Emerachem Power, LLC v. Gerregano
| Decision Date | 01 June 2020 |
| Docket Number | No. E2019-00292-COA-R3-CV,E2019-00292-COA-R3-CV |
| Parties | EMERACHEM POWER, LLC, ET AL., v. DAVID GERREGANO |
| Court | Tennessee Court of Appeals |
Appeal from the Chancery Court for Knox County
John F. Weaver, Chancellor
This appeal was filed by the plaintiffs pursuant to the provisions of Tennessee Code Annotated section 67-1-1801 to challenge assessments rendered against them by the Commissioner of Revenue for the State of Tennessee. The dispute involves the plaintiffs' challenge to Tennessee's assessments of excise tax for the period 2010 through 2012. After cross motions for summary judgment were filed, the trial court found in favor of the Commissioner. The plaintiffs appeal. We affirm.
Tenn. R. App. P. 3 Appeal as of Right; Judgment of the Chancery Court Affirmed; Case Remanded
JOHN W. MCCLARTY, J., delivered the opinion of the court, in which ANDY D. BENNETT and THOMAS R. FRIERSON, II, JJ., joined.
Wayne R. Kramer and Bryce E. Fitzgerald, Knoxville, Tennessee, for the appellants, EmeraChem Power, LLC, EmeraChem Holdings, LLC, and EmeraChem, LLC.
Herbert H. Slatery, III, Attorney General and Reporter, Andreé S. Blumstein, Solicitor General, and Brian J. Ramming, Assistant Attorney General, Nashville, Tennessee, for the appellee, Commissioner of Revenue for the State of Tennessee.
OPINIONEmeraChem Power, LLC, EmeraChem Holdings, LLC, and EmeraChem, LLC, (collectively, "the Entities") are all limited liability companies ("LLCs") organized and existing under and by virtue of the laws of the State of Delaware and qualified to do business in the State of Tennessee. The primary business offices for the Entities are located in Knoxville, Tennessee. The Entities are affiliated, in that EmeraChem Holdings is the sole owner and member of EmeraChem and is likewise the sole owner and member of EmeraChem Power. Put another way, EmeraChem and EmeraChem Power are wholly owned subsidiaries of EmeraChem Holdings, the parent company. EmeraChem Holdings is treated as a partnership for federal tax purposes.
EmeraChem is the operating company that does the manufacturing and selling. It manufactures catalytic converters and other products. EmeraChem Power provides engineering, design, and testing services. EmeraChem Holdings was created as a holding company; it holds and manages patents and the purchase of precious metals used by EmeraChem in the manufacturing process. The Entities were (and continue to be) leaders in nanophase chemistry and catalysis for the control of air emissions from power generating facilities, natural gas compression stations, and motor vehicles.
On November 16, 2009, EmeraChem Holdings submitted a Consolidated Net Worth Election Registration Application, which the Tennessee Department of Revenue ("Department") approved effective January 1, 2008. This allowed the Entities to compute their franchise tax using consolidated net worth. However, each member of the group was still required to compute its excise tax on a separate-entity basis and file a separate excise tax return.
EmeraChem Holdings filed its initial franchise-and-excise ("F&E") return as a consolidated return, including the net worth, assets, and income for EmeraChem Power and EmeraChem, while EmeraChem Power and EmeraChem both filed minimum returns reporting no net worth, assets, and no income. The Department disallowed the filing of such initial returns on a consolidated basis asserting that it was prohibited by Tennessee Code Annotated section 67-4-2007(d) because EmeraChem Holdings, the parent and sole member of EmeraChem Power and EmeraChem, was a limited liability company, not a corporation. Subsequently, the Entities each produced separate amended F&E tax returns and delivered them to the auditors. This time, the Entities filed separate returns (rather than a consolidated return as EmeraChem Holdings had done initially), but on the amended returns the Entities eliminated certain intercompany transactions in computing their excise tax liability. The Department, however, determined that the Entities had again failed to compute their tax liabilities correctly because they were still computing their excise tax on a consolidated basis.
As noted, EmeraChem Holdings was created to hold and manage multiple operating companies, patents, and the purchasing of precious metals used by EmeraChem in the manufacturing process. The holding of patents is important and necessary for the Entities to carry out their business and produce their products. In the tax year 2011, EmeraChem Holdings received $1,401,689 from the settlement of a legal malpracticeclaim against a New York law firm.1 The funds received by EmeraChem Holdings arose out of the legal representation by the defending law firm in connection with a particular patent relevant to EmeraChem Holdings' European business activity. EmeraChem Holdings claimed that attorneys for the law firm failed to properly register Patent No. 08028252 in Europe. The fundamental basis upon which the amount of damages was paid to EmeraChem Holdings for the New York law firm's malpractice was lost European revenue as a result of potential patented products or patented licensing in Europe.
