Department of Revenue v. Howick

• Decision Date: 02 February 1981
• Docket Number: No. 79-105,79-105
• Citation: 303 N.W.2d 381,100 Wis.2d 274
• Parties: DEPARTMENT OF REVENUE, Appellant-Petitioner, v. Romain A. HOWICK, Respondent.
• Court: Wisconsin Supreme Court

Page 381

303 N.W.2d 381

100 Wis.2d 274

DEPARTMENT OF REVENUE, Appellant-Petitioner, v. Romain A. HOWICK, Respondent.

No. 79-105.

Supreme Court of Wisconsin.

Argued Oct. 27, 1980.

Decided Feb. 2, 1981.

Bronson C. La Follette, Atty. Gen., and Allan P. Hubbard, Asst. Atty. Gen., on brief; John J. Glinski, Asst. Atty. Gen., for appellant-petitioner.

Romain A. Howick, pro se.

COFFEY, Justice.

This is a review of a decision of the court of appeals ¹ affirming an order of the circuit court dismissing the petition of the Wisconsin Department of Revenue (Department) to set aside a decision and order of the Wisconsin Tax Appeals Commission (WTAC). The WTAC had granted Romain A. Howick's (taxpayer) petition for abatement of the Department's assessment of additional income taxes for the years 1970 through 1973, inclusive.

This controversy involves the Department's treatment of loss on the sale of corporate stock for income tax purposes when stock is sold by a Wisconsin resident who purchased it while a resident of the state of Iowa.

The taxpayer moved to Wisconsin on June 20, 1970, and immediately thereafter divested himself of certain shares of stock that he acquired while a nonresident. As a result of the stock sold in Wisconsin in 1970, he suffered a $10,043.82 loss, having purchased the same for $56,436.42. Thus, he reported the difference between $56,436.42 and the sale price of $46,392.60 or $10,043.82 on his 1970 federal income tax return as a net long-term capital loss. Howick also reported this loss on his 1970 Wisconsin tax return and deducted $1,000 each year thereafter from ordinary income through 1972 (3 years). ²

In 1973 Howick divested himself of more stock he acquired while a resident of Iowa. He purchased this stock for $13,317.40 and suffered a $4,875.57 loss at the time of sale. The taxpayer combined this 1973 loss ($4,875.57) with the balance of a loss carry over from 1970 and thus offset a long-term gain realized from other 1973 stock transactions. This netting process (offsetting long-term gains by long-term losses see: I.R.C. § 1222) yielded a $516.10 loss that the taxpayer deducted from ordinary income in 1973.

On October 6, 1975, the Department of Revenue made an additional income tax assessment against Howick in the amount of $978.96 plus interest. ³ The department audited Howick and determined that he had erred in calculating his losses for the years 1970 and 1973 for sales of stock acquired while he was a nonresident. The Department's determination was based on the following administrative rule set forth in a Revenue Department Memorandum dated April 1, 1966: ⁴

"... in determining the gain or loss on capital assets disposed of by a resident individual who had acquired such assets prior to the time such individual became a Wisconsin resident, the basis of the asset to be used would be: (1) if gain is realized, the difference between the selling price and the higher of the fair market value or the adjusted basis of the asset at the time Wisconsin residency was established, or (2) if a loss was sustained, the difference between the selling price and the lower of the fair market value or adjusted cost basis of the asset at the time Wisconsin residency was established. If no gain is determined under (1) and no loss determined under (2), no gain or loss would be reportable on the Wisconsin income tax return in the year of sale." See: Vol. 1, Wisconsin Tax Rep. (CCH) P 10-414.20.

In essence, this rule provides for an adjustment in some circumstances to the federal cost basis of a capital asset (corporate stock). If applicable, the adjustment is based on the value of the asset on the date the taxpayer established residence in Wisconsin. Its net effect is to minimize both gains and losses recognized on the sale of stock purchased before the taxpayer became a resident of this state. Only subsec. two (2) of the Revenue Department's Memorandum dated April 1, 1966, referred to above, is involved in this case. ⁵ The Department explained its application of this rule to the taxpayer herein as follows:

"1. If the selling price after moving into Wisconsin was less than the original cost of the stock when purchased out of state and its fair market value on June 20, 1970, when the taxpayer first moved into Wisconsin, the loss recognized was the difference between the selling price and the lesser of either the original cost or its fair market value." Pet.-App's. br. at 7.

Thus, the application of the rule substitutes a fictitious basis for the cost of the asset, if the substitution will result in reducing the amount of the loss that the taxpayer is entitled to recognize on the sale of the asset.

