On August 19, 2015, the Ohio Supreme Court decided that the tax commissioner may correct errors for net operating losses (NOL) credit against the commercial activity tax (CAT). The court found that the deadline for notifying the tax commissioner of the amount a taxpayer intended to claim as a credit against the CAT for net operating losses accrued under the former franchise tax did not preclude the tax commissioner from adjusting the amounts reflected in the notice in order to correct any error in the amount of the credit. However, because the Board of Tax Appeals (BTA) failed to determine whether there was in fact an error in the original notice, the court vacated the BTA’s decision and remanded the case with instructions to make such a determination. Navistar, Inc. v. Testa, Slip Opinion 2015-3283.
The NOL Credit
In 2005, Ohio enacted legislation to phase out the corporation franchise and tangible personal property taxes and replace them with the CAT. As part of the CAT, a credit was provided based on net operating losses incurred under the franchise tax. In order to claim the credit, taxpayers had to file a report by June 30, 2006, indicating the value of their Ohio NOLs net of any valuation allowance as of fiscal year ending in 2004.
Navistar filed the requisite report on time. However, at the time, it was undergoing a restatement of its financial statements for fiscal year 2004 and notified the tax commissioner of that fact. Subsequently, the company restated its financial statements. As part of the restatement, Navistar increased its valuation allowance for deferred taxes to 100 percent, which reduced the amount of its CAT credit to $0. Upon audit, the tax commissioner deemed this to mean that the original credit calculation contained an error. Exercising his authority to correct errors, the tax commissioner reduced the amount of the credit to zero. Navistar appealed this action to the BTA, arguing that the tax commissioner did not have the authority to change the amount of the credit because there was no error made in the original valuation allowance. Absent an error, the tax commissioner had no authority to change the amount of the credit.
The BTA Decision
At the BTA, Navistar introduced testimony from three different experts who claimed that its original calculation of the valuation allowance complied with generally accepted accounting principles (GAAP) and was, therefore, correct. The tax commissioner relied upon a statement in Navistar’s amended 10-K report that it had not applied GAAP correctly. Navistar had also filed a lawsuit against its former accounting firm alleging fraud in the preparation of its financial statements. The tax commissioner submitted a copy of the complaint as a statement against interest in the case. Finally, the tax commissioner relied on an expert who testified that, based on the 10-K filing and the contents of the complaint, Navistar had not complied with GAAP in establishing its valuation allowance. Therefore, its credit report contained an error that could be corrected.
The BTA upheld the determination of the tax commissioner. Without discussing the testimony of Navistar’s witnesses, the BTA concluded that the tax commissioner did have the authority to change the amount, and that based upon the 10-K filing, Navistar’s original calculation was in error. While the BTA admitted the complaint into evidence, it declined to allow the complaint to be used as a statement against interest, and generally ignored it in its decision. Navistar appealed that decision to the Supreme Court. The tax commissioner did not cross-appeal.
The Supreme Court Decision
The Supreme Court vacated the decision of the BTA. First, it agreed with the tax commissioner that under R.C. 5751.53 that official had the authority to revise the amount of the credit, but only if there was an error in the original calculation. The court also agreed that the books and records used to compute the amount of the credit must be kept in accordance with GAAP.
Nevertheless, the court found the BTA’s decision to be unreasonable and unlawful. The BTA specifically referred to the statement in Navistar’s 10-K report in its finding that Navistar had failed to satisfy GAAP in computing the amount of the credit. However, the BTA failed to discuss the testimony from Navistar’s witnesses to the contrary. The court therefore remanded the case to the BTA to “carefully consider and weigh all pertinent evidence” before determining whether Navistar’s original calculation complied with GAAP.
The court also noted that while the complaint had been submitted into evidence, the BTA had rejected the tax commissioner’s argument that it constituted a statement against interest. While the complaint was admitted into evidence, the hearing examiner had strictly limited its use at the hearing. The ruling by the hearing examiner was not modified or reversed by the BTA; therefore, that ruling stood. Because the tax commissioner failed to file a cross-appeal contesting the ruling on the complaint, he was deemed to waive his right to rely upon the complaint.
The court instructed the BTA to consider all the evidence in accordance with the court’s opinion and determine, without further hearing, whether the valuation allowance originally reported by Navistar complied with GAAP. If it did, then the BTA must reverse the tax commissioner’s final determination. If the BTA finds the original calculation did not comply with GAAP, it must affirm that final determination.
The court clearly instructed the BTA to consider all the evidence on the matter of whether the valuation allowance complied with GAAP. What is interesting, however, is the court’s holding that the complaint may not be used as evidence in that determination. That holding will clearly limit the evidence in the record that is favorable to the tax commissioner’s position. Its expert relied in large part on the complaint in concluding that Navistar had not complied with GAAP. In the absence of independent evidence to the contrary, the BTA’s finding will largely depend upon the credibility of Navistar’s three expert witnesses. Their testimony was largely unrefuted and their qualifications were not seriously challenged.