Over the years, too many corporations doing business in Illinois have had the unfortunate experience of receiving a notice of delinquency from the Office of the Secretary of State of Illinois (the “Secretary of State”) demanding immediate payment of additional franchise tax, penalties, and interest. Not to be confused with the Illinois corporate income tax, which is administered by the Illinois Department of Revenue, the Illinois franchise tax is codified in the Business Corporate Act of 1983, 805 ILCS 5/1.01, et seq. (the “BCA”), and is administered by the Secretary of State. The franchise tax is considered a fee for the privilege and protections of “incorporation”, and therefore only applies to “corporations” and not other business entities (e.g., LLCs, LLP, GPs, etc.). The Illinois franchise tax base is measured by a corporation’s Illinois “paid-in capital” — meaning, funds generated by corporations by issuing stock, plus additional cash/equity contributed by shareholders.
On December 6, 2019, the Illinois Appellate Court, First Judicial District handed Illinois franchise taxpayers a much-needed victory when it ruled in Global Mail, Inc. v. Jesse White that the Secretary of State improperly assessed an Ohio corporation, Global Mail, Inc., double the amount of franchise tax actually due, along with penalties and interest merely because the entity failed to report a merger transaction and update its state of incorporation.
Global Mail, Inc. (“Global Mail”) was originally incorporated in Delaware in 1987 and became authorized to transact business in Illinois in 2001. In 2004, Global Mail engaged in an internal restructuring, whereby the original Delaware corporation merged out of existence and into a new 100% wholly-owned subsidiary incorporated in Ohio, which then took the same name Global Mail, Inc. However, Global Mail failed to notify the Secretary of State of the merger and apply for a new certificate of authority to transact business in Illinois after the restructuring.
Nonetheless, Global Mail continued to operate in Illinois after 2004 and filed its corporate annual report with the Secretary of State and paid Illinois franchise tax, but listed Delaware (its original state of incorporation) rather than Ohio on the annual report form. On its 2013 corporate annual report, Global Mail changed its reported state of incorporation from Delaware to Ohio. After Global Mail submitted its 2015 corporate annual report with its updated state of incorporation, the Secretary of State returned the report along with the franchise tax payment because Global Mail “incorrectly listed itself as an Ohio corporation, instead of a Delaware corporation ….” After Global Mail explained that the Delaware entity had merged out of existence in 2004, and that the franchise taxes previously credited to the defunct Delaware corporation were actually paid by the new Ohio corporation, the Secretary of State responded with a final notice of delinquency assessing over $650,000 in additional franchise tax, penalties, and interest. To justify the additional assessment, the Secretary of State claimed that from 2005 to 2016, Illinois was owed franchise taxes from both the Ohio and Delaware corporations. According to the Secretary of State, both corporations continued to exist for franchise tax purposes because Global Mail failed to formally report the merger and withdraw the Delaware corporation’s application for authority to transact business in Illinois.
Global Mail paid the full assessment under protest and brought suit in the Circuit Court of Cook County (the “Circuit Court”). The Circuit Court ruled in favor of Global Mail and ordered approximately $615,000 of the $650,000 paid under protest to be refunded. The Illinois Appellate Court affirmed and held:
“Delaware law dictates corporate existence and, once the Delaware corporation no longer existed under Delaware law, it no longer existed for purposes of incurring franchise taxes. Thus, the taxes that Global Mail’s Ohio corporation paid should have been credited to the Ohio corporation, even if they were improperly designated as being for the Delaware corporation.”
The Court further held that “double taxation is never presumed and is valid only where the legislature has unequivocally intended to impose such taxation.” In this regard, “taxing statutes are to be strictly construed … [and] [i]n cases of doubt they are construed most strongly against the government and in favor of the taxpayer.” Accordingly, the Delaware corporation did not exist after it merged out of existence in 2004, and thus, it was not liable for franchise tax in subsequent years.
As we recently reported, on June 5, 2019, the Illinois legislature enacted S.B. 689 to phase out the Illinois franchise tax starting with the 2020 tax year and culminating in a full repeal by the 2024 tax year. See Illinois Enacts Major Tax Changes, June 18, 2019, for our prior coverage. While great news for Illinois businesses, this does not mean the Secretary of State will stop enforcing the franchise tax for remaining open periods. The Illinois Appellate Court’s decision in Global Mail exemplifies the perplexing — if not outright inaccurate — interpretations of the BCA the Secretary of State has taken in its administration of the franchise tax over the years. Corporations operating in Illinois should be remain diligent with their Illinois franchise tax obligations and cautious with any interactions with the Secretary of State moving forward. This infamous tax is likely going away for good, but we are not out of the woods just yet.