When challenging an assessment, arguments can range from procedural to substantive. Perhaps the auditor miscalculated or failed to properly sample a taxpayer’s records. Alternatively, perhaps the auditor assessed on transactions that are not taxable under state law. While challenging the assessment directly is certainly the most straightforward approach to reducing a tax liability, another option may exist in states to challenge the taxing agency itself. By challenging an agency’s policy, the taxpayer may have an avenue to hold the department accountable when its methods for imposing tax are outside the scope of its authority. These challenges typically fall under a state’s equivalent of the federal Administrative Procedures Act. Unfortunately, the manifestations of these challenges are different from state to state and offer varying degrees of relief.
Interestingly, tax cases do not often take advantage of these administrative challenges. This is surprising when ambiguities in tax statutes are generally construed against the state,1 giving taxpayers an advantage in an arena that otherwise may offer deference to the agency. That is not to say, however, that these administrative challenges are easy. Regulations go through an extensive rule-making process. To have a challengeable action, either something was missed during that process, or the regulation never went through it in the first place. Some states, like Florida, refer to the latter as an “unadopted rule.”2 Unadopted rules are difficult to define when they are not spelled out in a formally adopted regulation, yet most typically apply generally and prescribe law in the same way as an “adopted” rule.
These violations of administrative procedure can be difficult to prove, and in some (if not most) cases will be vehemently fought by the applicable agency. When the facts are right, however, the litigation can not only resolve an issue for a particular taxpayer but also have important results for an entire industry or community. In this way, these actions can in some cases be comparable to administrative class actions against government agencies. This is particularly powerful when the agency’s policy is correct but failed to be properly adopted through the state’s rulemaking procedures. In Florida, for example, the agency must immediately discontinue all reliance upon a rule that is determined to be an “unadopted rule” in litigation: that means that any assessment based upon the rule must be withdrawn.3 Consequently, cases that may lose on the substantive tax issue can still potentially win on agency action challenges. Finally, some states provide substantial attorney’s fees as both a deterrence and consequence for agencies acting outside the scope of their authority.
II. State Agency Action Challenges
Most states have their own version of agency action challenges. The various forms of these statutes address the questions surrounding them in different ways. Who has standing to bring a challenge? What precisely can be challenged? To what extent must a petitioner attempt to resolve these issues within the agency (usually addressed by doctrines of exhaustion of remedies)? Who has jurisdiction over such cases? To what extent does a rule or agency action challenge overlap with an assessment case? Finally, should the agencies be held accountable for operating outside the scope of their authority by being forced to pay costs and attorney’s fees when they lose? The following is a sample of twelve states that highlights various approaches taken to tackle these questions.
Alabama statutes provide for declaratory judgments as to the validity or applicability of a rule along with stays of enforcement of rules by injunction.4 Such actions may be brought in circuit court and will be held in favor of the taxpayer if the court finds that the rule, or its threatened application, interferes with or impairs, or threatens to interfere or impair, the legal rights or privileges of the taxpayer.5
Great deference is given to agency interpretations of law although under no circumstances can the agency action supplant the legislature and state statutes.6 In fact, if an agency is interpreting its own rule, the interpretation only need be reasonable to be upheld, regardless of whether other, perhaps more reasonable, interpretations exist.7
California allows any interested person to obtain a judicial declaration as to the validity of any regulation by bringing an action for relief in superior court.8 The statute broadly states that a regulation or order of repeal may be declared invalid for any ground that may exist and allows for evidence items not included in the rulemaking file when used for the sole purpose of proving their omission.9 This is significant in that it allows taxpayers to challenge not only explicit rules, but also agency policies tantamount to rules and bring evidence of such policies into court.