In filing its F&E tax return for 2011, EmeraChem Holdings reported the receipt of the legal malpractice settlement proceeds. It classified the proceeds as "non-business" earnings for excise tax purposes and subtracted them as sourced outside of Tennessee.
The Department conducted F&E tax audits of the Entities in 2014 for the period January 1, 2010, through December 31, 2012. During the audit period, the Entities did business in numerous states and foreign countries. EmeraChem had less than 50 employees. Neither EmeraChem Power nor EmeraChem Holdings had any employees during the audit period. They all filed Tennessee F&E tax returns for the years 2010, 2011, and 2012.
During the audit period, transfers of industrial materials2 ("Industrial Materials") took place between EmeraChem Holdings and EmeraChem. The transfers by EmeraChem Holdings were not to the general public nor were the products ultimately sold by EmeraChem to the general public or to the end user. Rather, EmeraChem Holdings procured the Industrial Materials and then transferred them to EmeraChem for future processing and incorporation into catalysts manufactured by EmeraChem. Title to the Industrial Materials passed from the supplier to EmeraChem Holdings and then passed to EmeraChem. The Industrial Materials were procured by EmeraChem employees using EmeraChem funds. In addition, the volume, purchase price, and timing of the purchase of the Industrial Materials were at the direction of EmeraChem, again through its employees. EmeraChem Holdings had no employees and had no funds during the audit period other than those provided by EmeraChem. After processing and incorporating the Industrial Materials into the catalysts, EmeraChem would, in turn, sell the manufactured catalysts to a third-party subcontractor or other dealer who then sold the same to the end user (such as a power plant). Furthermore, the amount of funds which EmeraChem Holdings received from EmeraChem (which represented more than 80% of EmeraChem Holdings' revenue) did not include a markup and did not exceedEmeraChem Holdings' costs (including any freight, storage, and/or transportation costs). More than 50% of EmeraChem's revenues during the audit period were from sales of catalysts to the subcontractors and dealers.
As a result of the audit, the Department determined that in 2010, 2011, and 2012, the Entities should not have computed their excise tax on a consolidated basis and should not have filed consolidated tax returns. The Department asserted that under the applicable statute, only a single-member LLC that is wholly owned by a corporation may be disregarded by its parent company for excise tax purposes. EmeraChem and EmeraChem Power are single member LLCs, but EmeraChem Holdings, their single member, is treated as a partnership for federal income tax purposes.
By Notice of Assessment dated May 5, 2014, EmeraChem Power was advised that as a result of the audit conducted by the Department, it was liable for F&E tax, plus interest and penalties. The Department claimed that EmeraChem Power was liable for F&E tax of $1,240, a penalty of $124, and interest of $271.16, for a total amount assessed of $1,635.16. On May 28, 2014, pursuant to Tennessee Code Annotated section 67-1-1801(c)(3) and Tenn. Comp. R & Regs. 1320-1-2-.05(1), EmeraChem Power requested an Informal Conference.
By Notice of Assessment dated May 9, 2014, EmeraChem Holdings was advised that it was liable for F&E tax of $106,601, a penalty on the F&E tax of $10,660, and interest attributable to the F&E tax of $17,307.09. The Department further asserted that EmeraChem Holdings was liable for County Business tax of $7,864, a penalty in connection with the County Business tax of $1,965, and interest attributable to the County Business tax of $1,221.80. Finally, the Department asserted that EmeraChem Holdings was liable for City Business tax of $7,795, as well as interest thereon of $1,207.74. The Department claimed the assessed F&E tax was due largely to the receipt by EmeraChem Holdings of the legal malpractice settlement proceeds and the assessed Business tax was due as a result of the transactions described above. The Department rejected EmeraChem Holdings' classification of the proceeds as nonbusiness earnings and reclassified the proceeds as "business earnings" to be included as gross income for calculation of the excise tax. Of the total excise tax assessed against EmeraChem Holdings ($104,477), most of it ($91,109.79) represented the tax resulting from including the settlement proceeds as part of the company's business earnings for the 2011 tax year. The total amount the Department claimed to be due from EmeraChem Holdings, as reflected in the EmeraChem Holdings Notice and after applying various credits...
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