The Georgia Tax Tribunal has held that a Georgia resident taxpayer was entitled to deduct pass-through income which was subject to the Revised Texas Franchise Tax (RTFT) in computing his Georgia taxable income.1 At issue was whether the amount subject to the Texas tax qualified for the deduction with respect to taxes imposed "on or measured by income."2
Flow-Through Entity Taxation
To reduce the impact of taxation by multiple states on the same income earned by flowthrough entities, Georgia, like many states, allows specific credits or adjustments in the computation of taxable income. For example, Georgia allows resident individuals to take a credit for taxes paid in other states on the same income.3 While this straightforward credit alleviates double taxation for taxpayers who reside in the same jurisdiction as a wholly-owned flow-through entity, complexities arise for taxpayers who own interests in an entity which does business in multiple jurisdictions, especially because some states (like Texas) treat flow-through entities as separate taxpayers and impose entity-level taxes.4 To address this potential double taxation, Georgia statutes allow resident taxpayers an adjustment in computing taxable income for a flow-through entity's income taxed in another state which imposes on the entity a tax on or measured by income.5
An individual's Georgia taxable net income generally consists of federal adjusted gross income subject to prescribed adjustments,6 including the adjustment at issue. Notably, the language in the adjustment for income taxed by another state contained in the Georgia statute includes the unique phrase "on or measured by income."
Background
In this matter, in 2008, a Georgia resident taxpayer held ownership interests in both: (i) a Georgia limited liability company treated as a partnership for federal and Georgia income tax purposes (Georgia LLC); and (ii) a Georgia S corporation treated as an S corporation for both federal and Georgia income tax purposes (Georgia S Corporation). Both Georgia LLC and Georgia S Corporation owned interests in a Texas limited liability company (Texas LLC). Georgia LLC and S Corporation, through their direct and indirect ownership of various pass-through entities, participated in the wholesale and distribution of alcoholic beverages.
Texas LLC was the reporting entity for a group of entities on a 2009 RTFT Report (covering Texas LLC's activities during the 2008 calendar year). In determining its "taxable margin" for purposes of computing the RTFT, Texas LLC used the "cost of goods sold" deduction method.7
The taxpayer filed a 2008 Georgia income tax return and reported income including his distributive shares of pass-through income from Georgia LLC and Georgia S Corporation. No adjustments related to the payment of the RTFT by Texas LLC were included in taxable income. Further, as Texas does not impose personal income tax, the taxpayer did not file a personal income tax return or pay personal income taxes to Texas for the 2008 calendar year (or any other year).
On May 1, 2012, Georgia LLC and Georgia S Corporation filed a request with the Georgia Department of Revenue for a letter ruling concerning application of the adjustment for income from pass-through entities subject to the RTFT. The Department denied the ruling request on July 13, 2012 based in part upon its belief that because Georgia does not consider the RTFT to be an "income tax," the adjustment was not applicable to passthrough income taxed by Texas.
In response, the taxpayer filed an amended 2008 Georgia income tax return dated September 12, 2012 that included a deduction for income from the flow-through entities which was subject to the RTFT and claimed a tax refund. Additionally, the taxpayer amended the return to claim a similar deduction with respect to income subject to tax by the District of Columbia and to claim income tax credits which stemmed from an amended 2008 Georgia income tax return filed by Georgia S Corporation.8 The Department denied the claim for refund on September 13, 2013 and the taxpayer filed a petition with the Georgia Tax Tribunal.
RTFT Based "On or Measured by Income"
To determine whether the income subject to the RTFT qualified for the adjustment at issue, the Tribunal relied heavily upon analysis of statutory language. Specifically, in making its determination, the Tribunal focused on the plain language of the statute, the policy underlying its enactment, the applicable rules of statutory construction and the substantial weight of judicial, administrative and other authorities both in Georgia and other jurisdictions.
Statutory Language
Noting that the term "income" remains undefined in both the Internal Revenue Code and the Georgia Tax Code, the Tribunal relied upon consistent judicial interpretations of the term "income" as well as the definitions included in Black's Law Dictionary and the Georgia regulations to conclude that income is an aggregate of "all income" with no reference to any deduction for expenditures.9 Further, for purposes of the RTFT, the cost of goods sold must be deducted from gross receipts to arrive at gross income.10 The Tribunal noted the differences between the terms "income" and "gross income" used in the Georgia statutes, as well as the more restrictive definition of "gross income" found in the Treasury Regulation and other authorities while acknowledging that the precise differences were irrelevant to the determination of whether the RTFT is "on or measured by income." Instead, the Tribunal focused on whether the "taxable margin" base used to compute the RTFT is "on or measured by income."
