IN RE APPEAL OF PANHANDLE EASTERN PIPE LINE CO.

• Decision Date: 25 January 2002
• Docket Number: No. 86,277.,86,277.
• Citation: 272 Kan. 1211,39 P.3d 21
• Parties: In the Matter of the Appeal of PANHANDLE EASTERN PIPE LINE Co. and NATIONAL HELIUM CORP., et al., from a Denial of Refund of KANSAS CORPORATE INCOME TAX.
• Court: Kansas Supreme Court

272 Kan. 1211

39 P.3d 21

In the Matter of the Appeal of PANHANDLE EASTERN PIPE LINE Co. and NATIONAL HELIUM CORP., et al., from a Denial of Refund of KANSAS CORPORATE INCOME TAX.

No. 86,277.

Supreme Court of Kansas.

Opinion filed January 25, 2002.

John Michael Hale, of Kansas Department of Revenue, Legal Services Bureau, argued the cause and was on the briefs for appellant.

Paul H. Frankel, of Morrison & Forester LLP, of New York, New York, and Jack Glaves, of Glaves, Irby and Rhoads, of Wichita, argued the cause, and Donald J. Horttor, of Cosgrove, Webb & Oman, of Topeka, and Dennis Ng, of Dennis Ng & Associates, of Houston, Texas, were with them on the brief for appellees.

The opinion of the court was delivered by

ABBOTT, J.:

The Kansas Department of Revenue (Department) appeals the Board of Tax Appeals' (BOTA) final order finding that Panhandle Eastern Pipe Line Co. (Panhandle) and National Helium Corp. (Helium) were a unitary business under K.S.A. 79-32,141. At stake in this appeal is a corporate tax refund, including interest, of approximately $26 million. The Department appealed pursuant to K.S.A. 2000 Supp. 74-2426 and K.S.A. 77-621. The matter is before this court pursuant to a K.S.A. 20-3018(c) transfer.

The Department attempts to insert the red herring issue of whether its bright line test is rationally related to the controlling statute for unitary businesses, K.S.A. 79-32,141. The bright line test is that before the Department will consider whether two or more businesses are operating as a unitary business, one entity must show it owns more than 50% of the other entity. This rule is not reflected in the language of the Kansas statutes, case law, or even in the Department's published regulations. The issue is a red herring because (1) the bright line test is only a rule of thumb used by auditors, not a published regulation or policy; (2) the test may not have been in use during the time period in question; and (3) BOTA's standard of review of the Department's decision was de novo, not a mere rationality review. As the paramount tax agency in the state of Kansas, BOTA need not defer to the Department's findings or an unpublished bright line test (with no basis in the Kansas statutes or case law). While the Department argues that BOTA should have deferred to its bright line rule, BOTA did not address this issue or make any findings in regard to its validity.

On July 22, 1986, Panhandle and Helium requested permission from the Department to amend corporate tax returns and to file a combined report as a unitary business for tax years 1981-1984. On September 10, 1987, the Department denied Panhandle's request to file a combined return including Helium, rejected its amended returns, and denied Panhandle's refund claim. The Department's position was that 50 percent ownership of Helium by Panhandle was insufficient for a unitary business determination for the purpose of combined reporting. Thereafter, Helium requested a hearing on the matter.

A prehearing conference was conducted on February 21, 1994, before Alisa M. Dotson. Three days later, Dotson issued an order directing the Department to file a motion for summary judgment. On December 15, 1994, Dotson authored an order granting in part and denying in part the Department's motion for summary judgment. Dotson concluded that (1) the Department failed to establish that more than 50 percent ownership of a corporation's voting stock was required as a matter of law to make a unitary business determination; (2) that an issue of fact remained as to whether Helium was unitary with Panhandle; and (3) that Panhandle should be allowed to present arguments at an evidentiary hearing.

The Department moved to vacate Dotson's order, however. On October 3, 1995, the acting Secretary of Revenue, Karla J. Pierce, vacated the order to the extent that it purported "to define controlling Kansas law regarding the ownership requirement for combined reporting." Pierce noted that Dotson's order "failed to give due consideration to whether the department's standard of requiring more than 50 percent ownership was reasonable," and "concluded the order should be vacated in its entirety and that the matter should proceed to formal hearing on all issues of fact and law."

At an informal conference on February 11, 1998, Panhandle presented witness testimony. On September 4, 1998, Pierce issued her final determination finding that, as a matter of law, Panhandle and Helium could not be unitary "because Panhandle's ownership of Helium [was] not more than 50%." In short, Pierce ruled that without ownership of more than 50 percent of the stock of Helium, Panhandle could not establish, as a matter of law, the right to file a combined return; hence, there was no necessity to look into the facts.

