Hagge v. Iowa Dept. of Revenue and Finance, 92-1377

• Citation: 504 N.W.2d 448
• Decision Date: 21 July 1993
• Docket Number: No. 92-1377,92-1377
• Parties: 17 Employee Benefits Cas. 1415 Arlo H. HAGGE, Appellee, v. IOWA DEPARTMENT OF REVENUE AND FINANCE, Appellant.
• Court: United States State Supreme Court of Iowa

Page 448

504 N.W.2d 448

17 Employee Benefits Cas. 1415

Arlo H. HAGGE, Appellee, v. IOWA DEPARTMENT OF REVENUE AND FINANCE, Appellant.

No. 92-1377.

Supreme Court of Iowa.

July 21, 1993.

As Amended on Denial of Rehearing Aug. 24, 1993.

Bonnie J. Campbell, Atty. Gen., Harry M. Griger, Sp. Asst. Atty. Gen., and Marcia Mason, Asst. Atty. Gen., for appellant.

Gary J. Streit and Diane Kutzko of Shuttleworth & Ingersoll, P.C., Cedar Rapids, for appellee.

Considered en banc.

NEUMAN, Justice.

This appeal concerns the remedy available to taxpayers aggrieved by Iowa's former income tax scheme which taxed federal government employees' pensions but not those of state employees. Reversing a department of revenue decision, the district court on judicial review ordered refunds on timely-filed amended returns. We affirm but modify the judgment to permit installment payments.

I. Background. In Davis v. Michigan Department of Treasury, 489 U.S. 803, 817, 109 S.Ct. 1500, 1508-09, 103 L.Ed.2d 891, 906 (1989), the United States Supreme Court held that states like Iowa could not lawfully impose taxes on the pensions of retired federal employees so long as state employees' retirement benefits were exempt. The practice, it held, violated the constitutional doctrine of intergovernmental tax immunity. Id., 489 U.S. at 816-18, 109 S.Ct. at 1508-09, 103 L.Ed.2d at 906. Left unclear was the question whether Davis's mandate would operate retroactively, thereby compelling states to refund income taxes already collected. See id., 489 U.S. at 817, 109 S.Ct. at 1509, 103 L.Ed.2d at 906 (state conceded propriety of refund under these circumstances; Court stated "to the extent appellant has paid taxes pursuant to this invalid tax scheme, he is entitled to a refund").

Plaintiff Arlo Hagge, a former United States government employee who retired in 1969, responded to Davis by timely filing amended returns for 1985-1988, claiming a refund of state income taxes he paid in those years. The Iowa Department of Revenue (department) denied Hagge's request for refund, asserting its view that Davis would not be applied retroactively. It also maintained that repeal of the offending tax scheme offered prospective relief that obviated the need to refund taxes "voluntarily" paid before the statute was invalidated.

Hagge protested the department's decision and the case was submitted directly to Gerald Bair, director of revenue and finance, on a stipulated factual record. That record recited not only Hagge's claimed refund for Iowa income taxes paid during the years in question ($10,137.65) but the state's estimated refund liability to other Iowa federal employees were Davis applied retroactively ($40 to $45 million). Applying the three-prong test for retroactivity announced in Chevron Oil Co. v. Huson, 404 U.S. 97, 106-07, 92 S.Ct. 349, 355, 30 L.Ed.2d 296, 306 (1971), the director determined that, under this record, the equities favored prospective rather than retroactive application of Davis. Hagge was thus denied the refund he sought.

Hagge petitioned for judicial review in the district court in accordance with Iowa Code section 17A.19 (1989). The district court, noting that judicial decisions generally operate both retroactively and prospectively, reversed the director's decision. This appeal by the department of revenue followed.

The department raises three issues on appeal. It argues that (1) Davis should be applied prospectively only; (2) refunding taxes collected on pre-Davis federal pension income would be inequitable to the state and its taxpayers and, hence, an inappropriate remedy; and (3) federal retirees are not entitled to refunds based on Iowa Code section 422.73(2). ¹ We shall consider these arguments in turn.

