Hyatt v. Cal. Franchise Tax Bd.

CourtNew York Supreme Court Appellate Division
Citation105 A.D.3d 186,962 N.Y.S.2d 282,2013 N.Y. Slip Op. 01550
PartiesIn the Matter of Gilbert P. HYATT, appellant-respondent, v. STATE of California FRANCHISE TAX BOARD, respondent-appellant.
Decision Date13 March 2013

105 A.D.3d 186
962 N.Y.S.2d 282
2013 N.Y. Slip Op. 01550

In the Matter of Gilbert P. HYATT, appellant-respondent,
STATE of California FRANCHISE TAX BOARD, respondent-appellant.

Supreme Court, Appellate Division, Second Department, New York.

March 13, 2013.

[962 N.Y.S.2d 285]

Pryor Cashman LLP, New York, N.Y. (William L. Charron, Ilene S. Farkas, and Eric D. Dowell of counsel), for appellant-respondent.

Carter Ledyard & Milburn LLP, New York, N.Y. (Judith A. Lockhart, Karen E. Meara, and Leonard Trivigno of counsel), for respondent-appellant.



[105 A.D.3d 190]On this appeal, we are asked to consider, among other issues, whether the courts of the State of New York may exercise judicial review over administratively issued subpoenas, which were served in New York in connection with a California tax proceeding, pursuant to the newly enacted CPLR 3119. We answer this question in the affirmative.

The petitioner, Gilbert P. Hyatt, is a successful inventor who has been granted more than 70 patents related to computer technology. In July 1991, while he was a California resident, Hyatt entered into an exclusive licensing agreement with a New York company, the U.S. Philips Corporation (hereinafter Philips). Pursuant to the licensing agreement, Hyatt granted Philips a license under a group of his patents for Philips's own use, and also granted Philips an exclusive right to license other companies under a group of his patents. Philips started a successful licensing program, which generated more than $350 million for both it and Hyatt in late 1991 through 1995. In early 1991, a patent interference proceeding was brought to challenge one of Hyatt's patents that Philips had licensed. Pursuant to the licensing agreement, Philips assumed responsibility for defending the patent interference proceeding. Hyatt assisted Philips's in-house counsel in connection with the defense in that proceeding.

This appeal stems from tax proceedings involving Hyatt in California. For the tax year 1991, Hyatt filed a part-year resident income tax return in California, claiming that he moved to Nevada on September 26, 1991. In 1993, the respondent State of California Franchise Tax Board (hereinafter the Tax Board), an independent California tax agency with a statutory duty to administer and enforce the California Tax Code ( seeCal. Rev. & Tax Code § 19501), commenced an audit of Hyatt with respect to his 1991 part-year resident income tax return. Subsequently, in 1996, the Tax Board issued an assessment of taxes, penalties, and interest against Hyatt, based on its determination that he was a full-year resident of California in 1991. In response, Hyatt filed a formal protest challenging the assessment, which resulted in an internal review by the Protest Division of the Tax Board. [105 A.D.3d 191]Also in 1996, the Tax Board commenced a second audit of Hyatt for the 1992 tax year, based on its finding that Hyatt did not become a nonresident of California until April 3, 1992. The Tax Board issued another assessment pursuant to its second audit, which included civil fraud penalties. Hyatt filed a protest challenging

[962 N.Y.S.2d 286]

this assessment as well, resulting in Protest Division review.

The Protest Division did not complete its investigation of Hyatt's challenges until 2007, eleven years after its review process began. While the Protest Division's investigation was pending, Hyatt filed a lawsuit against the Tax Board in Nevada, alleging that it had committed several torts against him during the course of the audit. Issues raised in that litigation with respect to the Full Faith and Credit Clause of the United States Constitution and sovereign immunity were appealed, ultimately to the United States Supreme Court, which upheld Nevada's refusal to give full faith and credit to California's statute immunizing the Tax Board from lawsuits alleging intentional torts ( see Franchise Tax Bd. of California v. Hyatt, 538 U.S. 488, 123 S.Ct. 1683, 155 L.Ed.2d 702). According to the briefs submitted by the parties on this appeal, the Nevada jury eventually awarded a judgment to Hyatt in the sum of $490 million, and an appeal in that litigation is pending.

On November 1, 2007, the Tax Board issued its final determination upholding the assessments. Hyatt filed an administrative appeal with the California Board of Equalization (hereinafter the Board of Equalization), which is a five-member board that, among other things, hears income tax appeals from final determinations of the Tax Board.

