Earth Resources Co. of Alaska v. State, Dept. of Revenue, s. 5762

• Decision Date: 10 February 1983
• Docket Number: Nos. 5762,5815,s. 5762
• Citation: 665 P.2d 960
• Parties: EARTH RESOURCES COMPANY OF ALASKA, a/k/a Energy Company of Alaska, Appellant and Cross-Appellee, v. STATE of Alaska, DEPARTMENT OF REVENUE, Appellee and Cross-Appellant.
• Court: Alaska Supreme Court

Page 960

665 P.2d 960

EARTH RESOURCES COMPANY OF ALASKA, a/k/a Energy Company of Alaska, Appellant and Cross-Appellee, v. STATE of Alaska, DEPARTMENT OF REVENUE, Appellee and Cross-Appellant.

Nos. 5762, 5815.

Supreme Court of Alaska.

Feb. 10, 1983.

As Amended on Grant in Part and

Denial in Part of Petition for Rehearing

June 17, 1983.

Patrick B. Gilmore, Atkinson, Conway, Bell & Gagnon, Anchorage, for appellant and cross-appellee.

Wilson L. Condon, Atty. Gen., Juneau, and Teo C. Spengler, Asst. Atty. Gen., Juneau, for appellee and cross-appellant.

Before BURKE, C.J., RABINOWITZ, CONNOR and MATTHEWS, JJ., and SCHULZ, Superior Court Judge. ^*

AMENDED OPINION

BURKE, Chief Justice.

This case involves principles of multistate corporate taxation as set out in the Multistate Tax Compact, AS 43.19.010-43.19.050 and the Alaska Net Income Tax Act, AS 43.20.010-43.20.350 (ANITA). The central issue on appeal is whether the taxpayer was properly found to be a unitary business to which the apportionment formula of AS 43.20.065 must be applied. Additionally, the taxpayer raises questions regarding the standard of review and the burden of proof to be utilized when a taxpayer challenges the Department's application of the apportionment formula. ¹

The Earth Resources Company (ERC or "parent") is a Delaware corporation with its principal place of business in Dallas, Texas. As a diversified company, it owns and operates several enterprises directly or through subsidiary corporations. One of its wholly owned corporations is the Earth Resources Company of Alaska, Inc. (ERCA or "taxpayer"). ²

During the tax years 1974-1976, ³ ERCA filed its Alaska Corporate Net Income Tax Returns using the separate accounting method and reporting 100% of its income in Alaska. The Department rejected this accounting procedure and calculated ERCA's tax liability by applying the apportionment formula of AS 43.20.065. ⁴ Utilization of the formula resulted in a $371,706.00 tax deficiency. ⁵

ERCA challenged the additional assessment before a full Department hearing held on November 7, 1978. The Department's ruling of September 25, 1979, rejected the taxpayer's contentions and ordered payment of the disputed tax liability. ERCA then appealed the Department's decision to the superior court. The superior court in a memorandum of decision dated January 7, 1981, ruled that substantial evidence existed to support the Department's decision and affirmed the Department's ruling. Notice of appeal to this court was filed by the taxpayer on January 14, 1981. Notice of cross-appeal was filed by the Department on February 2, 1981.

We hold that the taxpayer was properly deemed a unitary business and affirm the decision below. There is, then, no constitutional infirmity in applying the apportionment formula to the taxpayer. We hold also that the superior court erred when it applied an incorrect standard of review and burden of proof to the taxpayer. However, we have determined the errors to be harmless.

I.

We first address the appropriate standard of review required of an appellate court when it reviews the Department's application of the apportionment formula. ERCA argues that due process violations at the departmental level and "pertinent statutes and authorities" mandated that the superior court use de novo review. Because it applied a substantial evidence standard instead, ERCA argues that the court erred. As noted above, ⁶ the departmental procedures did not violate ERCA's due process rights. Further, the statutes and authorities ERCA relies upon are not persuasive. We do agree that the superior court erred when it applied the substantial evidence standard. We do so, however, for different reasons.

The superior court stated in its memorandum of decision that: "The test this court has applied is whether the record as a whole contains substantial evidence from which the Department could have concluded that the business was unitary in nature." The court found that: "The issue, then, is primarily factual: were ECA and Rogers & Babler ('R & B') dependent to any significant degree on the activities of ECA's parent company, Earth Resources Company ('ERC')?"

We disagree. There are no disputed facts. The sole issue of import in this appeal is a question of law: given the undisputed facts, was the taxpayer properly considered a unitary business? See Montana Department of Revenue v. American Smelting & Refining, 173 Mont. 316, 567 P.2d 901, 907 (Mont.1977), appeal dismissed sub nom. ASARCO, Inc. v. Montana Department of Revenue, 434 U.S. 1042, 98 S.Ct. 884, 54 L.Ed.2d 793 (1978); Wisconsin Department of Revenue v. Exxon Corp., 90 Wis.2d 700, 281 N.W.2d 94, 101-02 (Wisc.1979), affirmed, 447 U.S. 207, 100 S.Ct. 2109, 65 L.Ed.2d 66 (1980). Whether the appropriate rule of law has been applied to a given set of facts is a question which requires a standard of review different than the substantial evidence test, which is used in the review of questions of fact. Jager v. State, 537 P.2d 1100, 1107 n. 23 (Alaska 1975).

