Opinion ID: 1613623
Heading Depth: 1
Heading Rank: 3

Heading: directly applicable case law

Text: The principle that a state may not impose a tax that discriminates against interstate commerce has been reaffirmed repeatedly by a long line of United States Supreme Court decisions. See, e.g., Amerada Hess Corp v New Jersey Dep't of the Treasury, 490 US 66; 109 S Ct 1617; 104 L Ed 2d 58 (1989); New Energy Co of Indiana v Limbach, supra ; American Trucking Ass'ns, Inc v Scheiner, 483 US 266; 107 S Ct 2829; 97 L Ed 2d 226 (1987); Bacchus Imports, Ltd v Dias, 468 US 263; 104 S Ct 3049; 82 L Ed 2d 200 (1984); Armco, Inc v Hardesty, supra ; Westinghouse Electric Corp v Tully, 466 US 388; 104 S Ct 1856; 80 L Ed 2d 388 (1984); Maryland v Louisiana, 451 US 725; 101 S Ct 2114; 68 L Ed 2d 576 (1981); Boston Stock Exchange v State Tax Comm, supra ; Halliburton Oil Well Cementing Co v Reily, 373 US 64; 83 S Ct 1201; 10 L Ed 2d 202 (1963); Nippert v Richmond; Welton v Missouri, supra . The instant case, of course, like all the cases cited above, presents this familiar issue within its own unique factual context. The two cases most closely on point would appear to be Westinghouse Electric Corp v Tully, supra , and the very recent decision in Kraft General Foods, Inc v Iowa Dep't of Revenue & Finance, supra . Each of those cases, like the instant case, involved a state tax that discriminated through the operation of certain tax credits or deductions. Westinghouse involved a challenge to a New York franchise income tax imposed on export companies. [8] A company's New York tax base is generally apportioned according to a three-factor formula analogous to that upheld in Trinova. [9] The Court in Westinghouse noted that New York's apportionment formula (its business allocation percentage) was not at issue in Westinghouse, and, indeed, had previously been upheld. See 466 US 398-399. At issue in Westinghouse was an amendment to the New York law providing for a tax credit limited to gross receipts from export products `shipped from a regular place of business of the taxpayer within [New York].' Id. at 393. As the Court explained, [t]he result of the credit is to lower the effective tax rate on the accumulated ... income ... to 30% of the otherwise applicable franchise tax rate. Id. Because the benefits of the tax credit increased or decreased in proportion to the percentage of the company's gross receipts derived from exporting goods from New York, as compared to the company's total gross receipts from exporting goods, the company argued, and the Court agreed, that the credit resulted in higher effective tax rates on New York-apportioned income for those companies exporting a smaller percentage of their products from New York, thereby discriminating against companies with a greater proportion of out-of-state business. See id. at 400-401, and n 9. Most significantly for present purposes, the state argued in Westinghouse that limiting the tax credit to exports shipped from New York was justified as a way to ensure that the tax credit only applied to income that was taxable by New York in the first place. This is similar to the argument primarily relied upon by the state in this case: that the apportionment of the CAD is a fair, if rough, way of ensuring that taxpayers like Caterpillar benefit from the CAD only to the extent that they actually do business in Michigan. The Court in Westinghouse rejected New York's argument because the calculation of the tax credit already took into account New York's business allocation percentage. In computing the allowable credit, the statute requires the [company] to factor in its business allocation percentage.... This procedure alleviates the State's fears that it will be overly generous with its tax credit, for once the adjustment of multiplying the allowable ... export credit by the [company's] business allocation percentage has been accomplished, the tax credit has been fairly apportioned to apply only to the amount of the accumulated ... income taxable to New York. From the standpoint of fair apportionment of the credit, the additional adjustment of the credit to reflect the ... New York export ratio is both inaccurate and duplicative. [ Id. at 399.] In this case, of course, the apportionment formulas applied to the CAD are not duplicative of any other formulas. But Caterpillar contends that they are nevertheless inaccurate in the sense condemned by Westinghouse. Caterpillar contends that if the state's concern is to ensure that the benefits of the CAD are limited in proportion to the amount of business that a company does in Michigan, the state could satisfy that concern by simply applying the same three-factor apportionment formula to the CAD that is already applied to the SBT. [10] Thus, as I discuss more fully in part II, to the extent the state's asserted justification for the CAD apportionment is to apportion the benefits of the CAD to Michigan-related business, Westinghouse indicates that this asserted state interest simply does not justify the discriminatory nature and effect of the chosen formulas. Kraft involved a challenge to Iowa's business income tax. While the challenge alleged only