Malpass v. Dep't of Treasury
| Citation | 833 N.W.2d 272,494 Mich. 237 |
| Decision Date | 24 June 2013 |
| Docket Number | 144431,(Calendar Nos. 1,145367,145370.,Docket Nos. 144430,6).,145368,144432,145369 |
| Parties | MALPASS v. DEPARTMENT OF TREASURY. Wheeler Estate v. Department of Treasury. Huzella v. Department of Treasury. Wright v. Department of Treasury. Wheeler v. Department of Treasury. |
| Court | Supreme Court of Michigan |
OPINION TEXT STARTS HERE
Warner, Norcross & Judd, LLP (by Jason L. Byrne, Stephen R. Kretschman, and Nicole L. Mazzocco), for Tad and Brenda L. Malpass, Tracy and Brenda K. Malpass, and Fred and Brenda Malpass.
Honigman, Miller, Schwartz & Cohn, LLP (by June Summers Haas and John D. Pirich), for the estate of Thomas M. Wheeler, Nicholas and Lisa J. Huzella, Patrick and Michaelon Wright, and Thomas R. and Patsy Wheeler.
Bill Schuette, Attorney General, B. Eric Restuccia, Deputy Solicitor General, Richard A. Bandstra, Chief Legal Counsel, and Kevin T. Smith, Assistant Attorney General, for the people.
Marjorie B. Gell for the State Bar of Michigan Taxation Section.
In these consolidated cases, we address the application of Michigan's statutory apportionment formula for individuals with flow-through business income under the Michigan Income Tax Act (ITA).1 In both cases, the individual taxpayers received income from in-state and out-of-state, flow-through businesses. The Michigan Department of Treasury (Department) refused the taxpayers' attempts to combine the flow-through income from their respective businesses and then apportion the income using the businesses' combined apportionment factors, and instead required the income of each entity to be apportioned separately.
We hold that the ITA does not prohibit individual taxpayers from combining the profits and losses from unitary flow-through businesses and then apportioning that income on the basis of the businesses' combined apportionment factors. Moreover, we hold that the ITA did not limit apportionment of income to domestic businesses during the 1994 and 1995 tax years, and that the apportionment could properly be applied to a foreign entity to the extent that the foreign entity and the individual taxpayer's in-state business were unitary.
Accordingly, (1) we reverse the Court of Appeals' judgment in Malpass and reinstate the order entered by the Court of Claims granting summary disposition in favor of the Malpasses, and (2) we affirm the Court of Appeals' judgment in favor of the Wheelers.
Plaintiffs, individual members of the Malpass family, owned and operated East Jordan Iron Works (East Jordan), an iron foundry in East Jordan, Michigan. They also owned and operated Ardmore Foundry, Inc. (Ardmore), an iron foundry in Ardmore, Oklahoma. Both were Michigan corporations. Because of their S-corporation classification under the Internal Revenue Code, 2 all profits and losses flowed through the corporation to the family members individually.
For the tax years of 2001, 2002, and 2003, East Jordan operated at a profit and Ardmore operated at a loss. In their initial returns, the Malpasses treated the companies as separate, non-unitary entities. Accordingly, the Malpasses attributed East Jordan's income to Michigan and Ardmore's losses to Oklahoma. The Malpasses then amended their returns for the 2001, 2002, and 2003 tax years, treating East Jordan and Ardmore as a unitary business, and combining East Jordan's profits with Ardmore's losses. The combined amount from the unitary business was then apportioned to Michigan on the basis of the Michigan apportionment factors, resulting in claims for refunds totaling over $1 million.
After the Department rejected the Malpasses' amended returns, the individual taxpayers brought actions in the Court of Claims. The actions were consolidated, and on November 19, 2009, the Court of Claims granted summary disposition in favor of plaintiffs. The Court of Claims determined that East Jordan and Ardmore were a unitary business on the basis of an undisputed affidavit. It then concluded that the unitary business principle applied to the ITA and that the Malpasses could first combine the income and losses of East Jordan and Ardmore and then apportion the aggregate.
