Tyler v. Iowa Dep't of Revenue

• Decision Date: 17 November 2017
• Docket Number: No. 16-1731,16-1731
• Citation: 904 N.W.2d 162
• Parties: Paula J. TYLER and Mark J. Alcorn, Appellants, v. IOWA DEPARTMENT OF REVENUE, Appellee.
• Court: Iowa Supreme Court

904 N.W.2d 162

Paula J. TYLER and Mark J. Alcorn, Appellants,

v.IOWA DEPARTMENT OF REVENUE, Appellee.

No. 16-1731

Supreme Court of Iowa.

Filed November 17, 2017

Erich D. Priebe and David J. Dutton of Dutton, Braun, Staack & Hellman, P.L.C., Waterloo, for appellant.

Thomas J. Miller, Attorney General, Donald D. Stanley Jr., Special Assistant Attorney General, and Hristo Chaprazov, Assistant Attorney General, for appellee.

MANSFIELD, Justice.

This administrative review proceeding requires us to decide whether Iowa may constitutionally deny an inheritance tax exemption for bequests to stepchildren when the marriage between parent and stepparent was dissolved before the stepparent's death, while granting an exemption when the marriage was not dissolved. We conclude that this differential treatment based on divorce of the parent and stepparent does not violate article I, section 6 of the Iowa Constitution. The different tax treatment of these two categories is rationally related to the legislature's legitimate state interest in promoting and preserving family relationships through the tax laws. Accordingly, we affirm the judgment of the district court and the administrative ruling of the Iowa Department of Revenue.

I. Background Facts and Proceedings.

Petitioners Paula Tyler (born 1963) and Mark Alcorn (born 1958) are the biological children of Joseph and Constance Alcorn. Joseph and Constance divorced in 1964. Joseph paid child support after the divorce but did not have regular visitation with Paula and Mark. Joseph died in 2007 or 2008.

In 1966, Constance married the decedent, Donald Hitzhusen. Constance, Paula, and Mark moved to Rockwell to reside with Donald on his family farm. Donald treated Mark and Paula as his own children. He helped pay for them to attend college. Both Mark and Paula eventually moved to Texas. Each of them married in Texas, but they maintained a close personal relationship with Donald.

In 2001, Constance and Donald divorced after thirty-five years of marriage. Yet Donald remained close with both Paula and Mark. In 2007, Donald gave both Paula and Mark his power of attorney so they could assist him with financial matters. Donald also executed a medical power of attorney, designating Mark primary agent and Paula secondary agent as to health care decision-making.

In 2008, Donald executed a will and revocable trust leaving his estate to Paula, Mark, and Constance, with Paula and Mark receiving larger shares than Constance. In 2012, Donald passed away.

The inheritance tax return originally filed with the State of Iowa in October 2013 reported tax due on the bequests going to all three beneficiaries—Paula, Mark, and Constance. The tax due on Paula's and Mark's shares was paid under protest. Approximately five months later, in March 2014, the estate filed an amended tax return claiming no inheritance tax was actually due on Paula's and Mark's shares. Thus, under the amended return, inheritance tax would be due only on the 23% of the $1.823 million estate going to Constance, not on the 77% of the estate being divided equally between Paula and Mark. The estate therefore sought a refund of approximately $203,000 for inheritance tax previously paid on Paula's and Mark's shares.

For many years prior to 1997, the Iowa inheritance tax had an unlimited exemption for any share of the estate passing to the surviving spouse, limited exemptions for lineal descendants and lineal ascendants, and no exemption for stepchildren. See Iowa Code § 450.9 (1997). That year, the general assembly enacted legislation that eliminated the inheritance tax on property passing to parents, grandparents, great-grandparents, children, stepchildren, grandchildren, and great-grandchildren, among others. See 1997 Iowa Acts ch. 1, § 2 (codified at Iowa Code § 450.9 (1999)).

In 2003, the general assembly passed legislation making a series of changes to the inheritance tax and the probate code. See 2003 Iowa Acts ch. 95. Among those changes was the insertion of the following definition of "stepchild":

"Stepchild" means the child of a person who was married to the decedent at the time of the decedent's death, or the child of a person to whom the decedent was married, which person died during the marriage to the decedent.

See id. § 1 (codified at Iowa Code § 450.1(1)(e) (2005)).

Thus, as of 2003, "stepchild" for purposes of the inheritance tax exemption was limited to stepchildren of a decedent who had not divorced the parent prior to the decedent's death.

Based on this statutory definition, the Iowa Department of Revenue denied Donald's estate's request for a refund in a letter dated April 10, 2014. The letter explained that because Constance and Donald were divorced at the time of Donald's death, Paula's and Mark's shares of the estate were not eligible for the stepchild tax exemption.