discrimination against foreign commerce rather than domestic interstate commerce, the relevant Commerce Clause analysis is fully applicable for present purposes. In defining the income subject to taxation, Iowa generally chooses, for purposes of convenience, to follow the definitions of federal tax law. One of the results of applying the federal definitions to Iowa's tax structure was that Iowa allowed a parent company doing business in Iowa to deduct from its Iowa-apportioned tax base dividends received from subsidiaries incorporated in the United States, but not dividends received from subsidiaries incorporated in foreign countries, unless the dividends reflected business activity in the United States. See Kraft, 120 L Ed 2d 65-66. Because the inevitable effect of Iowa's deduction scheme was to increase the effective rate of taxation on a company's Iowa-apportioned income when it received dividends from foreign subsidiaries reflecting foreign business activity, as compared to when it received dividends from domestic subsidiaries, [11] the Court concluded that the Iowa tax facially discriminates against foreign commerce and therefore violates the Foreign Commerce Clause. 120 L Ed 2d 69. [12] Taken together, Westinghouse and Kraft indicate that a state tax discriminates in violation of the Commerce Clause if, as a result of the operation of credits or deductions, the effective tax rate imposed on the income or other tax base apportioned to a state varies on the basis of the out-of-state (or foreign) status of the taxpayer or related business entity, or on the basis of the degree of activity in interstate (or foreign) commerce, so as to favor in-state (or domestic) commerce and disfavor out-of-state (or foreign) commerce. As I hope to demonstrate in part II and in the appendix, these are precisely the discriminatory effects of the CAD apportionment at issue in this case. II. APPLICATION OF THE ANALYSIS TO THIS CASE The majority in this case correctly cites Complete Auto Transit, Inc v Brady, 430 US 274; 97 S Ct 1076; 51 L Ed 2d 326 (1977), for the general framework of analysis applied to a challenge to a state tax under the Commerce Clause. As the United States Supreme Court recently reaffirmed, a court will sustain a tax against a Commerce Clause challenge so long as the tax [1] is applied to an activity with a substantial nexus with the taxing State, [2] is fairly apportioned, [3] does not discriminate against interstate commerce, and [4] is fairly related to the services provided by the State. [ Quill Corp v North Dakota, 504 US ___; 112 S Ct 1904; 119 L Ed 2d 91, 105 (1992), quoting Complete Auto, 430 US 279.] Caterpillar does not contend before this Court, however, that the SBT, as modified by the CAD, taxes any activity lacking a substantial nexus with Michigan, nor does it contend that the tax is not fairly related to the services provided by Michigan. Caterpillar also does not challenge the apportionment formulas applied to the personal property and real property components of the CAD on the ground that either of those formulas, taken alone, would not constitute a fair method of apportioning Caterpillar's business activity attributable to Michigan. [13] Thus, the first, second, and fourth prongs of the Complete Auto analysis are not at issue in this case. [14] Caterpillar's only contention before this Court is that the CAD apportionment formulas, in conjunction with the underlying three-factor apportionment of the SBT itself, improperly discriminate against interstate commerce, and specifically against Caterpillar itself as a predominantly out-of-state commercial entity engaged in interstate commerce. [15] This issue is governed by the principles and case law set forth in part I. Under the personal property CAD, the taxpayer is, generally speaking, allowed to deduct from its Michigan-apportioned tax base the costs of depreciable personal property accrued during the tax year. The personal property CAD for a given year is apportioned to Michigan according to the average of the taxpayer's property and payroll factors. [16] Leaving aside the effect of apportionment, the personal property CAD is available without regard to whether the personal property is acquired or placed into service in state or out of state. Because the property factor is based on all real and personal property owned or rented during the tax year, [17] however, it will necessarily be affected  and the apportionment formula resulting from the average of the property and payroll factors will thus also be affected  by whether newly acquired personal property subject to the CAD is placed into service in state or out of state. Thus, it is clear, on the face of the statute, that two otherwise similarly situated companies that invest in equal-value amounts of new personal property during the tax year will receive different deductions under the CAD, depending on the degree to which they are physically based in Michigan to begin with (as measured by the property and payroll factors), and depending on whether they invest the newly acquired personal property in state or out of state. Furthermore, it is clear that a greater deduction, resulting