II. Retroactivity. Since the submission of this appeal, the Supreme Court has decided the retroactivity question adverse to the department. In Harper v. Virginia Department of Taxation, 509 U.S. 86, ----, 113 S.Ct. 2510, 2518, 125 L.Ed.2d 74, 87 (1993), the Supreme Court reversed the Virginia Supreme Court's refusal to apply Davis retroactively. Casting serious doubt on the vitality of Chevron's retroactivity analysis, the Court announced the following rule:

When this Court applies a rule of federal law to the parties before it, that rule is the controlling interpretation of federal law and must be given full retroactive effect in all cases still open on direct review and as to all events, regardless of whether such events predate or postdate our announcement of the rule. This rule extends Griffith's ban against "selective application of new rules." Mindful of the "basic norms of constitutional adjudication" that animated our view of retroactivity in the criminal context, we now prohibit the erection of selective temporal barriers to the application of federal law in noncriminal cases. In both civil and criminal cases, we can scarcely permit "the substantive law [to] shift and spring" according to "the particular equities of [individual parties'] claims" of actual reliance on an old rule and of harm from a retroactive application of the new rule.

Id. at ----, 113 S.Ct. at 2512, 125 L.Ed.2d at 80 (citations omitted). The Court further rejected Virginia's attempt to assert its own doctrine of retroactivity, stating that under the Supremacy Clause of the United States Constitution, "[w]hatever freedom state courts may enjoy to limit the retroactive operation of their own interpretations of state law, cannot extend to their interpretations of federal law." Id. at ----, 113 S.Ct. at 2519, 125 L.Ed.2d at 88 (citations omitted).

Harper controls our decision on the retroactivity issue, leaving the department no basis to challenge the district court's ruling on this aspect of the case.

III. Remedy. While the Harper Court decided that Davis must be applied retroactively to the tax years at issue in Harper's refund action, the Court stopped short of entering judgment for the petitioners. Instead it observed that the Constitution requires only that states provide relief "consistent with federal due process principles." Harper, 509 U.S. at ----, 113 S.Ct. at 2519, 125 L.Ed.2d at 88. Citing McKesson Corp. v. Division of Alcoholic Beverages & Tobacco, 496 U.S. 18, 110 S.Ct. 2238, 110 L.Ed.2d 17 (1990), the Court summarized the test for procedural sufficiency this way:

If Virginia "offers a meaningful opportunity for taxpayers to withhold contested tax assessments and to challenge their validity in a predeprivation hearing," the "availability of a predeprivation hearing constitutes a procedural safeguard ... sufficient by itself to satisfy the Due Process Clause." On the other hand, if no such predeprivation remedy exists, "the Due Process Clause of the Fourteenth Amendment obligates the State to provide meaningful backward-looking relief to rectify any unconstitutional deprivation." In providing such relief, a State may either award full refunds to those burdened by an unlawful tax or issue some other order that "create[s] in hindsight a nondiscriminatory scheme."

Harper, 509 U.S. at ----, 113 S.Ct. at 2519, 125 L.Ed.2d at 89 (citations omitted). The Court then amplified its analysis by suggesting that adequate "predeprivation process" would be satisfied if a state "authoriz[ed] taxpayers to bring suit to enjoin imposition of a tax prior to its payment, or by allowing taxpayers to withhold payment and then interpose their objections as defenses in a tax enforcement proceeding." Id., 509 U.S. 86, 113 S.Ct. at 2520, 125 L.Ed.2d at 89 (quoting McKesson, 496 U.S. at 36-37, 110 S.Ct. at 2250, 110 L.Ed.2d at 36).

In the case before us, the district court found that Hagge had no "real" predeprivation remedy. The record reveals that for at least a decade before this action arose, Hagge regularly voiced his dissatisfaction with this discriminatory tax scheme to legislators and tax officials alike. The court observed, however, that Hagge was effectively limited to this letter writing campaign because "failure to pay the tax would have subjected him to even further difficulties."

We agree. Although the department argues strenuously that Hagge could have long ago brought suit under Iowa Rules of Civil Procedure 261 and 266 to enjoin the unconstitutional collection of state income tax on his federal pension, we seriously question whether such process would qualify as "meaningful" under a McKesson analysis.

The department cites only one case, Atchison, Topeka & Santa Fe Railway Co. v. Bair, 338 N.W.2d 338 (Iowa 1983), cert. denied, 465 U.S. 1071, 104 S.Ct. 1427, 79 L.Ed.2d 751 (1984), in support of its claim that equitable relief would have been available to Hagge and other taxpayers. Atchison involved a suit by seven major railway companies to enjoin the department from collecting a special excise tax on fuels in alleged violation of federal legislation. Although the opinion recites that the plaintiff railroads filed their petition in equity, see id. at 342, no further reference is made to this procedural detail. We are persuaded that the department's consent to the procedure was motivated more by desire...