April 15 may be the time for action on add-back-related refund claims. Taxpayers that have been taxed on otherwise deductible royalties, interest and other amounts they have paid to related members in non-taxing states should consider immediately whether protective refund claims may be in order. As many are aware, VFJ Ventures, Inc. has petitioned the United States Supreme Court to hear its challenge to the constitutionality of Alabama's add-back statute,1 which disallows deductions for certain related-party payments by adding back to income the deducted amounts.2 In addition to Alabama, 21 jurisdictions have enacted add-back statutes, so any decision by the Supreme Court likely would be far-reaching.3 Recent developments and upcoming deadlines could tip the scale in favor of filing protective refund claims sooner rather than later.

Approaching Deadlines

At this point, passively watching the progression of the add-back litigation may no longer be sufficient. Taxpayers would be well-advised to determine immediately whether to file refund claims for taxes they have paid based upon compliance with state add-back statutes. Of course, the refund-claim decision must be made in light of all the taxpayer's circumstances. Against the benefits of preserving refund claims for expiring periods and posturing those claims favorably, a taxpayer should weigh certain risks—such as keeping the limitations period open for audits of years where exposures may exist, or putting a spotlight on nexus exposure (for which there is no statute of limitations).

Those companies that determine it makes sense to file protective refund claims should file those claims immediately. This is because deadlines are fast-approaching. More than half of the jurisdictions with add-back statutes have April 15 refund deadlines for calendar-year taxpayers.4 Taxpayers who wait to file claims risk losing years to those limitations periods.

Moreover, taxpayers with refund claims should seriously consider getting all their claims filed before the U.S. Supreme Court decides whether to grant certiorari in the VFJ Ventures case. There is a risk that states could try to limit any relief resulting from a VFJ Ventures victory, to claims pending as of a certain time. For example, Ohio courts have limited the application of favorable sales tax determinations to refund petitions pending in court at the time the decision was entered,5 resulting in denial of all claims pending at lower administrative levels on the date of the favorable decision. It is conceivable that courts in add-back states, considering refund claims following a VFJ Ventures victory at the U.S. Supreme Court, could decide that claims could be denied if they were filed after the date on which the U.S. Supreme Court granted VFJ's petition for certiorari. There are, of course, legal grounds—such as Due Process and Equal Protection defenses—on which to object to such attempts at prospective application. Nevertheless, taxpayers that do not wish to face added legal hurdles with respect to otherwise "plain-vanilla" refund claims would be well advised to file such claims before the Court rules on VFJ's cert. petition. The Court's decision on certiorari is expected on or around April 27.6

Potential for Favorable Relief

Recent developments in the VFJ Ventures litigation may also weigh in favor of filing protective claims. In particular, the likelihood that the High Court will address the validity of the add-back statute increased greatly Feb. 23, when the State of Delaware filed an amicus brief urging that certiorari be granted. Delaware argued that the "taxed by other states" exception to the add-back was unconstitutional because it projects Alabama's tax policy into other states, like Delaware, and impermissibly interferes with the policy choices of such states.7 It further urged the Court to accept review in order to enable Delaware to adjust its law in light of clear precedent, and also to prevent the state from becoming "irreparably harmed" by an exodus of intangible holding companies.8 Delaware's involvement emphasizes the significance of the case to the nation, and thus increases the likelihood that the Court will accept it.

If the Court does take the case, it will be faced with strong arguments for reversal of the Alabama Supreme Court's decision, over and above those raised by the Petitioner on appeal and in the courts below. In addition to the concerns Delaware has voiced regarding extraterritorial taxation, the add-back limitation suffers from serious "fair apportionment" infirmities under both the Commerce Clause and the Due Process Clause.

Specifically, the "taxable in other states" limitation to the add-back, which attributes income to Alabama solely because no other state has decided to tax that income, fails the rational relationship test of the external consistency prong of the fair apportionment requirement under the Commerce Clause. It also violates Due Process principles because there is no rational relationship between the income at issue and the Alabama business activities of the taxpayer. The factor that determines whether the income is included in the tax base (the tax policy of the states where the affiliate operates) does not "actually reflect a sense of how [the] income is generated,"9 nor does it bear any "rational relationship between the income attributed to the State and the intrastate values of the enterprise."10 Thus, the statute is unconstitutional on its face.

For a detailed analysis of these constitutional infirmities, please see Donald M. Griswold, Sara A. Lima, and Cass J. Vickers, "The National Implications of Alabama's Add-Back Statute: Why the U.S. Supreme Court Must Act Now," BNA Multistate Tax Report, Vol. 16, No. 3 (March 27, 2009), available by clicking here.


Because of the prevalence of add-back statutes across the country and the current status of the VFJ Ventures litigation, many taxpayers have significant refund opportunities at their fingertips. However, time is running out for preserving them. Thus, corporate taxpayers must undertake the necessary analysis now to determine whether it is in their best interest to file such claims immediately.