in a lower effective tax rate on the Michigan-apportioned tax base, is afforded both to (1) a company that is more predominantly based in Michigan to begin with, as compared to a company more predominantly based out of state, and (2) a company investing the new personal property in state, as compared to a company investing the new personal property out of state. These discriminatory effects are illustrated by the hypothetical numerical examples set forth in the appendix, tables I(A) and II(A). [18] The first effect needs little explanation. Because the apportionment of the personal property CAD is directly tied to the average proportion of property and payroll situated in Michigan, it is obvious that a predominantly Michigan-based company will reap a far greater benefit from any investment in personal property (whether in state or out of state) than will a predominantly non-Michigan-based company (with the same Michigan-apportioned tax base) making an identical investment. [19] The second effect is more subtle and indirect, but no less inevitable. Because an in-state investment in personal property will always increase (however slightly) the property factor and thus the personal property CAD apportionment formula, while an out-of-state investment will always decrease both numbers, a company investing in personal property in state will always end up reaping a greater personal property CAD than will a similarly situated company making an equivalent investment out of state. [20] Under the real property CAD, the taxpayer is, generally speaking, allowed to deduct from its Michigan-apportioned tax base the costs of depreciable real property accrued during the tax year. The real property CAD, however, is limited to property physically located in Michigan. [21] The apportionment of the real property CAD to Michigan is thus strictly dependent on the in- or out-of-state location of the property in which the taxpayer invests, and does not depend on the relative in- or out-of-state status of the taxpayer. [22] It is clear, on the face of the statute, that two otherwise similarly situated companies that invest in real property of equal value during the tax year will receive either a substantial deduction or no deduction at all, depending on whether that property is located in state or out of state. Furthermore, the deduction, resulting in a substantially lower effective tax rate on the Michigan-apportioned tax base, is afforded only to a company investing in Michigan real property, as compared to a similarly situated company investing in out-of-state real property. This discriminatory effect is illustrated by the hypothetical numerical examples set forth in the appendix, tables I(B) and II(B). [23] Thus, both the personal property and real property CAD apportionment formulas, when applied in conjunction with the three-factor apportionment of the SBT itself, result in the imposition of higher effective tax rates on the Michigan-apportioned tax base with regard to companies that are either predominantly non-Michigan based or that direct their investments outside Michigan, as compared to companies that are predominantly Michigan based or that direct their investments inside Michigan. These discriminatory effects converge so as to afford an especially preferential tax rate to a Michigan-based company that invests in Michigan, as compared to a non-Michigan-based company that invests outside Michigan. These facial and inevitable discriminatory effects contravene the Commerce Clause as interpreted by the United States Supreme Court, most notably in Westinghouse and Kraft. See part I(C). [24] That the disputed tax, as in this case, is a general tax on income, value-added, or other business activity, rather than a transactional tax directly targeting interstate activities or out-of-state products, is irrelevant to our analysis. The franchise tax [at issue in Westinghouse ] is a tax on the income of a business from its aggregated business transactions. It cannot be that a State can circumvent the prohibition of the Commerce Clause against placing burdensome taxes on out-of-state transactions by burdening those transactions with a tax that is levied in the aggregate  as is the franchise tax  rather than on individual transactions. [ Westinghouse, 466 US 404.] Nor is it relevant that a discriminatory effective tax rate results indirectly from the operation of tax credits or deductions, rather than being directly imposed. We have declined to attach any constitutional significance to such formal distinctions that lack economic substance. Id. at 405; see also Kraft, supra . Finally, the magnitude of the discriminatory effect is irrelevant; any measurable discriminatory effect, however small, is unconstitutional. See Wyoming v Oklahoma, 117 L Ed 2d 23; Westinghouse, 466 US 407 (the Court `need not know how unequal the Tax is before concluding that it unconstitutionally discriminates'). [25] When a state statute clearly discriminates against interstate commerce, it will be struck down, unless the discrimination is demonstrably justified by a valid factor unrelated to economic protectionism. Wyoming v Oklahoma, 117 L Ed 2d 22 (citations