Kerr v. Killian

• Court: Arizona Court of Appeals
• Writing for the Court: PATTERSON, Presiding.
• Citation: Kerr v. Killian, 204 Ariz. 485, 65 P.3d 434 (Ariz. App. 2001)
• Decision Date: 28 August 2001
• Docket Number: No. 1 CA-TX 00-0023.,1 CA-TX 00-0023.
• Parties: Clark R. KERR and Billie Sue Kerr, husband and wife, Susan Moran, Steve Allen and John Udall, individually and as representatives of the class comprised of federal employees who paid Arizona income taxes on federal retirement contributions during one or more of the years 1984 to date, Plaintiffs-Appellees, Cross Appellants, v. Mark J. KILLIAN, in his capacity as Director of the Arizona Department of Revenue, the Arizona Department of Revenue of the State of Arizona, Defendants-Appellants, Cross-Appellees. State of Arizona, ex rel., the Arizona Department of Revenue, Plaintiff-Appellant, Cross-Appellee, v. Clark J. Kerr and Billie Sue Kerr, husband and wife, Defendants-Appellees, Cross-Appellants. Clark J. Kerr and Billie Sue Kerr, husband and wife; and their Attorneys, Bonn, Luscher, Padden & Wilkins, Chartered and O'Neil, Cannon & Hollman, S.C., Counterclaimants-Appellees, Cross-Appellants, v. State of Arizona, ex rel., the Arizona Department of Revenue, Counterdefendant-Appellant, Cross-Appellee.

65 P.3d 434

204 Ariz. 485

Clark R. KERR and Billie Sue Kerr, husband and wife, Susan Moran, Steve Allen and John Udall, individually and as representatives of the class comprised of federal employees who paid Arizona income taxes on federal retirement contributions during one or more of the years 1984 to date, Plaintiffs-Appellees, Cross Appellants, v. Mark J. KILLIAN, in his capacity as Director of the Arizona Department of Revenue, the Arizona Department of Revenue of the State of Arizona, Defendants-Appellants, Cross-Appellees.

State of Arizona, ex rel., the Arizona Department of Revenue, Plaintiff-Appellant, Cross-Appellee, v. Clark J. Kerr and Billie Sue Kerr, husband and wife, Defendants-Appellees, Cross-Appellants.

Clark J. Kerr and Billie Sue Kerr, husband and wife; and their Attorneys, Bonn, Luscher, Padden & Wilkins, Chartered and O'Neil, Cannon & Hollman, S.C., Counterclaimants-Appellees, Cross-Appellants, v. State of Arizona, ex rel., the Arizona Department of Revenue, Counterdefendant-Appellant, Cross-Appellee.

No. -0023.

Court of Appeals of Arizona, Division 1, Department T.

August 28, 2001.

As Amended February 27, 2003.

Bonn & Wilkins Chartered by Paul V. Bonn, Randall D. Wilkins, D. Michael Hall, Phoenix, and O'Neil, Cannon & Hollman, S.C., by Eugene O. Duffy, Milwaukee, WI, Attorneys for Plaintiffs-Appellees-Cross Appellants.

Terry Goddard, Attorney General, by Michael Worley, Assistant Attorney General, Christine Cassetta, Assistant Attorney General, Phoenix, Attorneys for Plaintiff-Appellant-Cross Appellee.

AMENDED OPINION

PATTERSON, Presiding Judge.

¶ 1 We issued our original opinion in this appeal on August 28, 2001. Kerr v. Killian, 201 Ariz. 125, 32 P.3d 408 (App.2001). On August 29, 2001, our supreme court decided Arizona Department of Revenue v. Dougherty, 200 Ariz. 515, 29 P.3d 862 (2001). Based largely on Dougherty, plaintiffs-appellees/cross-appellants Clark R. Kerr and Billie Sue Kerr, Susan Moran, Steve Allen, and John Udall ("the plaintiff taxpayers") moved for reconsideration. We directed defendants-appellants/cross-appellees Arizona Department of Revenue and its director, Mark J. Killian ("ADOR") to file a response to the motion for reconsideration, and permitted the plaintiff taxpayers to file a reply. We now grant the motion for reconsideration, amend our original opinion, and file this modified opinion.

I. BACKGROUND AND ISSUES

¶ 2 For tax years from 1991 onward, Arizona Revised Statutes ("A.R.S.") section 43-1001(2) (1998 and Supp.2002) subjects to Arizona individual income taxation those portions of federal employees' compensation that they are required to contribute toward federal employee retirement plans, while leaving untaxed the corresponding mandatory contributions of state employees to state employee retirement plans. The superior court held that A.R.S. § 43-1001(2) violated the Public Salary Tax Act of 1939, 4 U.S.C. § 111,¹ to that extent.² ADOR appeals.

¶ 3 The plaintiff taxpayers cross-appeal from the superior court's orders denying certification of a plaintiff class consisting of all current or former federal employees who paid Arizona income taxes on mandatory contributions to federal retirement plans during one or more years from 1985 to the present, and of an alternative, smaller class consisting of all such federal employees who also filed timely refund claims with ADOR for one or more of the years 1991 to the present. The appeal and cross-appeal present these issues:

1. Whether Arizona's income taxing scheme violates 4 U.S.C. § 111 by taxing those portions of federal employees' compensation that they are required to contribute to retirement plans, but not the corresponding portions of state employees' compensation;

2. Whether the superior court erred or abused its discretion in denying the plaintiff taxpayers' motions for class certification; and

3. Whether equal protection principles preclude ADOR from demanding compliance with an administrative claim requirement for taxpayers who initially paid the challenged taxes, while at the same time declining to pursue tax enforcement against other taxpayers who subtracted their mandatory federal retirement contributions on their Arizona returns and hence did not pay the challenged taxes.³

II. FACTS AND RELEVANT PROCEDURE

¶ 4 Until former A.R.S. § 43-1022(2) was amended in 1989, 1989 Ariz. Sess. Laws Ch. 312, § 12, that statute subtracted from Arizona gross income

Contributions made to the state retirement system, the corrections officer retirement plan, the public safety personnel retirement system, the elected officials' retirement plan or a county or city retirement plan.⁴

Arizona law provided no corresponding subtraction for contributions made to federal employee retirement plans.