The line between applying and interpreting laws is clarified in California with the “only legally tenable interpretation” exception.10 In short, if a department policy is the only reasonable interpretation and virtually just reiterates the law, then the agency does not need to go through rulemaking procedures. Further limiting challenges is the requirement that the regulation apply generally, rather than in a specific case, although the rule does not need to apply universally.11
Florida statutes allow for both rule challenges and “unadopted” rule challenges.12 For a rule challenge, the taxpayer must prove by a preponderance of the evidence that the existing rule is an invalid exercise of delegated legislative authority.13 Conversely, for an unadopted rule challenge, the taxpayer must present the text of the statement or a description of the statement and state facts sufficient to show that the statement constitutes an unadopted rule.14 The issue in such challenges centers on whether an agency has, by declaration or action, established a statement of general applicability that is a “rule” without going through the required public rulemaking process.15
Unlike states that allow for any interested person to challenge a policy, in Florida a challenger must be substantially affected by the policy. This may be because it is not just a declaratory judgment at stake in these cases. Florida explicitly provides for attorney’s fees when rules orunadopted rules are found invalid.16
Iowa allows for agency action challenges to obtain judicial relief only if the aggrieved or adversely affected taxpayer has exhausted all adequate administrative remedies and a final agency action would not provide an adequate remedy.17 The court may grant relief if the party is prejudiced because of a variety of agency actions, including a procedure or decision-making process prohibited by law or taken without following the prescribed procedure or decision-making process.18
Exhausting all adequate remedies is time consuming and expensive, but the Iowa Supreme Court has found irrelevant whether it would be futile to ask an agency to reverse its own prior decision.19 Instead, without evidence to the contrary, it is to be assumed that agencies will conduct declaratory order proceedings in an unbiased, professional manner.20
Maryland offers in its administrative procedures act a declaratory judgment on the validity of any regulation.21 The court will find the regulation invalid in three circumstances: (1) the provision violates the U.S. or Maryland Constitution; (2) the provision exceeds the statutory authority of the agency; or (3) the agency failed to properly adopt the provision according to statutory requirements.22
Unlike the more burdensome versions of these statutes, Maryland’s does not require a taxpayer to exhaust all remedies within the agency. In fact, a taxpayer does not even have to wait until a regulation is enforced against it to initiate an action for declaratory judgment.23 However, Maryland’s declaratory judgments are not available to resolve questions that are moot or may never arise.24 From a practical perspective, this means that if the agency withdraws its assessment, the pending declaratory action may be deemed moot.
Michigan offers a declaratory judgment as to the validity of an applicable rule when no procedure or remedy is provided by a statute governing the agency.25 Prior to filing under the statute in circuit court, a challenging taxpayer must first request that the agency make a declaratory ruling and the agency must either deny that request or fail to act upon the request in an expeditious manner.26 Unlike other states, which broadly allow for the challenge of agency policies, the Michigan statute only explicitly identifies rules as the type of agency action challengeable as to validity or applicability.27
In determining whether a rule is invalid, Michigan applies a three-part test which determines: (1) whether the rule is within the matter covered by the enabling statute; (2) whether it complies with the underlying legislative intent; and (3) whether it is arbitrary or capricious.28 Regarding the third part of the test, if there is any doubt as to the invalidity of a rule based upon that ground, the agency is given deference and the rule will be upheld.29
In Minnesota, the validity of any rule may be challenged with a petition for declaratory judgment.31 The challenge may be brought not only when the rule is applied, but also when it is threatened to be applied or threatens to interfere with or impair the rights or privileges of a taxpayer.32 Like Florida, Minnesota also has a statute addressing challenges of unadopted rules.33 Such challenges allow for administrative law judges to determine whether an agency is enforcing or attempting to enforce a policy, guideline, bulletin, criterion, manual standard, or similar pronouncement as though it were a duly adopted rule.34
Also like Florida, Minnesota provides for costs. Rather than setting a limit to attorney’s fees, the Minnesota statute provides that the agency is liable for all Office of Administrative Hearings costs associated with review of a petition unless the judge rules in favor of the agency.35 Even if the taxpayer loses the case, however, the taxpayer may not have to pay costs if certain circumstances exist.36 In determining whether an unadopted rule exists, the courts will consider whether an agency has interpreted the statute in accordance with the statute’s plain meaning, in which case the agency will be deemed not to have promulgated a rule.37
Mississippi statutes allow for the challenge of a rule adopted without complying with the rulemaking requirements.39 The only noted exception in the statute is for inadvertent failure to mail notice of proposed rule adoption to those required by the statute: failure to mail notice does not, on its own, invalidate a rule.40 Unlike other states, Mississippi has a limitation of one year after the effective date of a rule to challenge the rule.41
A Mississippi court will hold a rule to be invalid when it finds that it: (1) is unsupported by substantial evidence; (2) is arbitrary or capricious; (3) was beyond the scope of the agency’s authority; or (4) violated some constitutional or statutory provision.42 As a result, while agencies do have authority to interpret the statutes under which they operate, they will be held accountable for conflicts with other law.43