The Department applied this rule to each of the taxpayer's stock sales in 1970 and 1973. As a result, the Department reduced Howick's reported net long-term loss for the 1970 stock transactions from $10,043.82 to $596.80 ⁶ and converted the $4,875.57 loss realized on the 1973 stock sales he acquired while a nonresident to a $123.18 gain. ⁷ The Department disallowed the loss deductions from ordinary income in 1971 through 1973 and a portion of the loss offset for 1973 as well as $403.20 of the loss deduction taken in 1970. Therefore, the Department assessed the additional income taxes noted above. ⁸

On November 3, 1975, Howick appealed to the WTAC for abatement of the Department's income tax assessment against him. The WTAC granted the taxpayer's application stating "The (Department's) assessment ... under review has the ultimate effect of creating an artificial gain where a loss was actually incurred. We can find no statutory or case law that authorizes such a transformation (creating a gain from a loss) and thus must reject it." The Department's application for a rehearing was denied and it petitioned the circuit court for review of the WTAC's decision, pursuant to secs. 73.015(2) and 227.16, Stats. ⁹ The circuit court dismissed the Department's petition stating that it was unaware of any Wisconsin law supporting the Department's action and that this application of the Department's rule "... is in danger of being contrary to the Constitutional rights of the taxpayer under the XIV Amendment to the U. S. Constitution to equal protection of the laws. It is obvious that the application of the Department's theory could result in tremendous difference of tax liability upon identical Wisconsin taxpayer transactions if everything else were identical except that one was a nonresident of the state at the time of acquisition of the property sold." ¹⁰

The court of appeals affirmed the circuit court's decision upholding the action of WTAC in ruling that it could find no authority in the Wisconsin Statutes or case law for the Revenue Department's rule that had the "ultimate effect" of creating an artificial gain where a loss was actually incurred. We granted the Department's petition for review of the appellate court's decision.

Issue

Did the Department exceed its rule making power set forth in sec. 71.11(24) (a), Stats., in establishing an administrative rule that provides for an adjustment to the basis of stock, in calculating a loss on the sale thereof where the taxpayer acquired the stock while a resident of another state, so as to reduce the loss to reflect a decrease in the value of the stock during the time the taxpayer resided out of state?

The legislature has delegated broad but not unqualified rule making powers to the Department of Revenue for the purposes of administering the Wisconsin income tax law. The Department's rule making authority is found in sec. 71.11(24)(a), Stats., ¹¹ which provides:

"The department of revenue may make such rules and regulations as it shall deem necessary in order to carry out this chapter."

Recognizing that the Department's rule making power is not unqualified, this court in Plain v. Harder, 268 Wis. 507, 511, 68 N.W.2d 47 (1955), held that the Department cannot adopt a rule which amounts to independent legislation. Id. at 511. Thus:

"An administrative rule, even of long duration, may not stand at variance with an unambiguous statute. State ex rel. Irany v. Milwaukee County Civil Service Comm. (1962), 18 Wis.2d 132, 135, 118 N.W.2d 137; Plain v. Harder (1955), 268 Wis. 507, 68 N.W.2d 47. In the latter case, at page 511, (68 N.W.2d 47) this court said:

" 'The rule-making power does not extend beyond the power to carry into effect the purpose as expressed in the enactment of the legislature. " A rule out of harmony with the statute is a mere nullity" ' " (emphasis supplied) Basic Products Corp. v. Department of Taxation, 19 Wis.2d 183, 186, 120 N.W.2d 161 (1963).

We believe that sec. 71.02(2)(d) and (e), Stats., provide the key to the resolution of this controversy. Sec. 71.02(2)(d), Stats., defines Wisconsin taxable income for individuals as "... Wisconsin adjusted gross income less itemized deductions or less the Wisconsin standard deduction." Wisconsin adjusted gross income means "... federal adjusted gross income, with the modifications prescribed in s. 71.05(1) and (4)." Sec. 71.02(2)(e), Stats. Thus, we must determine: (1) how federal adjusted gross income is calculated, and (2) whether any of the sec. 71.05(1) and (4), Stats., modifications are applicable in this case. We turn first to the issue of the computation of "federal adjusted gross income."

The I.R.C. provides that the income tax basis of stock purchased by the taxpayer is its cost at the time of purchase. See: I.R.C. §§ 1011, 1012. The gain or loss from the sale of stock is the difference between the amount realized, i. e., selling price, and the taxpayer's cost. I.R.C. § 1001. Net long-term loss is computed by subtracting the long-term gains for the taxable year from the long-term losses. I.R.C. § 1222(8). Given that Howick calculated the long-term losses resulting from his stock transactions for the years 1970 and 1973 according to these rules, and that the Department does not contest the...