In August 2010, Hyatt filed his reply brief in the administrative appeal, which included 34 new affidavits and exhibits. The reply brief specifically identified several individuals in Philips's New York in-house patent or executive offices who were involved with Hyatt in licensing his patents during the disputed period. Among these individuals were attorneys Jake Haken and Algy Tamoshunas, who served as Phillips' in-house counsel.

On March 11, 2011, at the Tax Board's request, the Chief Counsel for the California State Controller issued subpoenas duces tecum on nonparties including Philips, and its in-house attorneys, Haken and Tamoshunas. In his declaration in support of the subpoenas, the Tax Board's counsel stated that the primary issues in the tax appeal were whether Hyatt became a nonresident of California in 1991, whether a fraud penalty was properly imposed on Hyatt, and whether Hyatt operated a business[105 A.D.3d 192]from California through December 1992 that generated California “source income.”

The subpoenas sought, inter alia, all documents related to the licensing and sublicensing of Hyatt's patents, the patent interference proceeding, negotiation of the licensing agreement and supplemental agreements, payment for sublicenses, communications concerning certain patents or communications with Hyatt, and billing of counsel for work performed relating to Hyatt.

On April 13, 2011, the Tax Board, through the California Attorney General, petitioned the California Superior Court for clerk's orders for the issuance of commissions for out-of-state depositions of nonparties including Philips, Haken, and Tamoshunas, and to compel the nonparties to comply with the previously issued subpoenas. The clerk of the California Superior Court granted the Tax Board's petition, and issued commissions to take the depositions of Philips's custodian of records, and its attorneys Haken and Tamoshunas, and to have them produce the subpoenaed documents. Pursuant to CPLR 3119, New York counsel for the Tax Board had the subpoenas issued and served on Philips, Haken, and Tamoshunas in New York.

Hyatt subsequently commenced this proceeding to quash the subpoenas served

[962 N.Y.S.2d 287]

upon Philips, Haken, and Tamoshunas pursuant to CPLR 3119(e), 3103, and 2304. Hyatt maintained that the Tax Board lacked the authority to issue the subpoenas without permission from the Board of Equalization. In the alternative, Hyatt sought a protective order pursuant to CPLR 3103:(1) limiting the scope of the subpoenas to cover only material and necessary information, (2) conditioning the production of any responsive documents so that Hyatt could first review them to prevent the disclosure of his “common interest privileged” materials, and (3) regulating any production according to an appropriate confidentiality order.

In a supporting affidavit, Hyatt argued that the documents sought from Philips contained information protected by the common-interest privilege because, pursuant to the licensing agreement, he and Philips had a common interest in licensing the patents and protecting the patents from challenges.

Hyatt also objected to the scope of the disclosure demanded by the Tax Board, arguing that the subpoenas sought virtually every document Philips had regarding its licensing of his patents and the patent interference proceeding, even though such documents[105 A.D.3d 193]had no relevance to the question of whether he became a Nevada resident on September 26, 1991, or April 3, 1992.

In response, the Tax Board argued that it did not need the permission of the Board of Equalization to take discovery and issue subpoenas. According to the Tax Board, the rules of the Board of Equalization specifically allowed for either party to submit evidence up to 14 days before the hearing, or even at the hearing. The Tax Board further argued that the subpoenas were not overbroad because they sought documentation which was relevant to, or designed to lead to evidence relevant to, the tax and penalty issues in the underlying tax proceeding. The Tax Board maintained that its inquiry was not limited to events within the calendar years 1991 and 1992, and that facts from years prior and subsequent to the audit years were routinely analyzed. At oral argument before the Supreme Court, the Tax Board additionally argued that Hyatt did not have standing to contest the subpoenas. The Tax Board further argued that the subpoenas were deserving of full faith and credit by the New York courts.

In an order dated July 27, 2011, the Supreme Court granted Hyatt's petition to the extent of modifying the subpoenas by (1) striking all demands regarding the prosecution of Hyatt's patents and the patent interference proceeding, (2) limiting the demands of the subpoena duces tecum to material relating to the 1991 and 1992 tax years with respect to the issues of Hyatt's residency and income received in 1991 and 1992, his relationship to Philips, and the licensing of his patents and any revenue generated from the licensing of his patents in 1991 and 1992, and (3) limiting the depositions to the same issues. That branch of Hyatt's petition which sought a protective order was denied.

In its decision, the Supreme Court noted that the commissions were issued by a clerk of a California court and the subpoenas were issued in New York by New York counsel. Thus,...

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