Nevada allows for declaratory judgments to determine the validity or applicability of regulations when it is alleged that the regulation, or its proposed application, interferes with or impairs, or threatens to interfere with or impair, the legal rights or privileges of a taxpayer.45 While the regulation need not have been applied to a taxpayer for the taxpayer to have standing, the taxpayer must first request that the agency verify the validity of the regulation in question before it can be challenged in court.46 Interestingly, Nevada allows for agencies to submit an action for declaratory judgment regarding their own regulations.47
Nevada case law acknowledges that policies are merely an agency’s interpretation and do not hold the legal force of a regulation.48 When an interpretive ruling affects other market participants to such an extent that it appears to be of general applicability, however, the ruling is treated as a regulation subject to challenge under the statute.49 If a challenger of a policy or rule fails to first request the agency to pass upon the validity of the regulation in question, then the courts cannot dismiss for lack of subject matter jurisdiction but must instead address whether the challenger properly exhausted administrative remedies.50
Oregon provides for the determination of validity of any rule upon the petition by any person to the Oregon Court of Appeals.52 There is no requirement in Oregon for a challenging taxpayer to first request the agency to pass upon the validity of the rule in question.53 The court will not have jurisdiction to assess the validity of a rule if the same petitioner is a party to a contested case in which the validity of the rule could be determined by another court.54 Oregon will declare the rule invalid if it: (1) violates constitutional provisions; (2) exceeds the agency’s authority; or (3) was adopted without following the appropriate rulemaking procedures.55 In making its determination, the Court of Appeals is limited to the wording of the rule itself, read in context, and the statutory provisions authorizing the rule.56
At the discretion of the court, Oregon allows for the award of costs and reasonable attorney fees, paid from the funds available to the state agency, if the court finds in favor of the taxpayer and determines that the agency acted without a reasonable basis in fact or law.57 Special circumstances may also prevent a taxpayer from receiving all or part of the attorney fees.58
Except in certain circumstances, Texas permits a declaratory judgment action addressing the validity or applicability of a rule only in a Travis County district court.60 Texas explicitly allows for the challenge of emergency rules and does not require that the challenging taxpayer request the agency to rule on the validity or applicability of the rule in question.
Texas statutes keep distinct the challenges of declaratory judgments and judicial reviews.61 Whereas actions for declaratory judgment do not require that a taxpayer exhaust all remedies within the agencies, actions for judicial review do require exhaustion. While the line between the two can be quite ambiguous at times, Texas case law is clear that declaratory judgments are not appropriate for bringing a rule challenge claim when the claim seeks relief from a specific tax assessment.62 In other words, a taxpayer must file a separate action to challenge a substantive tax assessment and cannot avoid the requirement of exhausting remedies through the agency by filing instead for a declaratory judgment.
Washington provides for a petition for review by a rules review committee (within the state tax department) of proposed or existing rules, or proposed or existing policies or interpretive statements, guidelines, or documents that are of general applicability, or their equivalent.64 Statements, guidelines, or documents of general applicability may only be contested under this provision for the purpose of determining whether the item in question is being treated as a rule without being properly adopted in accordance with the statutory requirements.65 In addition to a petition for review before the rules review committee, taxpayers may petition for a judicial review of rules.66 In a judicial review, courts will follow the standards for determining validity that are explicitly listed in the statute for challenges of rules, agency orders in adjudicative proceedings, and other agency actions.67
As in other states, a taxpayer must first petition the agency to amend or repeal the rule and that petition must be denied before a judicial review is permitted In a least one Washington case, however, a petitioner was able to add a challenge which had not exhausted all agency remedies to a case with a separate issue which had exhausted all such remedies.68 Specifically, when the Washington State Liquor and Cannabis Board denied a petition to repeal all rules promulgated as a consequence of Initiative Measure 502(1-502), a taxpayer was able to appeal not only that denial, but also an additional challenge to the validity of those rules even when the challenge to the validity of those rules had not first been challenged within the agency.69
Half of the sampled states in this article proposed bills in 2017 to alter their statutes allowing for challenges of agency actions. The year of considering an amendment is the only thing these proposed bills have in common. Oregon proposed a de novo standard of review, but Texas proposed allowing a state agency to challenge a rule of another state agency. Mississippi proposed legislation that sought to resolve ambiguities against the agency.
States are clearly struggling in a variety of ways to determine the scope of and procedure for these challenges. Nonetheless, agency action challenges can offer a unique opportunity to taxpayers. These challenges, if permitted and done well in the particular case, can end policies that affect large groups of taxpayers and, in some states, even offer attorney’s fees and costs to the prevailing party. Perhaps most significantly, they can offer relief even when an underlying substantive tax case cannot. ■
6 Pleasure Island Ambulatory Surgery Ctr., LLC v. State Health Planning & Dev. Agency, 38 So. 3d 739 (Ala. Civ. App. 2008).