The issue becomes, then, what standard of review must be used by an appellate court reviewing an administrative ruling applying the apportionment formula once we have determined it to be a question of law. This court has distinguished between the rational basis standard for questions of law involving agency expertise and the substitution of judgment standard for questions of law where no expertise is involved. The rational basis test may be applied in two circumstances. First, it is applied where the agency is making law by creating standards to be used in evaluating the case before it and future cases. Galt v. Stanton, 591 P.2d 960, 966 (Alaska 1979) (Rabinowitz, J., concurring) (citing Weaver Brothers, Inc. v. Alaska Transportation Commission, 588 P.2d 819, 821 (Alaska 1978)). Second, it is applied when a case requires resolution of policy questions which lie within the agency's area of expertise and are inseparable from the facts underlying the agency's decision. Galt v. Stanton, 591 P.2d at 966 (citing State, Department of Natural Resources v. Universal Education Society Inc., 583 P.2d 806, 811-12 (Alaska 1978)). The rational basis test requires a reviewing court to consider factors of agency expertise, policy, and efficiency when reviewing discretionary decisions. Jager v. State, 537 P.2d 1100, 1107 (Alaska 1975). Thus, it is a more deferential standard than the substitution of judgment standard; the court merely seeks to determine whether the administrative agency's decision is supported by the facts and has a reasonable basis in law. Kelly v. Zamarello, 486 P.2d 906, 918 (Alaska 1971). ⁷

The substitution of judgment standard is applied where the questions of law presented do not involve agency expertise and, thus, a court need not take the deferential stance embodied in the rational basis test. Kelly v. Zamarello, 486 P.2d 906, 916 (Alaska 1971). The standard is appropriate where the knowledge and experience of the agency is of little guidance to the court or where the case concerns "statutory interpretation or other analysis of legal relationships about which courts have specialized knowledge and experience." Id. Application of this standard permits a reviewing court to substitute its own judgment for that of the agency's, even if the agency's decision had a reasonable basis in law. See Rogers Construction Co. v. Hill, 235 Or. 352, 384 P.2d 219, 221-22 (Or.1963).

At issue in this case is the proper interpretation of AS 43.19.010, the Multistate Tax Compact. ⁸ The definition of a unitary business is a judicial concept designed to limit state taxation to constitutionally permissible boundaries. See Hellerstein, State Income Taxation of Multijurisdictional Corporations: Reflection on Mobil, Exxon, and H.R. 5076, 79 Mich.L.Rev. 113, 148-49 (1980). The Department, in applying the unitary business concept to the taxpayer in this case, relied solely on past court decisions in reaching its findings. No complex tax computation or other agency-related activity was required to determine that the taxpayer was a unitary business. In fact, only a few published decisions of the Department deal with the apportionment formula and none define a unitary business. See Alaska Dept. of Revenue, Tax Rul. Nos. 74-1, 74-2, 74-3, 74-7, 75-4, 76-1, 76-3, 76-4.

For these reasons, we conclude that the question whether a taxpayer's business is unitary is a question of law which does not require agency expertise for its resolution, and hold that the substitution of judgment standard of review should be applied by courts reviewing the Department's application of the unitary business concept to a taxpayer's business activity. ⁹ Thus, the superior court applied an incorrect standard of review in this case. This error, however, is harmless as the trial court's ruling on the question of unity was legally correct and correction of the error would not change the result. See Morris v. Merchant, 77 N.M. 411, 423 P.2d 606, 609 (N.M.1967); H.T. Coker Construction Co. v. Whitfield Transportation, Inc., 85 N.M. 802, 518 P.2d 782, 785 (N.M.App.1974).

II.

We now address the question of whether the Department correctly applied the apportionment formula of AS 43.20.065 to ERCA. ERCA alleges that application of the formula in this case violates the Due Process and Commerce clauses. The question whether an apportionment formula in general ¹⁰ and Alaska's apportionment formula in particular ¹¹ violate the Due Process and Commerce clauses has been answered elsewhere. The only constitutional question before us is whether or not the taxpayer was properly considered a unitary business, thereby rendering the apportionment formula applicable.

"As a general principle, a state may not tax value earned outside its borders." Asarco, Inc. v. Idaho State Tax Commission, --- U.S. ----, ----, 102 S.Ct. 3103, 3109, 73 L.Ed.2d 787, 794 (1982). However, with multistate businesses, it may be...