate Hughes remedy.  On the other hand,
it would appear (both from the fact that the judgment failed to
explicitly reserve that issue and from the fact that the parties
had presented substantive arguments on that issue) that the court
necessarily did decide the Davis question with respect to the
1995 statute.

10. 	Plaintiffs rely on LaSalvia v. United Dairymen of
Arizona, 804 F2d 1113 (9th Cir 1986), cert den 428 US 928, 107 S
Ct 3212, 96 L Ed 2d 699 (1987), for the proposition that it is an
abuse of discretion to deny a motion to file a supplemental
pleading in the absence of a showing of undue prejudice.

11. 	ORCP 23 E provides:

		"Upon motion of a party the court may, upon
reasonable notice and upon such terms as are just,
permit the party to serve a supplemental pleading
setting forth transactions or occurrences or events
which have happened since the date of the pleading
sought to be supplemented."  

(Emphasis supplied.)  Our holding on this issue is not intended
to suggest that it is the better ruling or the ruling that we
would make.  It also may be true that, in view of the ruling that
we have made in the Vogl case, the trial judge will see fit,
either on motion or sua sponte, to reconsider her decision when
the case is before her on remand.  Judicial economy would be
served by such a choice.