omitted; emphasis added). As the Court stated even more recently in the context of discrimination against foreign commerce: Absent a compelling justification, ... a State may not advance its legitimate goals by means that facially discriminate.... Kraft, 120 L Ed 2d 69 (emphasis added). The Court struck down the discriminatory tax in Kraft because this is not a case in which the State's goals `cannot be adequately served by reasonable nondiscriminatory alternatives.' Id. The primary state interest asserted in support of the chosen apportionment formulas for both the personal property and real property CAD is the need to apportion the CAD to Michigan, consistent with the apportionment of a company's overall tax base to Michigan for purposes of the SBT. While this goal is certainly legitimate (and even, it may be assumed, compelling), it completely fails to justify the discriminatory nature and effect of the apportionment formulas the state has chosen to achieve that goal. All of the demonstrated discriminatory effects could easily have been avoided by simply apportioning both components of the CAD by the same three-factor formula used to apportion the SBT itself. The state has not argued, and could not reasonably argue, that applying the SBT three-factor apportionment to the CAD would fail to achieve its asserted goal in this regard. Indeed, the state has already amended the CAD statute in response to the lower court decisions in this case to provide for precisely such an apportionment of the CAD for tax years beginning after September 30, 1989. [26] The state asserts an additional goal limited to the real property CAD apportionment: the encouragement of investment in Michigan real property. This goal, however, is clearly not unrelated to economic protectionism. On the contrary, the goal of encouraging both in- and out-of-state companies to direct their investments in real property toward Michigan as opposed to outside Michigan bears a strong and obvious relationship to economic protectionism. I agree with Justice BRICKLEY, of course, that this asserted goal is not, generally speaking, a categorically impermissible purpose. Cf. BRICKLEY, J., post, p 480. As I have discussed in part I(B), it is perfectly permissible for a state to promote instate investment and economic development, but only as long as the state does not attempt to do so by means of discriminating against interstate commerce. It would turn logic and more than a century of United States Supreme Court precedent upside down to imply, as my Brother BRICKLEY comes close to doing, that a state may discriminate against interstate commerce whenever doing so serves (as it inevitably would) the goal of promoting in-state investment and economic development. That goal, while not categorically invalid, is simply not, by any stretch of the imagination, sufficiently unrelated to economic protectionism to justify a state tax that discriminates against interstate commerce. [27] It is important to keep in mind that the issue in this case is not the validity of the state's goal, but rather the validity of the CAD apportionment at issue. Just as generalized assertions of interstate economic protectionism do not suffice to demonstrate the invalidity of the CAD apportionment, generalized endorsements of the goal of providing incentives for the growth of intrastate industry, post, p 480, upon which my Brother BRICKLEY relies so heavily, go no further to support its validity. In conclusion, it is useful to step back and consider the discriminatory effect of the CAD apportionment in broad, practical terms. A company like Caterpillar that is physically based primarily out of state, but that has a more significant proportion of sales in Michigan, is taxed to some extent under Michigan's SBT on the value added to its products in its non-Michigan plants, on the basis of its Michigan sales as incorporated into the three-factor formula. While such taxation might, at first glance, seem to be improperly extraterritorial, the United States Supreme Court upheld the SBT in Trinova on the theory that the true geographical origin of value-added, like that of business income, cannot be determined with any meaningful precision. See 112 L Ed 2d 904-911. Rather, the Court held that Michigan could reasonably assume that the Michigan-related sales activities of a company physically based primarily outside Michigan add significantly to the value of the products sold. See 112 L Ed 2d 905-906. Thus, while it is impossible to identify precisely how much value is added by sales activities, see 112 L Ed 2d 905-908, the SBT may properly be apportioned in part on the basis of where sales occur. The theory is that it would be artificial and unrealistic to geographically assign a company's value-added solely on the basis of where the company's productive activities physically take place, as measured by the location of property and payroll. See 112 L Ed 2d 910 ([we] reject the complete exclusion of sales as somehow resulting in more accurate apportionment). The problem is that Michigan, having chosen to tax with one hand a non-Michigan-based company's productive activities conducted at out-of-state