On February 28, 2017, the Michigan Department of Treasury (the Department) issued a Notice to Taxpayers (the Notice) explaining its approach in administering the now final Michigan Court of Appeals decision in LaBelle Management, Inc. v. Department of Treasury, 888 N.W.2d 260 (Mich. Ct. App. 2016), leave to appeal denied by 889 N.W.2d 250 (Mich. 2017) (mem.) (LaBelle). The Court invalidated the Department’s position of indirect ownership rules for purposes of determining whether companies are more than 50% owned and included in a unitary business group under the Michigan Business Tax (MBT). According to the Notice, the Department will apply LaBelle retroactively and expects taxpayers to make corrective filings for all open tax years for purposes of both the MBT and the Michigan Corporate Income Tax (CIT).
Michigan’s Definition of “Unitary Business Group”
The MBT, which was repealed for most taxpayers effective for tax years ending after December 31, 2011, and the CIT each impose mandatory unitary combined returns for entities that are included in a unitary business group. Mich. Comp. Laws §§ 206.611(5), 206.691(1), 208.1117(5), 208.1511. A “unitary business group” includes entities that are greater-than-50-percent commonly owned or controlled, directly or indirectly, and are engaged in a unitary business. Mich. Comp. Laws §§ 206.611(6), 208.1117(6). Neither the MBT nor the CIT define “indirect ownership.” In published Revenue Administrative Bulletins, the Department interpreted indirect ownership to include “ownership through attribution,” or constructive ownership, similar to that required by Section 318 of the Internal Revenue Code (IRC). Mich. Dept. of Treasury Revenue Admin. Bulletin No. 2010-1, at 7-9 (Feb. 5, 2010) (applicable to the MBT), Mich. Dept. of Treasury Revenue Admin. Bulletin No. 2013-1, at 6-9 (Jan. 7, 2013) (applicable to the CIT).
The Court of Appeals’ Decision in LaBelle
In LaBelle, taxpayers challenged the Department’s application of Section 318-type attribution to find common “indirect ownership” under the statutory definition of a “unitary business group” contained within the MBT. Specifically, the taxpayer disputed whether two related corporations and a limited partnership, none of which owned more than 50 percent of any other entity, through an intermediary or otherwise, constituted a “unitary business group.”
Reversing the trial court, the Michigan Court of Appeals held that “indirect ownership” for purposes of determining membership in a unitary business group means ownership through an intermediary and does not include “ownership by operation of legal fiction,” such as the indirect attribution rules of the IRC. As a result, the Court of Appeals narrowed the scope of membership in MBT unitary business groups to only those members whose inclusion is based on a direct “parent-subsidiary” chain of ownership or control.
Subsequently, the Court of Appeals issued a stay of its decision until the Department’s appeal rights were exhausted. On January 24, 2017, the Michigan Supreme Court denied the Department’s application for leave to appeal, thus rendering the Department’s appeal rights exhausted and making the Court of Appeals decision final.
The Department’s Notice Explaining the Impact of LaBelle
According to the Notice, after LaBelle, membership in a unitary business group cannot be based on a “brother-sister” relationship or by a “mere” custodial or possessory interest. Consequently, portions of the Department’s Revenue Administrative Bulletins have been rescinded and taxpayers affected by LaBelle are required to correct their filings for all open years to conform to the decision.
Eversheds Sutherland Observation: Michigan generally applies a four-year statute of limitations on refunds and assessments. Mich. Comp. Laws §§ 205.27a(2)-(4). However, Michigan calculates the period of limitations for refunds differently from the period of limitations for assessments. Notably, the Department must assess generally within four years from the later of the “date set for the filing of the required return or the date the return was filed,” while taxpayers must file claims for refund within four years of the date set for the filing of an original return. Mich. Comp. Laws § 205.27a(2). Taxpayers should note this disparity when evaluating what years are open for purposes of correcting their unitary business group filings.
The Notice specifically provides the following:
- Where LaBelle has resulted in a change in unitary business group membership, but has not changed the designated (filing) member of the group, the designated member must file amended returns for all open years “including on the returns only those members that meet the control test under LaBelle.”
- Where an entity is no longer eligible for membership in a unitary business group, that entity must evaluate whether they qualify for membership in a different unitary business group or have nexus with Michigan on a stand-alone basis. If an entity either needs to change unitary groups or file on a stand-alone basis, the Notice indicates the Department will view entities with changed unitary business group affiliation (either as a member of a new group or as a stand-alone filer) as a non-filer for purposes of the MBT and CIT for years in which the taxable person filed under the now-rescinded portions of the Department bulletins.
Eversheds Sutherland Observation: According to the Notice, the Department will require only original or amended returns and will assess only underpayment of tax for “non-filers” for periods open under the statute of limitations provisions of Section 205.27a(2). Section 205.27a(2) includes not only the general four-year statute of limitations for refunds and assessments, but also includes an unlimited period of assessments for previous non-filers. Thus, by the letter of the Notice, the Department could potentially assess any deemed non-filer for any year in which the deemed non-filer was subject to either the MBT or CIT without regard to the general four-year statute of limitations.
- Corrected filings resulting from LaBelle will not be subject to penalties and the Department will waive interest for returns filed by December 31, 2017.
Eversheds Sutherland Observation: The Notice’s pronouncement that taxpayers impacted by LaBelle will not be subject to penalties is consistent with Michigan law that prohibits the Department from penalizing taxpayers for relying on a published Revenue Administrative Bulletin issued after September 30, 2006, until the bulletin is revoked in writing. Mich. Comp. Laws § 205.6a(1). It is not entirely clear, however, as to whether the prohibition applies only to statutory penalties or also to additional tax and interest. Legislative analysis suggests that Mich. Comp. Laws Section 205.6a(1) was intended to address concerns associated with the Department’s inherently unfair “bait and switch” approach—i.e., the Department assuring taxpayers that one approach was acceptable, then retroactively assessing tax and interest against taxpayers that, relying on that written advice, followed the approach that was subsequently rendered invalid. Mich. H. Fiscal Agency Tax Policy Comm., Legis. Analysis Rep.: Jobs Provider B. of Rights, at 3-7, 11 (Dec. 6, 2005); see also J.W. Hobbs Corp. v. Dept. of Treasury, 706 N.W.2d 460, 466 (Mich. Ct. App. 2005); Int’l Home Foods, Inc. v. Dep’t of Treasury, 708 N.W.2d 711 (Mich. Ct. App. 2005), rev’d without analysis by 725 N.W.2d 458 (Mich. 2007) (mem.).