Multistate Tax Update - January 22, 2015

Ohio: Supreme Court hears oral arguments in the first of two jock tax challenges

The Tax Foundation defines a "jock tax" as the state and local tax burden that authorities levy against visiting professional athletes and other traveling business professionals. Some states include visiting musicians, lawyers, and even touring skateboarders in that category. Generally, a jock tax requires the visitor to pay income taxes in every state in which he or she earned income.

Two allocation methods

The current case before the Ohio Supreme Court (the Court) is Hillenmeyer v. City of Cleveland Board of Review. Hillenmeyer, a former linebacker for the Chicago Bears, argues that the City of Cleveland’s method for allocating income to non-resident professional athletes for tax purposes is contrary to statutory and case law and also violates both the Ohio and United States Constitutions.

Hillenmeyer contends Cleveland’s "games played" method results in an unfair apportionment of income. The "games played" method calculates an athlete’s tax liability based on the portion of games that the athlete's team plays in the jurisdiction relative to the total number of games that the team plays during the year.

Instead, Hillenmeyer asserts that Cleveland should follow the "duty days" method, which allocates a visiting athlete’s income based on the portion of the days that the athlete actually performs service in Cleveland relative to the number of days on which the athlete performs service for his employer during the year. In other words, Hillenmeyer says he should be taxed based on the portion of time that he—not his team—spent playing football in Cleveland.

The oral argument

The crux of Hillenmeyer’s legal position is that the "games played" scheme unlawfully taxes income earned for services performed outside the state of Ohio. During oral arguments, one issue that several justices pursued was whether the judiciary has the authority to tell the City of Cleveland how to tax people in the first place. Implicit in Hillenmeyer’s argument is that the judiciary can decide what constitutes a reasonable tax method; Hillenmeyer wants the court to conclude that the current system is unlawful and should be replaced by the "duty days" method.

On the other hand, the City of Cleveland argues that its taxing method is a local matter and the law only requires that it be “reasonably related to the income producing activity in the taxing jurisdiction.” Further, counsel for the city argued that Cleveland applies its method uniformly.

Implications

The amount in controversy for Hillenmeyer is de minimis; he only played one game per year in Cleveland for the three years (2004-2006) at issue. If he prevails, he would be entitled to a refund of about $6,000. Even so, as evident in a line of questioning from the Chief Justice, the principal at issue affects professional non-resident athletes in other sports and entertainers as well. Hillenmeyer’s counsel opined that when the entertainer earns wages as an employee over the course of a season, he or she is like an athlete. Under that scenario, the "duty days" method Hillenmeyer advocates should apply.

Though the outcome of the litigation remains uncertain, the fact that all other municipalities which have a local income tax, including Pittsburgh and Columbus, use the "duty days" method may bode well for Hillenmeyer. A decision is expected in several months.

Michigan: Governor signs numerous tax related bills

Gov. Snyder recently signed numerous bills designed to raise revenue for transportation funding and capture revenue lost from consumers’ failure to pay sales and use taxes associated with their online purchases.

Transportation funding

A 10-bill package that Gov. Snyder signed last week will boost road and school funding, according to the Detroit Free Press. The package is contingent upon voter approval of a May 5, 2015, ballot initiative that would amend the state constitution to increase the sales and use taxes from six percent to seven percent, and result in an estimated $1.2 billion a year to spend on roads and $300 million a year to spend on K-12 schools.

In addition, the plan directs $100 million more toward transit and local governments, and fully restores the cuts made in 2011 to the state's Earned Income Tax Credit.

Here are some of the key provisions contained in the series of bills:

• Increase the maximum sales tax rate from six percent to seven percent, and exempt the sale of gasoline or diesel fuel from the sales tax, beginning Oct. 1, 2015 (HB 4539);
• Increase the maximum use tax rate from six percent to seven percent, and exempt the sale of gasoline or diesel fuel from the use tax, beginning Oct. 1, 2015 (HB 5492);
• Exempt motor fuel from the sales and use tax, dedicate a greater portion of the sales tax to the School Aid Fund, and increase revenue sharing (HJR UU);
• Increase registration fees for vehicles powered “partially, predominately, or solely” by electricity and establish a sunset on the discount that vehicles of the model year 1984 or later receive on their registration fees (HB 4630);
• Subject local road agencies to bidding requirements similar to those that apply to the Michigan Department of Transportation (MDOT); require the MDOT to condition payment of new or renewed road maintenance contracts on performance outcomes; and subject MDOT and local agencies to annual reporting requirements pertaining to maintenance services and contract processes and performance (HB 5167); and
• Require the MDOT to obtain warranties for either full replacement or appropriate repairs for projects exceeding $1 million and undertaken after the effective date of the bill; allow cities to allocate up to 20 percent of the money received for public transit purposes if more than 10 million passengers used public transportation in that city in the previous fiscal year (HB5460).

The Tax Foundation released estimates of the revenue impact of some of these bills. They estimate that increasing the sales tax would boost revenue by $1.34 billion, while exempting motor fuel from the sales and use tax would decrease revenue by $752 million.

Gov. Snyder also signed 14 Senate bills, which address a variety of matters, including appropriating $40 million of the School Aid Fund to the At Risk program (SB 80), delaying the sunset on the deposit of tobacco settlement revenue into the 21st Century Jobs Trust Fund (SB 269), and exempting property, income, and operations of a street railway from taxation (SB 696 and 697).

Online sales tax collections

Included in the bundle of Senate bills are two pieces of legislation, SB 658 and 659. Collectively known as the Main Street Fairness Bill (Fairness Bill), the bills create a rebuttable presumption of a nexus between online retailers and the state of Michigan for purposes of sales tax collection.