factories with out-of-state employees and equipment, on the basis of Michigan sales as calculated under the three-part formula, then turns around and refuses, with the other hand, to allow the company a deduction for acquisitions of property that would also reflect, to an equivalent degree, the company's Michigan sales. On the contrary, Michigan limits the availability of the personal property CAD strictly according to the degree to which the company's overall property and payroll are physically located in Michigan. And Michigan limits the availability of the real property CAD according to whether the property obtained is physically located in Michigan. Thus, a company that purchases or builds a factory outside Michigan, and hires employees and places equipment into service in that factory to engage in production, will be taxed by Michigan on the productive activities that take place in that factory, to the extent, as reflected in the three-factor formula, that the products manufactured are sold in Michigan. [28] And yet the company will not receive any deduction for its acquisition of the factory, and will receive a deduction for its acquisition of the equipment only to the extent (small or non-existent, by hypothesis) that the company's overall property and payroll are based in Michigan. [29] By relying in part on Michigan sales for initial taxation purposes, while relying exclusively on Michigan property and payroll for relevant deduction purposes, the combined apportionment scheme of the SBT and the CAD results in classic economic protectionism. Predominantly non-Michigan-based companies that import heavily into Michigan have the worst of both worlds: relatively higher tax bases due to their higher proportion of sales in Michigan, and relatively lower (or nonexistent) deductions pursuant to the CAD. In stark contrast, predominantly Michigan-based companies that export heavily to other states have the best of both worlds: relatively lower tax bases due to their lower proportion of sales in Michigan, and much higher deductions pursuant to the CAD. At risk of beating a dead horse, let me quote once again from Wyoming v Oklahoma, 117 L Ed 2d 22: [W]hen the state statute amounts to simple economic protectionism, a `virtually per se rule of invalidity' has applied. III. THE ANALYSIS OF JUSTICE BRICKLEY AND THE MAJORITY I agree with my Brother BRICKLEY'S conclusion that the personal property CAD apportionment is invalid under the Commerce Clause. With regard to the real property CAD apportionment, however, I believe, with all due respect, that Justice BRICKLEY and the majority misconstrue the governing case law of the United States Supreme Court. Justice BRICKLEY suggests that the real property CAD is valid simply because it is provided wholly independent of a company's interstate character. Post, p 471. The majority, likewise, relies on a law review article published in 1976 that asserts: The [SBT] does not contain provisions aimed at imposing adverse tax consequences upon multistate taxpayers as a class. Generally speaking, the overall tax consequences to a multistate taxpayer will be dependent upon the nature of its business activities.... [ Ante, p 425, quoting Pollock, Multistate taxpayers under the Single Business Tax Act, 22 Wayne L R 1101, 1113 (1976).] In fact, as I have attempted to demonstrate in part II, the CAD apportionment does impos[e] adverse tax consequences upon multistate taxpayers as a class, as compared to taxpayers primarily or exclusively based in Michigan. More fundamentally, however, it is not necessary to demonstrate that a tax discriminates against interstate or multistate taxpayers as a group in order for it to violate the Commerce Clause. As I have discussed, even holding constant the in- or out-of-state character of the company, the CAD apportionment discriminates against interstate economic activities. This alone would be sufficient to invalidate the scheme. The author of the quoted law review article did not have the benefit of Boston Stock Exchange, supra, decided the following year, in which the Court clarified that even when both the favored and disfavored business activities involve out-of-state entities and interstate commerce, the Commerce Clause is violated by discrimination designed to direct [such] commerce to businesses within the State.... 429 US 334-335, quoted more fully in part I(A). In view of that unequivocal language in Boston Stock Exchange, I disagree with Justice BRICKLEY'S assertion that it is entirely permissible to grant a credit using in-state activity as a criterion. Post, p 480. In fact, relying on the in-state status of an economic transaction or activity was precisely what the Court struck down as invalid in both Boston Stock Exchange and Westinghouse, supra . My colleague relies heavily on the analogies between Westinghouse and this case with regard to the personal property CAD, but seems to overlook the even more obvious analogies with regard to the real property CAD. While the parallels with Westinghouse should not be overdrawn, as that case involved a tax credit operating differently from the tax deduction at issue here, Westinghouse squarely rejected