Note: The following is an excerpt from the introduction to the article as published in The Tax Lawyer. Author citations have been omitted for brevity. Tax Section members may read the article in its entirety in Adobe Acrobat format.
The “States” of the Federal Common Law Tax Doctrines
Jeffrey C. Glickman and Clark R. Calhoun*
On May 17, 2006, many of the nation’s leading state tax practitioners and scholars gathered at Georgetown University Law Center for the first annual State and Local Tax Symposium, co-sponsored by Georgetown University Law Center CLE and the American Bar Association Tax Section’s State and Local Tax Committee. The Symposium was titled “SALT and Tax Shelters—Policy, Practices and Problems,” and it featured presentations and discussions focused on understanding the nature of state tax shelters—or more appropriately, state tax planning—and the states’ attempts to combat them.
Over the years, states have developed many alternative methods of attacking what they believe to be impermissible tax planning by businesses. These methods include:
- forced combined reporting;
- alternative nexus theories;
- expense disallowance rules (for example, add-back statutes);
- throwback and throwout rules;
- 482-type provisions;
- use of alternative apportionment formulas;
- return reporting and disclosure requirements;
- increased penalties;
- voluntary disclosure programs; and
- use of federal judicial anti-avoidance doctrines (also known as federal common law tax doctrines—that is, economic substance, step transaction, sham transaction, substance over form, and business purpose).
This Article focuses on states’ attempts to apply the federal anti-avoidance doctrines to state tax transactions.Since 2000, there has been considerably more activity in this area at the federal level; thus, it should not be surprising that states have similarly become more aggressive in their attempts to apply these doctrines to undo the state tax benefits of business transactions. Speaking at the American Bar Association Tax Section’s State and Local Tax Committee meeting in Washington, D.C. on April 30, 1999, Peter Faber, a partner with McDermott Will & Emery, predicted an increased use of these doctrines at the state and local tax level, stating: "My sense is that the federal common law of taxation is coming to state taxation. I think we’re going to see more of this in the state and local tax arena. Once the state tax department starts doing it, they will mention it at FTA [Federation of Tax Administrations] meetings and so forth and everyone will do it."
There is no question that, in the last several years, states have aggressively attempted to eliminate a taxpayer’s ability to minimize or to eliminate its state tax burden in ways viewed by the states as frustrating the intent of their tax statutes, including applying these federal common law tax doctrines to various types of business transactions. As one might suspect, this has become another area where states have created inconsistencies among themselves. Not surprisingly, individual states have been guilty of inconsistent application within their own jurisprudence.
The goal of this Article is to provide tax professionals with a better understanding of the application of these federal tax doctrines at the state level. Part II provides a brief overview of the doctrines at the federal level. Part III.A summarizes recent congressional attempts to codify the economic substance doctrine and several successful efforts by states to address these doctrines in their statutes and regulations. Part III.B examines state administrative guidance and judicial opinions with regard to these doctrines in the corporate income tax, transaction tax (that is, sales-use and real estate transfer taxes), and property tax areas. Particular emphasis is given to the context in which the doctrines were and were not applied. Finally, Part IV provides some concluding thoughts for professionals who regularly find themselves providing transactional tax advice or who are called upon to issue legal opinions (whether or not for purposes of satisfying the financial reporting requirements for income tax reserves pursuant to FASB Interpretation 48 (FIN 48) or other financial accounting purposes) on the ability of a taxpayer to achieve a desired state tax result from a particular business transaction.
*Alston & Bird LLP, Atlanta, Georgia