The Fairness Bill is set to take effect on Oct. 1, 2015. It amends the General Sales Tax Act of 1933 by requiring certain online sellers to collect a six percent sales tax on consumer purchases. Retailers that wish to avoid collection of sales tax can rebut the presumption of significant nexus with Michigan by establishing that the sales activity is not “significantly associated with the seller's ability to establish or maintain a market in Michigan.”

As we observed during the holidays, Michigan and other states reminded consumers that their online holiday purchases were subject to taxes. They did so because use tax compliance in most jurisdictions is voluntary, resulting in the loss of millions of tax revenue dollars each year. Thus, lawmakers have an incentive to enact laws like the Fairness Bill, compelling the collection of sales taxes.

The Detroit Free Press reported that the legislation “could generate around $50 million a year from Amazon, Overstock, eBay and other internet retailers with a nexus to Michigan.” Supporters, like the Michigan Retailers Association, applaud the move as “good for Michigan's economy, good for our local communities, good for our consumers and good for our retail businesses,” because it removes the advantage that out of state retailers enjoy, who do not invest, create jobs, pay taxes, or otherwise support local communities in Michigan.

The Detroit Free Press recognized that there is no specific link between the Fairness Bill and the road funding bills described above, but that “talk of boosting funding for transportation and education in the negotiations gave the so-called Amazon bills a boost.”

The American Booksellers Association pointed out that Michigan’s Treasury Department has estimated that $445 million in sales and use tax revenue from remote purchases went uncollected in 2014, nearly two-thirds of it from e-commerce. Beyond Michigan, 28 other states have passed legislation addressing the collection of sales taxes by remote retailers.

The estimated state tax impact of the Keystone XL Pipeline

Background

As depicted in this map from The Washington Post, the TransCanada Keystone Pipeline currently starts at the southern tip of the tar sands in Hardisty, Canada, veers east and enters the United Sates near Winnipeg. It continues straight down the middle of the country, through North Dakota, South Dakota, Nebraska, and Kansas, terminating in Cushing, Oklahoma.

The proposed TransCanada Keystone XL Pipeline (XL), the 875 mile route, adds to the existing pipeline with a direct crude oil transport route from Hardesty to Steele City, Nebraska which sits on the border with Kansas.

Property, sales, and excise taxes

Around this time last year, the State Department issued an impact statement assessing the projected collection of state and local taxes, among many other things. According to the executive summary, the impact statement estimated that during construction, project spending would generate approximately 3,900 direct construction jobs for one to two years in Montana, South Dakota, Nebraska, and Kansas. Once the pipeline is operational, it is expected to require about 50 workers, with 35 being permanent but some of whom may be located in Canada.

During construction, TransCanada would provide temporary housing in the form of construction camps: four in Montana, three in South Dakota, and one in Nebraska. There would also be local accommodations in central and southern Nebraska. The State Department estimated that these eight construction camps would generate the equivalent of one full year of property tax revenue, or about $4 million in total, for the counties in which they would be located.

In addition, the residents of the camps would generate revenue from sales and excise taxes, except in Montana which does not have a sales tax. This includes taxes from construction materials and construction worker spending in the local economy for basic living expenses like food, housing, gas, and entertainment. Because these workers are temporary, the revenue they generate would last only as long as the construction, which is estimated to be one to two years. That said, estimates of ongoing property taxes that county governments, school districts, and others would collect for the proposed pipeline facilities are sizeable, approaching $60 million.

The Tax Foundation estimated the impact of these various taxes during and after construction by state and summarized below:

 

	During Construction	Post Construction
Property Tax Collections	Montana: $2.147 million South Dakota: $1.325 million Nebraska: $0.49 million TOTAL: $3.96 million	Montana: $26 million South Dakota: $17.9 million Nebraska: $11.8 million TOTAL:  $55.7 million
Sales and Excise Tax Collections	Montana: No sales tax South Dakota: $46.5 million Nebraska: $16.5 million Kansas: $3 million TOTAL: $66 million	N/A

Conditions for construction

Two things are required in order for XL to become reality, one of which already occurred. First, the Nebraska Supreme Court (the Court) needed to decide the case Thomson v. Heineman. The dispute in Thomson concerned which entity had the authority to determine a pipeline carrier’s route. On a technicality, the court struck down a Nebraska law that granted this authority to the governor. In so doing, the court upheld the route proposed by TransCanada Keystone Pipeline, LP.

Second, there must be a federal law enacted, approving of the construction project. Such a bill is making its way through Congress now. On Jan. 9, 2015, the House of Representatives completed its work and approved the bill with a 266 to 153 vote in favor of construction. The bill moved on to the Senate, which voted 63-32 to begin debate. Even if the legislation eventually goes to President Obama, The Huffington Post reports that the president promised to veto it, making passage contingent upon the Senate’s ability to override that veto.

For additional information regarding these subjects, or any other multistate tax issues, please contact:

David M. Kall
216.348.5812
dkall@mcdonaldhopkins.com

David H. Godenswager, II
216.348.5444
dgodenswager@mcdonaldhopkins.com

Susan Millradt McGlone
216.430.2022
smcglone@mcdonaldhopkins.com

Multistate Tax Services

Businesses must be vigilant and careful in managing their state and local tax liabilities and exposures. We understand this can be a daunting task. McDonald Hopkins Multistate Tax Services provides a broad range of state and local tax services including tax controversy, tax evaluation, tax planning, and tax policy. With professionals who have worked both inside and outside government agencies, our multistate tax team leverages its knowledge and experience to help clients control their complex multistate taxes.