New York's decision to tie the benefits of its tax credit to the geographical location (inside New York) from which the taxpayer exported goods. Similarly, Michigan has chosen to tie the benefits of its real property CAD to the geographical location (inside Michigan) of the real property potentially subject to the deduction. I think it is incorrect, in light of Boston Stock Exchange and Westinghouse, to suggest that facial discrimination under the Commerce Clause results only when a statute creates two categories of jurisdictional activity, one that is composed of intrastate activity and one that is composed of interstate activity, and imposes a burden on the interstate activity not shared by intrastate taxpayers. [BRICKLEY, J., post, p 478.] In both Boston Stock Exchange and Westinghouse, both the favored and disfavored activities could be characterized as interstate commerce, and both the favored and disfavored entities could be characterized as interstate taxpayers. And yet the Court struck down the taxes at issue because they discriminated in favor of activities directed toward the taxing state. Such discrimination, after all, is the very essence of interstate economic protectionism. Justice BRICKLEY states that the CAD for real property treats all acquisitions of real property in Michigan without regard to a company's interstate activity.... Post, p 478. But the very acquisition of property outside Michigan, as opposed to inside Michigan, constitutes a type of interstate activity protected against discrimination by the Commerce Clause. Obviously, the real property CAD does have regard to  indeed, it relies exclusively upon  whether the property acquired is inside Michigan or outside Michigan. Relying exclusively on that in-state geographical criterion is no more valid in this case than was New York's reliance on the in-state location from which exports were shipped in Westinghouse, or New York's reliance on the in-state location of securities sales in Boston Stock Exchange. [30] Finally, I must take issue with Justice BRICKLEY'S assertion that my analysis with regard to the real property CAD hinges on a faulty comparison of in-state, jurisdictional activity and out-of-state, nonjurisdictional activity, and that [f]or the purposes of the Commerce Clause, these activities are noncomparable. Post, p 481. As I believe my analysis makes perfectly clear, the unlawful discrimination that I discern in this case consists of the different and discriminatory effective tax rates imposed on a company's SBT tax base concededly within Michigan's jurisdiction. The effective tax rate hinges in part on a company's choice to direct its commerce toward Michigan or away from Michigan. Whether Michigan would have jurisdiction for tax purposes over the commerce directed away from Michigan is irrelevant; this case does not involve a transaction tax aimed directly at the disfavored commerce. Rather, as the governing case law indicates, Michigan may not discriminate against such commerce by varying the effective rate of tax imposed on that portion of the company's value-added that is concededly within Michigan's jurisdiction. My difficulties with the majority's analysis run even deeper. The majority does not come to grips with the facial discriminatory effect of the CAD apportionment. As my Brother BRICKLEY points out, the mere fact that [t]he CAD is available for any taxpayer, RILEY, J., ante, p 422 (emphasis added), wholly fails to alleviate the infirmity of the CAD apportionment formulas, which render the CAD available only on terms that facially discriminate against interstate commerce. See BRICKLEY, J., post, pp 476-477. The majority correctly states that [t]he United States Supreme Court has held that when the different effects of a tax provision on different companies result solely from the differences between the nature of these companies' businesses and not from the location of their activities (i.e., in state or out of state), there exists no discriminatory effect on interstate commerce. [ Ante, p 425.] But as I have attempted to demonstrate in part II, the different effects of the tax scheme at issue do result from the location of [the companies'] activities, and not just from the different nature of the taxed business activities. Indeed, I have postulated, in my analysis and in the hypothetical examples in the appendix, similarly situated companies engaged in identical types of business activity, with the only differences being the in- or out-of-state character of the companies or their activities. IV. THE RETROACTIVITY ISSUE AND THE REMEDY ISSUE In view of my dissenting posture, I will not attempt to reach a definitive conclusion with regard to the retroactivity or remedy issues. I would note only the general principle set forth in McKesson Corp v Florida Dep't of Business Regulation, 496 US 18, 43, n 27; 110 S Ct 2238; 110 L Ed 2d 17 (1990): In order to cure the illegality of [a] tax as originally imposed, the State must ultimately collect a tax for the contested tax period that in no respect impermissibly discriminates against interstate commerce. V. CONCLUSION For the reasons I have stated, I respectfully dissent.