Action Item: In a decision with wide-ranging implications and potential refund opportunities, Pennsylvania's Commonwealth Court ruled on September 19th that Pennsylvania municipalities (other than Philadelphia) may not impose their business privilege tax ("BPT") on a rental real estate business. The rationale of this decision extends beyond rental real estate businesses to any business involved in leasing any type of property.

In Fish, Hrabrick and Briskin v. Township of Lower Merion, Pennsylvania's Commonwealth Court agreed with three individual owners of rental real estate located in Lower Merion Township that the Local Tax Enabling Act ("LTEA") prohibits any tax on "leases or lease transactions," whether it is a direct tax on a lease or an indirect tax imposed on the privilege of engaging in a leasing business.

The LTEA is the Pennsylvania statute under which all political subdivisions other than the City of Philadelphia receive their authority to impose local business taxes. If this decision stands, all businesses involved in leasing any type of property, real or personal, will no longer have to pay their locality's business privilege tax on lease receipts, and may be entitled to refunds of taxes paid on lease receipts for years open under the refund statute of limitations.

The LTEA authorizes most cities (it does not apply to Philadelphia, which imposes its business taxes under a different enabling law), boroughs, towns, townships, and school districts to impose taxes on persons, transactions and privileges within their borders. But it specifically excludes the power to impose "any tax on...leases or lease transactions." Lower Merion argued that while this exclusion prohibits it from imposing a direct tax on a lease, it was authorized to tax the three landlords for the privilege of engaging in a leasing business in the Township.

In a 5-2 decision, Commonwealth Court held that the Township is prohibited from imposing "'any tax'—i.e, privilege, transactional, or otherwise—on leases or lease transactions." The Court stated that it was compelled to reach this conclusion by the "binding guidance" of the Pennsylvania Supreme Court's 2008 holding in Lynnebrook and Woodbrook Associates, L.P. v. Borough of Millersville. In Lynnebrook, the Supreme Court invalidated a direct $30 flat tax on residential lease transactions, stating that the LTEA's lease tax exclusion had to be interpreted in a manner "that most restricts the taxing authority—that is, the broadest interpretation of the lease exception: an unqualified prohibition on the taxing of leases."

Commonwealth Court found that there was no material difference between a tax of 1.5 mills on each rent payment, which would be a transaction tax, and a tax of 1.5 mills annually on all rent receipts, which can be characterized as a business privilege tax. The only differences are title and timing. The Court held that while the three landlords had to register with the Township because they were conducting business there, the lease receipts were not taxable due to the LTEA's lease tax exclusion.

If this decision stands, it should apply to receipts from all leasing businesses. For example, an automobile dealer that leasescars would not have to pay local business privilege tax on its lease receipts. The Township will likely ask the Pennsylvania Supreme Court to hear its appeal, and if the Court agrees to do so we are not likely to know the final outcome for another year or so. Refund claims generally must be filed within three years of the due date of the BPT return, but the BPT ordinance or regulation for each municipality must be reviewed to determine if a different period applies.

Impacted taxpayers should watch this case; if the Supreme Court is asked and agrees to hear an appeal, a protective refund claim should be filed for any expiring limitations period while the case is pending at the Supreme Court. If no appeal is sought or allowed, refund claims should be filed for all open years.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.