Pursuant to K.S.A. 2000 Supp. 74-2438, Panhandle filed an appeal with BOTA on September 22, 1998. BOTA conducted a 3-day trial on September 15 through 17, 1999.

Kenneth Kalen, who had served in the capacity of vice president, president, and chief operating officer of Panhandle, and vice chairman of the board of Helium, testified at the BOTA hearing regarding the history and interrelationship of Panhandle and Helium.

Kalen stated that Panhandle began as a small intrastate gas system in eastern Kansas around 1930, but developed into one of the larger gas transmission companies, serving customers in Kansas, Missouri, Illinois, Indiana, Ohio, Michigan, and Canada. Panhandle owned extensive gathering systems in western Kansas, Oklahoma, and Texas, which company officials refer to as the "West End" gathering systems. Kalen explained that these systems converge at Liberal, Kansas, where the mainline compressor station compresses the gas which is sent east through the pipeline to Panhandle customers. Following the passage of the Helium Act Amendments of 1960, see 50 U.S.C. § 167 et seq. (1994), Kalen said representatives from the federal government contacted Panhandle to encourage the company to build a facility to extract helium from gas taken from the Hugoton Gas Field. According to Kalen, Panhandle discussed the possibility of constructing a helium extraction facility with its "sister" corporation, National Distillers and Chemical Corporation (Distillers). Stanley Wilbers, who worked as senior auditor and accountant for Panhandle and later became the vice president/treasurer and controller of Helium in 1976, testified that Helium was formed in 1960. Wilbers testified that "Helium agreed to supply helium to the United States government in the amount of $15,200,000 a year and, based on the initial contract price of eleven seventy-eight an Mc.f., the quantity amounted to 1.3 billion cubic feet of helium."

Kalen noted that Panhandle's chief executive officer and the chief executive officer of Distillers served on each other's board of directors. James Crozier, who served as a vice president and general manager for a division of Distillers called UFI, as well as on Helium's board of directors, testified at the hearing that Panhandle owned at least 9 percent of Distiller's outstanding shares and was its single largest stockholder from 1981 to 1984.

Kalen stated that top level managers of Panhandle and Distillers agreed to build the helium plant as a joint project and worked together during the development and construction of the facility. Each company invested equity investments of $2.6 million (520 shares each) in Helium, and the balance of the $25 million cost was financed with five different banks by Panhandle's financial personnel. The helium extraction facility was constructed on land purchased by Helium from Panhandle, adjacent to Panhandle's compressor station. During construction, Panhandle provided on-site project engineers at its own expense.

Although Helium had legal title to the facilities and retained control over hiring and firing employees, Panhandle owned 50 percent of its stock and Distillers owned 50 percent. Panhandle and Distillers agreed to restrict the sale of stock, and there was a letter agreement to a first right of refusal between the parties.

According to Kalen, because Panhandle's entire gas stream coming into the Liberal compressor station would be processed by Helium, Panhandle had a vested interest in protecting the integrity of its pipeline system. During contract negotiations between Panhandle, Distillers, and Helium, Panhandle inserted clauses in the contract giving it the right to approve the design of piping in and out of the helium plant and to review maintenance procedures. Panhandle retained the right to "inspect the plant from time to time for the purpose of satisfying itself as to the adequacy of operation and maintenance."

Initially, 5 of the 10 officers of Helium were chosen from Panhandle's staff, and the vice president of transmission with Panhandle, F.J. McElhatton, was named president of Helium. The chairman of Panhandle, William Maguire, became chairman of Helium, and Panhandle's general counsel also served as general counsel for Helium. During the 1981 to 1984 period, Helium had 10 officers; 5 from Panhandle, 3 from Helium, and 2 from Distillers.

Panhandle employees were given an opportunity to go to work for Helium at its inception. Helium employees enjoyed the same benefit package as Panhandle employees and Helium employees belonged to Panhandle's employees' credit union. When a job came up for bid at either Panhandle or Helium, the employees of both companies were given the opportunity to bid on it. No employees from Distillers transferred to Helium after its incorporation, however.

Wilbers and Kalen both testified that the president of Helium reported directly to Kalen, then president of Panhandle. Panhandle furnished Helium with daily forecasts of its gas volumes so Helium could adjust its operations to accommodate the expected volumes. Crozier's testimony confirmed that Panhandle exercised control over the day-to-day operations of...