Texas imposes the RTFT on the "taxable margin" of each taxable entity, including partnerships, S corporations, and other flow-through entities doing business in Texas.11 To compute the taxable margin, a taxpayer begins with its total revenue from its entire business.12 The taxable margin is further defined as the least of the following three options: (i) 70 percent of the taxable entity's total revenue; (ii) total revenue less cost of goods sold; or (iii) total revenue less compensation.13 Relying upon the instructions to the RTFT Report, as well as the analysis above, the Tribunal likened the starting point for computing the RTFT to gross income for federal income tax purposes. A comparison of the specific items of "income" included in the calculation of "total revenue" for RTFT purposes with the line items used to compute the federal gross income of a partnership or an S corporation revealed that "total revenue" for the RTFT and the federal gross income tax base are essentially identical. Thus, the Tribunal concluded that the RTFT is generally a tax based on or measured by "income" or "gross income" regardless of which definition is applied in the analysis. Further, the term "taxable margin" used in computing the RTFT is also based on or measured by "income." Because the taxpayer received pass-through income that was subject to the RTFT, the Tribunal determined that the taxpayer was entitled to an adjustment for the "portion of the income on which such tax was actually paid."14
Statutory Intent
The Tribunal noted that its conclusion that the RTFT is a tax "on or measured by income" is strongly supported in the policy underlying the statute at issue: that is, to allow shareholders or members of a pass-through entity to avoid the double taxation that could otherwise occur if the shareholder paid taxes on a portion of the passed-through income on which the corporation had already paid income taxes.15
The Tribunal rejected the Department's argument that the RTFT does not qualify for the adjustment because it is not a "net income" tax, noting that the restriction to net income simply does not exist in the statute. While the term "net income" is statutorily defined,16 the terms "income" and "gross income" are often used interchangeably.
Statutory Construction
In rejecting the argument made by the Department in its initial ruling request, the Tribunal found that interpreting the statute as only applying to taxes on or measured by net income contravenes at least four rules of statutory construction: (i) that statutes are to be interpreted "according to the natural and most obvious import of the language, without resorting to subtle and forced constructions;"17 (ii) that "a statute must be construed in relation to other statutes of which it is a part, and all statutes relating to the same subjectmatter must be construed together, and harmonized whenever possible;"18 (iii) that statutes be interpreted to "avoid a construction that makes some language mere surplusage;"19 and (iv) that statutes are "enacted with full knowledge of existing law."20
Furthermore, the Tribunal also rejected the Department's arguments that: (i) it is unreasonable not to construe the statute as being limited to taxes imposed on net income, mirroring the addback provision for taxes on or measured by net income;21 (ii) the difference between the Georgia and Texas tax bases requires the conclusion that the RTFT is not "on or measured with respect to income;" and (iii) the RTFT is a privilege tax or gross receipts tax.22
Other Authority Finally, the Tribunal cited a number of decisions from other jurisdictions in which the RTFT was found to be a tax "on or measured by income" or an "income tax." Specifically, the Court cited determinations by state tax authorities in Indiana,23 Missouri,24 Kansas (as long as the compensation or cost of goods sold deductions are used)25 and California (at a minimum, when the cost of goods sold deduction is used)26 as support for classification of the RTFT as an income tax. The Tribunal also cited to the Financial Accounting Standards Board's conclusion that the RTFT should be treated as an income tax.27
Where other jurisdictions have ruled that individuals cannot take a credit or adjustment with respect to the RTFT, the Tribunal noted that without fail the credits or adjustments at issue applied solely to taxes on net income, rather than taxes on income.28
Commentary
Georgia residents holding interests in flow-through entities which have paid RTFT should consider whether they have deducted income subject to that tax in computing Georgia taxable income. Based on the Tribunal's decision, a refund opportunity might be available for those who have not previously made this adjustment. This determination should be made on an individual basis based on consultation with a tax advisor.
Similarly, based on the decisions highlighted in the discussion by the Tribunal, an opportunity may be available to resident taxpayers in several states that hold interests in flow-through entities. Specifically, an available credit or deduction could be available in these states (and others that reference the deduction to income taxes, rather than net income taxes imposed by other states) with respect to RTFT paid, depending upon individual circumstances.
Conversely, the rationale in this decision potentially requires Georgia corporate income taxpayers to add back RTFT in computing Georgia taxable income. Generally, Georgia requires an addition to federal taxable income for any taxes on, or measured by, net income, to the extent such taxes were deducted in determining federal taxable income.29 As the Tribunal has now determined that the RTFT is a tax "on or measured by income," an appropriate adjustment may need to be included in the computation of Georgia corporate taxable income.