In a published opinion, the Court of Appeals reversed, concluding that East Jordan and Ardmore were separate and legally distinct business entities and that the ITA did not allow for combined reporting of separate entities. 3 The Court of Appeals concluded that the Malpasses had received income from two separate businesses and were required to apportion the income of each entity separately.4
Members of the Wheeler family were shareholders of Electro–Wire Products, Inc. (Electro–Wire), a Michigan-based S-corporation that made electrical systems. Electro–Wire acquired the assets of Temic Telefunken Kabelsatz, GmbH, a German company. The asset purchase resulted in two general partnerships: Temic Telefunken Kabelsatz, GmbH (TKG), the operating partnership, and Electro–Wire Products, GmbH (EWG), the holding partnership. The end result of the acquisition was one S-corporation (Electro–Wire) and two general partnerships (TKG and EWG), with all the income and losses passing through to the owners as individual income.
For the tax years 1994 and 1995, the Wheelers reported the pass-through Electro–Wire income on their individual tax returns; the income included partnership income from TKG. The Wheelers treated the businesses as unitary and then apportioned the income using the combined apportionment factors of both companies. After an audit and a determination that the unitary business principle did not applyto individual taxpayers, the Department required the Wheelers to apportion the income stemming from Electro–Wire on the basis of Electro–Wire's apportionment factors and to disregard TKG's factors, resulting in liabilities and interest totaling over $2 million.
The Tax Tribunal granted summary disposition in favor of the Wheelers, finding that there was no language in the ITA that supported the Department's assertion that the unitary business principle applied only on a separate-legal-entity level. In a published opinion, the Court of Appeals affirmed, concluding that the Wheelers could use combined reporting under the ITA and that the apportionment could extend to foreign-business activity that was unitary with its Michigan business.5 The Court of Appeals also concluded that Electro–Wire and TKG were a unitary business.6
In Malpass, we review de novo the trial court's decision on a motion for summary disposition.7 Our review of the Tax Tribunal's decision in Wheeler is limited. In the absence of fraud, we review a Tax Tribunal decision for “misapplication of the law or adoption of a wrong principle.” 8 We consider the Tax Tribunal's factual findings conclusive if they are “supported by competent, material, and substantial evidence on the whole record.” 9 However, we review issues of statutory interpretation de novo.10
The Due Process Clause of the Fourteenth Amendment imposes two requirements on a state's taxation of a business operating in interstate commerce: “a ‘minimal connection’ between the interstate activities and the taxing State, and a rational relationship between the income attributed to the State and the intrastate values of the enterprise.” 11 A state is not required to isolate a business's intrastate activities from its interstate activities; instead, “it may tax an apportioned sum of the corporation's multistate business if the business is unitary.” 12 This latter concept, known as the unitary business principle, has been referred to as the “linchpin of apportionability.” 13 It allows a state to “tax multistate businesses ‘on an apportionable share of the multistate business carried on in part in the taxing state.’ ” 14
Our state has adopted formulary apportionment for individual taxpayers in the ITA.15 Recognizing that Michigan is a formulary apportionment state, however, does not resolve the issue in this case because there are at least two different methods of applying the apportionment formula. 16 First, a state may use separate-entity reporting, which requires each entity with a nexus to the taxing state to be considered as a separate and distinct entity, regardless of whether it could comprise a unitary business with other entities.17 Alternatively, a state may use combined reporting, which requires “each member of a group carrying on a unitary business [to] compute[ ] its individual taxable income attributable to activities in [the state] by taking a portion of the combined net income of the group through the utilization of combined apportionment factors.” 18 The question in this case is whether the ITA prohibits individual taxpayers from using combined reporting.
To answer this question, we turn first to the statutory language. 19 Our goal in interpreting a statute “is to give effect to the Legislature's intent, focusing first on the statute's plain language.” 20 In so doing, we examine the statute as a whole, reading individual words and phrases in the context of the entire legislative scheme.21
Under the ITA, an individual taxpayer's entire income is taxable in Michigan if it is derived solely from activity within the state.22 However, if the income is derived from business activity taxable both within and without this state, the ITA requires an individual taxpayer to “allocate and apportion his net income....” 23 The ITA further states that, “[f]or a resident individual, ... all taxable income from any source whatsoever, except that attributable to another state under [ MCL 206.111 to MCL 206.115] and subject to [ MCL 206.255], is allocated to this state.” 24Section 115, the only one of these sections applicable here, provides: “ All business income, other than income from transportation services shall be apportioned to...
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