Revisiting a decision issued in May 2015, the Supreme Court, New York County, has granted the motion of the New York State Department of Taxation and Finance to unconditionally dismiss an action brought by a taxpayer to challenge results anticipated to arise from an audit, requiring the taxpayer to exhaust administrative remedies before returning to court. SunGard Capital Corp. v. New York State Dep't of Taxation and Finance, Index No. 155041/2015 (Sup. Ct. N.Y. Cnty., Dec. 19, 2016).
SunGard Capital Corp. brought this action in 2015 against the Department, as well as a companion action against the New York City Department of Finance ("DOF"), asking for a declaratory judgment that the gain it incurred on the sale of two subsidiaries in 2012 should be excluded from its New York State corporate franchise tax entire net income, consistent with the method it used on its returns as filed. SunGard alleged that it expected the Department to argue, pursuant to the decision in Matter of Bausch & Lomb, Inc., DTA No. 819883 (N.Y.S. Tax App. Trib., Dec. 20, 2007), and the Department's subsequent guidance in a Technical Service Bulletin, TSBM08(3)C (N.Y.S. Dep't of Taxation & Fin., Mar. 10, 2008), that the gain should have been included in SunGard's 2012 entire net income. SunGard contended that the gain should either be excluded under Tax Law former 211(4)(b)(2) and Admin. Code 11605(4)(b)(2) as gain from the sale of a subsidiary, even if the subsidiary had been a member of a combined tax return; or, in the alternative, that if the gain is not excluded, it should be characterized as investment income rather than as business income, under Tax Law 208(6)(a), 208(8), 208(1B)(5)(a), 208(1B)(6)(a), and 210(2), and Admin. Code 11602(c)(5).
In Bausch & Lomb, the New York State Tax Appeals Tribunal agreed with the taxpayer and held that a loss from the sale of a subsidiary that had been included in the taxpayer's New York combined return was not attributable to subsidiary capital and therefore was includable in the computation of entire net income. The Department then issued TSBM08(3)C, setting out its position that the holding in Bausch & Lomb also applies to gains from the sale of stock of a corporation included in a combined return.
Initial Motion to Dismiss
In August 2015, the Department (and the DOF) moved to dismiss SunGard's complaint on the ground that the court lacked jurisdiction, since no audit had yet been completed and no tax had yet been determined, and therefore there was no "justiciable controversy" for the court to resolve. The Department also argued that, even if additional tax were to be assessed under the theories outlined in SunGard's complaint, SunGard would be required to exhaust its administrative remedies through the Division of Tax Appeals before it could bring an action in court. The Department also stated that it needed to conduct an audit, and that it was not yet even clear whether SunGard had properly filed a combined return, or that its calculation of tax was correctly based on entire net income rather than on one of the alternate bases that would apply if the result is a higher tax. In response, SunGard contended that the Department's position was already determined, that there were no facts in issue, and that it was facing a "direct and immediate" "threat of harm" entitling it to declaratory relief.
In May 2016, the trial court issued a short decision dismissing the action, but did so on the condition that the Department "review the relevant tax return and issue a final determination within 120 days." The action against the DOF was similarly dismissed on the same condition.
In September 2016, the Department moved to renew its original motion to dismiss for lack of jurisdiction, and also moved to reargue, asking the court to modify its original order to delete the requirement that it complete the audit and issue its determination within the 120day period, claiming that the audit had been delayed due to a lack of cooperation by the taxpayer, and that, in any case, the court had lacked authority to issue a conditional order in the first place because it had lacked jurisdiction. SunGard responded, asking for the action to move forward since the Department had not issued a notice within the 120day deadline, denied it had delayed the audit, and contended that all necessary information had been supplied to the auditor, pointing out, in particular, that the question of the correct composition of its combined return had been finally resolved by the decision in Matter of SunGard Capital Corp., et al., DTA No. 823631 et al. (N.Y.S. Tax App. Trib., May 19, 2015), in which the SunGard group had been allowed to file combined returns including most of its related entities. SunGard also claimed it had no administrative remedies to exhaust, since no notice had been issued, and that it was raising strict questions of law as well as a constitutional challenge, alleging that the Department's interpretation of the subsidiary capital exclusion results in the taxation of extraterritorial income in violation of the Due Process and Commerce Clauses of the U.S. Constitution. In reply, the Department argued that no constitutional issues had been raised in the pleading.
The court denied the Department's request for reargument, finding that the Department had failed to make the required showing that the court had overlooked any question of fact or law in its original decision, but granted the Department's request to renew its original motion. It noted that the Department claimed its audit had been delayed by a lack of cooperation, that SunGard denied it had caused the delay, but that in any case the audit had not yet been completed, and that the outstanding requests for information made it "impossible" for the Department to issue its notice within 120 days. It therefore found it "appropriate. . . to simply dismiss the action for lack of subject matter jurisdiction," and to direct SunGard to exhaust administrative remedies before returning to seek any judicial review.
Unless the decision is appealed and reversed, it seems that resolution of SunGard's treatment of its gains in the wake of Bausch & Lomb will have to await an audit, any eventual Department notice of deficiency, and the usual challenge through the Division of Tax Appeals and Tax Appeals Tribunal. In the nearly nine years since the issuance of the TSB in 2008, no reported cases have dealt with the issue of how such gains should be treated. No similar motion to renew by the DOF appears in the court docket, so the progress of the City audit is not public.
While the trial court's decision did not expressly deal with SunGard's claims that it was not required to exhaust administrative remedies since it was raising questions of law and a constitutional challenge, it implicitly rejected those grounds in determining that SunGard had failed to exhaust administrative remedies. In general, taxpayers are required to exhaust administrative remedies before bringing an action in court, unless one of the recognized exceptions to that requirement is met, such as a claim that a statute is unconstitutional, or that the statute simply does not apply to it. Here, the publicly available record does not explain the nature of SunGard's constitutional challenge in detail, which seems to turn not on an allegation that the statute defining subsidiary capital is unconstitutional on its face, but that it was being unconstitutionally applied to SunGard through the Department's published TSB on how gain would be treated.