¶ 5 Since 1979, A.R.S. § 43-1001(2) has defined a resident individual's "Arizona gross income" as his/her federal adjusted gross income for the taxable year, computed under the Internal Revenue Code. See 1978 Ariz. Sess. Laws Ch. 213, § 2, eff. Jan. 1, 1979. Federal adjusted gross income is thus the starting point for determining an individual taxpayer's Arizona taxable income and ultimate income tax liability.

¶ 6 Effective in 1985, Arizona enacted provisions authorized by 26 U.S.C. § 414(h)⁵ that permitted state and local governmental employers to "pick up" mandatory contributions that their employees would otherwise have made. Because the portion of each employee's salary that was formerly earmarked for mandatory contribution to a retirement plan was no longer considered paid to the employee and contributed to the plan thereafter, those sums were automatically excluded from the employee's federal gross income. Congress has not chosen to make this benefit available to federal employees.

¶ 7 Consequently, by dint of A.R.S. § 43-1001(2), which defines a taxpayer's Arizona gross income as his/her federal adjusted gross income for the tax year, the Arizona gross incomes of federal employees include all sums they are required to contribute to their respective retirement plans. At the same time, the Arizona gross incomes of state and local employees whose employing units "pick up" their required retirement plan contributions necessarily exclude the amount of those contributions.⁶See generally Kerr v. Waddell, 183 Ariz. 1, 12-13, 899 P.2d 162, 173-74 (App.1994) ("Kerr I"), vacated on other grounds, 185 Ariz. 457, 916 P.2d 1173 (App.1996) ("Kerr II").

¶ 8 In 1989, the plaintiff taxpayers now before us brought an action, Tax Court Cause No. 89-01153, challenging the differential taxation effects of A.R.S. § 43-1001(2) and former A.R.S. § 43-1022(2). In Kerr I, this court held that their state-law claims for refunds were barred by their failure to exhaust their administrative remedies before bringing the action, but that their claims for declaratory and injunctive relief under 42 U.S.C. § 1983 could proceed. 183 Ariz. at 8-11, 899 P.2d at 169-72. Kerr I also held that former §§ 43-1022(2) and 43-1001(2), as applied to state and federal employees, violated 4 U.S.C. § 111. 183 Ariz. at 14-17, 899 P.2d at 175-78.

¶ 9 On petition for review our supreme court remanded for further consideration in light of National Private Truck Council, Inc. v. Oklahoma Tax Commission, 515 U.S. 582, 115 S.Ct. 2351, 132 L.Ed.2d 509 (1995). On remand this court held that Arizona's administrative process for challenging the denial of tax refunds was an adequate state remedy within National Private Truck Council, and the plaintiffs' claims under 42 U.S.C. § 1983 were barred because they had failed to resort to and exhaust those remedies. Kerr II, 185 Ariz. at 464-67, 916 P.2d at 1180-83. We remanded the action to the tax court with directions to dismiss it in its entirety. Id.

¶ 10 Simultaneously with the filing of their 1989 action in the tax court, the plaintiff taxpayers filed corresponding administrative refund claims with ADOR on behalf of themselves and all other similarly situated federal employees. Kerr v. Killian, 197 Ariz. 213, 215, ¶ 6, 3 P.3d 1133, 1135 (App.2000) ("Kerr III"). In 1993, a hearing officer for ADOR determined that ADOR had no legal authority to rule on the legality of A.R.S. § 43-1001(2) and former A.R.S. section 43-1022(2), or to recognize a class refund claim. Id.

¶ 11 In 1994, during the pendency of Kerr I in this court, the Arizona Board of Tax Appeals heard the plaintiff taxpayers' administrative appeal from the ADOR hearing officer's adverse ruling. The matter remained under advisement with the Board until 1997, the year following the dismissal of the plaintiff taxpayers' first action pursuant to Kerr II. Kerr III, 197 Ariz. at 215, ¶ 7, 3 P.3d at 1135. The Board ruled that the plaintiff taxpayers were entitled to refunds for 1985 through 1990 because former A.R.S. § 43-1022(2) violated the intergovernmental tax immunity doctrine codified in 4 U.S.C. § 111. At the same time, the Board determined that A.R.S. § 43-1001(2) did not violate 4 U.S.C. § 111 and that no refunds for tax years after 1990 would be awarded. The Board also agreed with the ADOR hearing officer that neither ADOR nor the Board could entertain a class refund claim.

¶ 12 The plaintiff taxpayers and ADOR commenced the instant actions in April and May 1997 to appeal the Board's ruling. The plaintiff taxpayers alleged that they had "filed and pursued through the administrative process, a timely administrative class claim on their behalf and on behalf of all federal employees similarly situated." ADOR's answer admitted this allegation, but denied "that Plaintiffs were entitled to file or pursue a claim on behalf of anyone other than themselves."

¶ 13 In mid-1997, the Governor of Arizona directed ADOR "to make refunds for the tax years 1985 through 1990 to all taxpayers who had filed timely refund claims, whether they were parties to the administrative action or not." Kerr III, 197 Ariz. at 216, ¶ 8, 3 P.3d at 1136. See ADOR Arizona Individual...