On September 17, 2009, just 16 days after hearing oral argument, the Ohio Supreme Court issued a decision upholding the validity of the commercial activity tax against arguments that it was an unconstitutional tax on the wholesale and retail sale or purchase of food. In doing so, the Court sustained the legislative declaration, supported by more than 100 years of settled case law, that the tax was imposed upon the privilege of doing business in Ohio, not on the suspect sales. Ohio Grocers Association v. Levin, Slip Opinion No. 2009-Ohio-4872, ___ Ohio St. 3d ____.
Background. In 2005, as part of a comprehensive tax reform effort, Ohio enacted the commercial activity tax (CAT) as a replacement for the general personal property tax imposed on business property and the corporation franchise tax. The CAT is imposed upon all persons with taxable gross receipts for the privilege of doing business in Ohio. Persons grossing less than $150,000 in taxable receipts during a calendar year do not pay any tax. Persons grossing between $150,000 and $1 million in taxable receipts pay a flat $150 tax. The tax on gross receipts in excess of $1 million is imposed at a rate of 0.26 percent. Taxable gross receipts includes proceeds from sales, and there is no exclusion for proceeds from the sale of food.
Section 3(C), Article XII of the Ohio Constitution prohibits excise taxes imposed upon the sale or purchase of food for human consumption off the premises where sold. A similar limitation is imposed by Section 13, Article XII, with respect to whole transactions and packaging for food.
Plaintiffs make sales that include sales of food for consumption off the premises where sold. They contended that the CAT, to the extent it included receipts from the sale of food in the tax base, violated both Section 3(C) and Section 13 of Article XII. The trial court rejected this claim and upheld the tax, but the court of appeals reversed the trial court and found the tax to be unconstitutional. The Ohio Supreme Court accepted an appeal to address this important issue.
Supreme Court's Analysis. First recognizing the "strong presumption of constitutionality" enjoyed by statutes, the Court began its analysis by listing "three fundamental principles" that would govern its analysis. First, it is permissible to tax the privilege of doing business, and in order to do so, that privilege must be values. Second, the Court noted its long history of distinguishing between a tax imposed upon a certain factor and a tax upon a privilege that is merely measured by the factor. The Court dubbed this principle the "measuring stick" principle. Third, the Court noted that the measuring stick of a privilege-of-doing-business tax may include tax-exempt factors.
Turning to apply these principles, the Court recognized that at a minimum, it was plausible to read that the provisions did not apply to a tax on the privilege of doing business that included receipts from the sale of food in the measure of the tax. It recognized that, at best, it also was plausible plaintiffs were correct in their analysis. Thus, on the basis of the standard of review, plaintiffs had failed to establish that the tax was invalid beyond a reasonable doubt. However, the Court refused to stand merely on the standard of review and addressed the merits of the case.
First, the Court noted that the language of the provisions, themselves, distinguished between excise taxes in general and franchise taxes. While both types of taxes were authorized to be imposed, the proscription against application to sales of food was limited to excise taxes. The Court agreed that a franchise tax is a type of excise tax. However, by authorizing two types of taxes, but limiting only one, the Court concluded the provisions implied that franchise taxes were not subject to the limitation.
Moreover, the history of the provisions likewise supported the validity of the CAT. Both limitations were added to the constitution in response to the imposition of a sales tax on certain food sales. However, the Court noted that for years, food sellers had paid, without challenge, the corporation franchise tax on a base, net income, that included receipts from the sale of food. The constitutional provisions were amended twice without reference to the franchise tax, even though food sales were included in its measuring stick. The Court found this to strongly imply that the taxes imposed upon the privilege of doing business were not implicated by the food-sale limitation.
The Court next turned to the operation of the tax and concluded that it operated like a privilege of doing business tax based on several factors. Those factors included:
- The CAT is described as a tax imposed upon the privilege of doing business.
- The CAT is imposed upon the person enjoying the privilege.
- The CAT may not be directly passed on to another, but like other costs of doing business, may be included in the price charged for a good or service in an amount sufficient to recover the cost.
- The CAT is imposed for the exercise of the privilege for any portion of the calendar year.
- The CAT liability is determined on results over a specified period, rather than transaction by transaction.
- The CAT is computed using "a broad measure of market access" that is rationally related to the enjoyment of the privilege of doing business.
In contrast to this, the Court observed that any relationship between the amount of the tax and any particular sale would likely be "extremely attenuated." It noted the impact of the tax was only 0.0015 cents per dollar. Thus, even if prices were increased to account for the tax, the relationship between the amount of the tax and any particular sale of food would be attenuated. This attenuation would be furthered when the effect of various credits was factored into the equation.
Dissent. Justice Pfeifer dissented. In his view, the prohibition against excise taxes on the sale of food was absolute. Even though it was a tax on the privilege of doing business, the CAT is an excise tax. Moreover, for every $100 of food receipts, a tax of 26 cents resulted. In his view, this rendered the CAT a tax levied upon the purchase of food. He further stated that the relative small amount of the tax was irrelevant; there was no de minimus exception to the exclusion.
Justice Pfeifer took issue with the measuring stick analysis of the Court. He noted one of the cases cited by the Court1 contained language that the analysis applied because the forbidden subject was one of many factors included in the tax base. In the case of the CAT, sales are the only measure. He argued this was an important difference that was fatal to the CAT.
Justice Pfeifer was of the view that the distinction between excise and franchise taxes in Sections 3(C) and 13 was merely coincidental. He based this on his analysis of legislative history of the provisions that contained no reference to the distinction and accused the majority of reading more words into the provisions than was the case.
Finally, Justice Pfeifer devoted a lengthy discussion to the "questionable" legal principle that statutes are presume to be constitutional. He discussed how the principle was based on the premise that a constitutional provision and a statute are on the same plane in determining which provision governs. He also took issue with the presumption that the legislation acted with due respect to the constitution. He posited that in a number of instances, members of the legislature are not lawyers specially trained in addressing this concern. Since constitutional provisions are the "paramount law" of Ohio, they are superior to statutes. In his view, the better principle would be that doubt should be resolved in favor of the constitutional provision, as opposed to the validity of the statutory provision.
Justice Pfeifer also took issue with the idea that the provisions of Sections 3(C) and 13, being exclusions from taxation, had to be narrowly applied. In the constitution, the people voiced their disdain for any tax on the sale of food. Justice Pfeifer would broadly construe the provision to give effect to that expression of will.
Discussion To many who attended the oral argument, the result is not surprising. Perhaps presaging it decision, the members of the Court peppered counsel for the grocers during oral argument on two main points. The first was the distinction between a tax directly imposed upon an object, and a tax that is merely measured by that object. The second was the inability to see a direct tie between the amount of the tax and any individual sale.
The immediate implications of the decision are gratifying to state officials. Not only did they avoid having to grant refunds estimated to be in excess of $350 million, they also dodged an additional estimated $188 million hole in an already-stretched-thin budget.
In the longer term, the case has other implications. One pending case2 challenges the use of CAT proceeds derived from the business of selling petroleum products for general revenue purposes. This case likewise based much of its argument on the claim the CAT was a tax on sales of petroleum products, rather than a business privilege tax. While the decision in the Grocers case may not directly address the constitutional issues presented this case, there are similarities in the language that could have a bearing on the resolution of that case.
Similarly, the challenge to the economic nexus provisions of the bright line nexus standard brought by Overstock.com3 in part is based on the assertion the CAT is in the nature of a sales tax and subject to the physical presence requirement of Quill Corp.4. While that case implicates requirements under the federal constitution, the character of the CAT as a matter of state law has been determined in a manner that is not helpful to that plaintiff.