It is interesting that in one of the Tribunal's first reported decisions since its recent creation touching upon a material multistate tax issue, the Tribunal engaged in such a lengthy analysis in this case, particularly in its examination of how other states have treated the RTFT for purposes of their states' income taxes. Specifically, the exact wording enacted by the Georgia legislature to reduce the potential for double taxation of individual owners of pass-through entities, as well as the language employed by other jurisdictions to achieve similar results, played a key role in this determination. As a state that traditionally has not provided significant guidance on state tax matters, the Tribunal's comprehensive approach taken in rendering this decision is a refreshing change, one that hopefully will be reflected in future determinations.
Footnotes
1 Rosenberg v. MacGinnittie, Georgia Tax Tribunal, Docket No. Tax-IIT-1414626, Nov. 25, 2014.
2 GA. CODE ANN. § 48-7-27(d)(1).
3 GA. CODE ANN. § 48-7-28.
4 For example, Texas and Tennessee impose taxes directly upon flow-through entities. Neither of these states imposes an individual income tax.
5 GA. CODE ANN. § 48-7-27(d)(1)(B), (C).
6 GA. CODE ANN. § 48-7-27(a).
7 TEX. TAX CODE ANN. § 171.101(a)(1)(B)(ii)(a). This method of computing taxable margin is one of three available methods which are discussed in further detail below. 8 The adjustments related to the District of Columbia taxes and the Georgia income tax credits were not considered in the Tribunal's decision. Both amounts are still at issue and are being resolved separately.
9 GA. COMP. R. & REGS. r. 560-7-6-.02(1). Referenced cases included: Eisner v. Macomber, 252 U.S. 189 (1920); Brandon v. State Revenue Comm'n, 186 S.E. 872 (Ga. Ct. App. 1936); and Amerada Hess Corp. v. Dir., Div. of Taxation, 526 A.2d 1029 (N.J. 1987), aff'd, 490 U.S. 66 (1989).
10 Sullenger v. C.I.R.,
11 T.C. 1076 (1948). Also cited were Kazhukauskas v. C.I.R., T.C. Memo 2012- 191 (2012); Beamer v. Franchise Tax Bd., 563 P.2d 238 (Cal. 1977); and Amerada Hess Corp. v. Dir., Div. of Taxation, 526 A.2d 1029 (N.J. 1987). 11 TEX. TAX CODE ANN. §§ 171.001(a); 171.002(a)-(b). Also, Letter No. 200609761L, Texas Comptroller of Public Accounts, Sept. 6, 2006, clarifying that S corporations and LLCs are subject to the RTFT.
12 TEX. TAX CODE ANN. § 171.101(a).
13 TEX. TAX CODE ANN. § 171.101(a)(1)(A), (B). Texas LLC determined its taxable margin using the "cost of goods sold" deduction for tax year 2008.
14 GA. CODE ANN. § 48-7-27(d)(1)(D) addresses multi-tiered situations, noting that the adjustment for the individual must be determined by allocating such income between the shareholders, partners, or members at each tier based on their profit/loss percentage.
15 Graham v. Hanna, 677 S.E.2d 686 (Ga. Ct. App. 2009).
16 GA. CODE ANN. § 48-7-27(a). 17 Graham v. Hanna, 677 S.E.2d 686 (Ga. Ct. App. 2009).
18 Tew v. State, 739 S.E.2d 423 (Ga. Ct. App. 2013).
19 Singletary v. State, 713 S.E.2d 698 (Ga. Ct. App. 2011).
20 Id.
21 In rejecting this argument, the Tribunal stated "it must be presumed that the legislature's choice of language that is different from the language in the then existing add-back provision was intended to have different consequences." Also, the potential double benefit allowed by permitting both the adjustment at issue as well as the addition to income of income taxes imposed by other taxing jurisdictions to the extent deducted from federal taxable income was rejected as "slight."
22 While the Department relied upon In re Nestle USA, Inc., Relator, 387 S.W.3d 610 (Tex. 2012) and Ardire v. Tracy, 674 N.E.2d 1155 (Ohio 1997), the Tribunal found these cases unpersuasive.
23 Letter of Findings No. 02-20120562, Indiana Department of Revenue, Apr. 24, 2013.
24 Private Letter Ruling No. 5309, Missouri Department of Revenue, Dec. 12, 2008.
25 Opinion Letter No. O-2009-005, Kansas Department of Revenue, Sept. 2, 2008.
26 Technical Advice Memorandum No. 2011-03, California Franchise Tax Board, Apr. 13, 2001.
27 FASB Interpretation Number 48 (FIN 48).
28 Citing Directive No. 08-7, Massachusetts Department of Revenue, Dec. 18, 2008; P.D. No. 08-169, Virginia Department of Revenue, Sept. 11, 2008; and Notice No. 08-08, Minnesota Department of Revenue, July 21, 2008.
29 GA. CODE ANN. § 48-7-27(b)(2).
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