Paula and Mark then filed a protest with the department on May 7, challenging the denial of the tax refund on the ground that the statute's classification of stepchildren violated their equal protection rights under article I, section 6 of the Iowa Constitution.

Following a contested hearing on April 10, 2015, an administrative law judge issued a proposed decision on February 26, 2016, setting forth findings of fact and conclusions of law and rejecting the equal protection challenge. This decision became final when Paula and Mark declined to appeal to the director of the department.

Paula and Mark thereafter filed a timely petition for judicial review with the Iowa District Court for Polk County. On September 14, the district court issued a ruling affirming the department's decision. The court reasoned,

The challenged classification is rationally related to the legitimate state interests of promoting the development of close legal relationships and stability in families raising stepchildren. Close legal relations and stability within the family unit created by the parents' marriage are vital to proper child-rearing, and providing stable homes for children is undoubtedly a legitimate state interest. Approximately four and one half percent of all households in the United States with children under the age of eighteen are blended families raising stepchildren and biological children. Granting an inheritance tax exemption to stepchildren (as defined in section 450.1(1)(e) ) of blended households in Iowa puts the stepchildren and the biological children in such families on equal footing when it comes to their inheritance tax obligations, should one of the parents pass away during the marriage. The legislature may have concluded that removing such inequality would help strengthen the legal relations in blended families. Once a blended family is terminated by divorce, however, there no longer is any need to strengthen the legal relations within the family unit because the divorce dissolved the family unit. The legitimate governmental interest of providing stable homes for raising children in blended families disappears upon divorce.

....

... With respect to taxpayers whose biological parent and stepparent divorced prior to the death of either parent the legislature may have concluded that the balancing of these competing considerations weighed against granting an exemption.

....

... The challenged classification is neither extremely overinclusive nor extremely underinclusive, and, therefore, section 450.1(1)(e) should be upheld as constitutional.

(Citations and footnote omitted.)

Paula and Mark appealed, and we retained the appeal.

II. Standard of Review.

"We generally review a district court's decision on a petition for judicial review of agency action for correction of errors at law. However, in cases ... where constitutional issues are raised, our review is de novo." LSCP, LLLP v. Kay-Decker, 861 N.W.2d 846, 854 (Iowa 2015) (alteration in original) (quoting Qwest Corp. v. Iowa State Bd. of Tax Review, 829 N.W.2d 550, 557 (Iowa 2013) ).

III. Analysis.

A. The Legal Standards. Article I, section 6 of the Iowa Constitution states, "All laws of a general nature shall have a uniform operation; the general assembly shall not grant to any citizen, or class of citizens, privileges or immunities, which, upon the same terms shall not equally belong to all citizens." Iowa Const. art I, § 6. This clause of our constitution "is essentially a direction that all persons similarly situated be treated alike." Varnum v. Brien, 763 N.W.2d 862, 878 (Iowa 2009) (quoting Racing Ass'n of Cent. Iowa v. Fitzgerald (RACI II), 675 N.W.2d 1, 7 (Iowa 2004) ); accord Residential & Agric. Advisory Comm., LLC v. Dyersville City Council, 888 N.W.2d 24, 49 (Iowa 2016). "We may conclude [ article I, section 6 ] is more protective [than the Fourteenth Amendment]." LSCP, 861 N.W.2d at 856.

The parties agree that the rational basis test applies to our review of Iowa Code section 450.1(1)(e) (2017). See LSCP, 861 N.W.2d at 858 ("[W]e ensure uniform operation under the Iowa Constitution by reviewing economic legislation—which includes tax statutes—under a rational basis test."). Under the rational basis test, "the statute need only be rationally related to a legitimate state interest." Qwest, 829 N.W.2d at 558 (quoting Sanchez v. State, 692 N.W.2d 812, 817–18 (Iowa 2005) ). This standard "is especially deferential in the context of classifications made by complex tax laws." LSCP, 861 N.W.2d at 856 (quoting Nordlinger v. Hahn, 505 U.S. 1, 11, 112 S.Ct. 2326, 2332, 120 L.Ed.2d 1 (1992) ). In tax matters, "the legislature possesses the greatest freedom in classification." Qwest, 829 N.W.2d at 558 (quoting Hearst Corp. v. Iowa Dep't of Revenue & Fin., 461 N.W.2d 295, 305 (Iowa 1990) ). For this reason, tax laws analyzed under the rational basis test "have generally been upheld without much difficulty." LSCP, 861 N.W.2d at 859 (quoting Qwest, 829 N.W.2d at 558 ).

Despite this deference, the state's freedom in classification is not absolute. Under the rational basis test, we must determine not only that the statute serves a...