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California Taxpayers Association Files Suit Challenging Retroactive Tax Increase
By a MetNews Staff Writer
The California Taxpayers Association has filed an action in Fresno Superior Court challenging a law that it claims amounts to a retroactive tax increase that improperly changes apportionment rules dating back as far as 1966.
Its complaint, filed Thursday, seeks declaratory relief against the California Franchise Tax Board and asserts that Revenue and Taxation §25128.9—signed into law in June of this year as part of Senate Bill 167—violates the U.S. Constitution.
The crux of the allegations is that the section purports to be a “clarification” of the Uniform Division of Income for Tax Purposes Act (“UDITPA”) but instead operates as a substantive and retroactive change in California’s income tax apportionment laws, potentially exposing taxpayers to liability for tax periods that ended decades ago.
The changes affect portions of the UDITPA, one provision of which says that “any taxpayer having income from business activity which is taxable both within and without this state, other than activity as financial organization or public utility or the rendering of purely personal service” has the right to allocate and apportion net income.
To determine the apportionment of income to the state, UDITPA allows taxpayers to multiply apportionable business income by a specific formula.
The formula takes into account the three percentages—the amount of property held in California out of its total property (the property factor), the compensation paid to employees in California versus the total compensation paid to employees everywhere (the payroll factor), and the taxpayer’s sales in California as compared to its total sales (the sales factor).
Alleged Changes
The complaint avers that the new law requires water’s-edge taxpayers—entities that agree to be taxed in California only for sales occurring within the state—to exclude foreign dividends from their sales factors, in effect overturning rules in place since the 1960s.
According to the pleading, the exclusion of foreign dividends has been affirmed by two unanimous panels of judges with the Office of Tax Appeals (“OTA”) and California courts.
The plaintiffs allege that the intent to apply the changes retroactively is supported by the fact that the California Department of Finance estimates that the changes will generate $1.3 billion in new tax revenue “immediately” and an additional $200 million annually going forward.
The plaintiffs assert that the bill violates the separation of powers guarantees in the California Constitution by statutorily undermining the apportionment rules “contrary to prior interpretations [of the law] by the California Supreme Court, Court of Appeal, and the OTA” and violates due process by its retroactive application.
Tramples on Rights
California Taxpayers Association President Robert Gutierrez said in a press release:
“This retroactive tax hike tramples on taxpayers’ right to due process and violates every principle of good tax policy. We’re confident the court will agree that it is unconstitutional for the state to enact a law in 2024 that is retroactive to the year the Beatles played their final concert.”
Gutierrez continued:
“If this legislation was simply a restatement of what the law has always been, as its proponents claim, it would have no monetary impact. The state’s revenue estimates are an admission that this is a retroactive tax hike.”
The Sacramento/District of Columbia firm of Eversheds Sutherland LLP is representing California Taxpayer Association in the suit.
The National Taxpayers Union, represented by the Century City firm of Greenberg Traurig, filed a similar action last week in Sacramento Superior Court challenging the legislation.
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