[Irwin (played by Robert Redford) and Enriquez are playing chess]
Irwin: Hmm, pretty good. You have checkmate in five moves. [moves a piece]
Enriquez: [pause] How come you're still playing if I have checkmate in five moves?
Irwin: 'Cause I have checkmate in three.
— Quoted from the motion picture The Last Castle (2001)
Hollywood actor, director, and producer Robert Redford filed suit against the New York State Department of Taxation (the Department) and Tax Commissioner Mattox in connection with an income tax deficiency the Department issued against him for nearly $1.6 million (Redford v. N.Y. Dept. of Taxation & Finance, No. 3974-14 (N.Y. Sup. Ct. Albany Cty. filed July 31, 2014)). This deficiency results from the pass through of gain on the sale of an indirectly owned business (the Sundance Channel) to Mr. Redford. Furthermore, taking the facts as stated on Mr. Redford’s petition as the facts, the Department accepted Mr. Redford’s position in a later tax year than the one in dispute with virtually the same factual background.
Perhaps Mr. Redford thought of lines such as the ones above from The Last Castle as he filed suit against the Department.
Factual background of case*
Mr. Redford is domiciled in Utah and is a nonresident of New York State. He owned Sundance T.V., Inc. (INC), a foreign corporation (not incorporated in New York State), which owned an 85.5 percent general partnership interest in Sundance Television Limited (Limited), a foreign limited partnership. INC elected S corporation status for federal and New York tax purposes.
Limited owned a 20 percent membership interest in Sundance Channel LLC (Channel), a New York limited liability company that is treated as a partnership for federal and New York tax purposes.
Neither INC nor Limited had any place of business, property, or employees in New York during the relevant periods. INC’s business activity was limited to holding of an interest in Limited with all of its activities being conducted from an out-of-state location. Limited’s business activity was limited to holding a member interest in Channel and receiving trademark revenues with all of its activities being conducted from an out-of-state location. Similarly, Mr. Redford did not use his ownership interest in INC, nor his indirect interest in Limited or Channel in any trade or business carried on by him in New York. In addition, Mr. Redford did not have any property, payroll, or receipts located in or deemed attributed to the conduct of a trade or business in New York.
In 2005, Limited sold a portion of its interest in Channel to an unrelated third party at a gain. This gain was passed through to the direct and indirect partners of Limited, including Mr. Redford through his interest in INC.
In INC’s 2005 corporate franchise tax return, it treated the gain from the sale of Channel as non-New York income. All other income, gain, loss, or deduction from Channel passed through to INC was reported on INC’s tax return and, accordingly, to Mr. Redford’s 2005 Nonresident New York State Income Tax Return. Mr. Redford’s share of the gain from the sale of the interest in Channel was included in his income tax return in his home state of Utah and fully taxed.
Subsequently, the Department audited the liability of Channel, Limited, INC, and Mr. Redford for tax year 2005. In 2014, the Department determined that Mr. Redford’s share of the gain from the sale of Channel was to be treated as New York source income and assessed him nearly $1.6 million in taxes and interest ($845,066 in taxes owed plus $727,404.24 in interest).
In 2008, the balance of the ownership of Mr. Redford’s indirect interest in Channel was sold to an unrelated third party at a gain. At some time prior to this sale, Limited liquidated its assets to INC, making INC the holder of the interest in Channel. Mr. Redford determined that the gain for his 2008 tax year with respect to the sale of Channel was also non-New York source income for purposes of filing his New York income tax returns. In a 2008 audit, the Department accepted Mr. Redford’s treatment of this gain as non-New York source income, a position seemingly inconsistent with its determination with respect to Mr. Redford’s 2005 tax year treatment of an analogous transaction.
Mr. Redford is opposing his 2005 tax year treatment on the basis that the application of the New York Tax Law to him is violative of Section 3 of Article XVI of the Constitution of New York. This section of the constitution imposes certain limitations on the state’s ability to tax property not used to carry on business in the state and imposes other caveats relating to domicile.
* Unless otherwise noted, all information pertains to the 2005 tax year as reported in Mr. Redford’s petition.
What to do if your business is audited or assessed
If your business or personal return is under audit by any taxing authority, retaining experienced representation can have several benefits, including:
- Presentation of the facts in the best possible manner
- Clarification of mistakes of fact by the tax authority, so as to avoid wholly erroneous assessments
- Representation of you as the primary point of contact; this redirects many of the disruptions to your business and/or personal life that a tax audit generally entails to this representative
- Familiarity with procedure of the taxing authority and presentation of your options (along with some estimation of cost, benefit, and likelihood of success of carrying out each option)
It is unclear whether Mr. Redford will be successful in his suit, but his situation is illustrative of many assessments and audits that occur every day for taxpayers who are business owners. In any event, each taxpayer should only pay his or her proper amount of tax to the correct authorities. However, in recent years, we have seen tax authorities become more aggressive both in enforcing the laws as well as in their interpretation of existing laws. As such, it is prudent to involve counsel at an early stage in order to ensure that you and your business are making informed decisions about how to report certain income and how to handle any tax audits.