7 Health Care Auth. of Athens & Limestone Cty. v. Statewide Health Coordinating Council, 988 So. 2d 574, 581 (Ala. Civ. App. 2008).
11 Californians for Pesticide Reform v. Cal. Dep't of Pesticide Reg., 109 Cal. Rptr. 3d 428 (Ct. App. 2010).
15 Fla. Quarter Horse Track Ass’n, Inc. v. Dep’t of Bus. & Prof’l Reg., 133 So. 3d 1118 (Fla. 1st DCA 2014).
27 Yellow Freight Sys. Inc. v. State of Mich., 585 N.W.2d 762, 764 (Mich. Ct. App. 1998), rev'd, 627 N.W.2d 236 (Mich. 2001), rev'd sub nom. Yellow Transp., Inc. v. Michigan, 537 U.S. 36, 123 S. Ct. 371, 154 L. Ed. 2d 377 (2002).
30 On May 9, 2017, the Governor vetoed a bill which adjusted Minn. Stat. Ann. Sec. 14.44. to include a provision allowing challenges regardless of whether a petitioner had petitioned the Office of Administrative Hearings and require an agency to immediately cease reliance of certain policies if challenged until the Court of Appeals rules on the matter. 2017 Minn. Sen. File No. 605, First Reg. Sess., 90th Legis. Sess.
36 Id. For example, if the taxpayer is entitled to proceed as forma pauperis or the judge determines that the petition was brought in good faith and that an assessment of the costs would constitute an undue hardship, then the agency may not recover all or a portion of the costs from the taxpayer.
37 Cable Commc'ns Bd. v. Nor-West Cable Commc'ns P'ship, 356 N.W.2d 658, 667 (Minn. 1984); Faribault Cty. v. Minn. Dep't of Transp., 472 N.W.2d 166, 170 (Minn. Ct. App. 1991). Note that “plain meaning” is itself a contested term, since any court discussion of whether the statute has a plain meaning substantiates a claim that the statute itself is ambiguous.
38 A proposed bill died early in 2017 but attempted to add the following provision to Miss. Code Ann. sec. 25-43-3.111: (3) Administrative agencies shall have no inherent, general, or common-law powers, and shall only exercise the powers conferred on them by statute or by the federal or state constitutions. This chapter shall be narrowly construed as it applies to agency powers, and any doubt as to the existence of the extent of such powers conferred on an agency shall be resolved against the agency, unless the agency has met the burden of providing clear and convincing evidence that it is acting within its authority and that the rule is necessary to secure the health, safety or welfare of the public. 2017 Miss. Sen. Bill No. 2554, 132nd Legis. Sess.
44 Nevada also had proposed legislation in 2017 to amend Nev. Rev. Stat. Ann. sec. 233B.110 to add a fourth part to the section stating that “4. Nothing in this section shall be construed to limit the authority of the Legislative Commission to suspend or nullify a regulation pursuant to Section 1 of Article 3 of the Nevada Constitution and NRS 233B.0395 to 233B.120, inclusive, and sections 10 and 11 of this act.” 2017 Nev. Assembly Bill No. 403, 79th Reg. Sess.
48 See generally Nev. State Democratic Party v. Nev. Republican Party, 256 P.3d 1, 6–7 (Nev. 2011).
50 Dunning v. State Bd. of Physical Therapy Exam'rs, No. 67322, 2016 Nev. LEXIS 483 (2016).
51 Oregon proposed adding a de novo standard of review on the below referenced administrative challenges. 2017 Or. Sen. Bill No. 587, 79th Legis. Assembly.
59 In 2017, a Texas House bill proposed adding the following to Tex. Gov't Code Ann. sec. 2001.038: (a-1) A state agency may challenge the validity or applicability of a rule proposed or adopted by another state agency in an action for declaratory judgment brought under this section only if the attorney general gives written approval authorizing the state agency to file the action. 2017 Tex. House Bill No. 784, 85th Legis.
62 Office of Comptroller of Pub. Accounts v. Farshid Enters, L.L.C., No. 03-16-00291-CV, 2017 WL 1404731, at *6 (Tex. App. 2017), petition for review denied 2017 Tex. LEXIS 1025 (2017); Combs v. Entm’t Publ'ns, Inc., 292 S.W.3d 712, 723–24 (Tex. App. 2009).
63 A proposed bill in 2017 adds the following line to Wash. Rev. Code Ann. sec. 34.05.655(1):
Upon filing of the petition with the committee and service of the petition upon the agency, all promulgation, implementation, enforcement, and amendment of the proposed or existing rule, policy, interpretive statement, guideline, or document is stayed pending final conclusion of the rules review process.