Michigan Department of Treasury explains impact of LaBelle Management
Michigan Court of Appeals grants stay of enforcement
TAX ALERT |
UPDATE: On May 11, 2016, the Michigan Department of Treasury updated its guidance regarding the Department’s treatment of the LaBelle Management decision in light of the Michigan Court of Appeals’ recent order to stay the effect of the decision until exhaustion of the Department’s appeal rights. According to the updated guidance, the Department will not treat the decision as binding precedent until the stay is lifted. It is noteworthy that, on May 16, 2016, the Michigan Court of Appeals denied the Department’s motion for reconsideration. It is presumed that the stay order will remain in effect until the Department appeals to the Michigan Supreme Court or the time to appeal is run. Taxpayers considering filing amended returns based on the LaBelle Management decision should be aware that litigation of the issue is not final and refunds will not be paid at this time.
On May 4, 2016, the Michigan Department of Treasury issued a notice regarding the Michigan Court of Appeals’ ruling in LaBelle Management Inc v Department of Treasury, indicating that the court’s decision to invalidate the state’s use of constructive ownership principles when determining which entities to include in a unitary business group for Michigan Business Tax (MBT) purposes was binding on the department and would be applied to all open tax years. Subsequently, on May 5, 2016, the Michigan Court of Appeals issued an order, granting the department’s motion it stay the effect of the court’s decision until all appellate rights granted to the department are exhausted.
For MBT purposes, MCL 208.1117(6) defines the term unitary business group as “a group of United States persons, other than a foreign operating entity, 1 of which owns or controls, directly or indirectly, more than 50% of the ownership interest with voting rights or ownership interests that confer comparable rights to voting rights of the other United States persons, and that has business activities or operations which result in a flow of value between or among persons included in the unitary business group or has business activities or operations that are integrated with, are dependent upon, or contribute to each other.” Pursuant to RAB 2010-1, it was the position of the department that indirect ownership could be determined utilizing constructive ownership principles. Accordingly, the requisite ownership in an entity could be found to exist via attribution between a person and his or her spouse, children, adopted children, grandchildren and parents.
In LaBelle Management, at issue were three entities: Pixie, Inc. (PI), LaBelle Management, Inc. (LMI), and LaBelle Limited Partnership (LLP). PI, a Michigan corporation, was primarily owned by two brothers, neither of whom owned more than 50 percent of PI’s common stock. LMI, a Michigan corporation, was originally the subsidiary of PI, but in 2008 was transferred to the two brothers, neither of whom owned more than 50 percent of LMI’s common stock. LLP, a Michigan limited partnership, was formed by the two brothers with each holding a 49 percent limited partner interest and a 1 percent general partner interest. Subsequent to the formation of LLP, the brothers transferred some of the limited partner’s interests to their children.
In their MBT returns for 2008 and after, PI, LMI and LLP filed on a separate entity basis. The department conducted an audit, and determined that, pursuant to the department’s guidance in RAB 2010-1, the three entities were members of a unitary business group and were required to file on a combined basis. The department issued an assessment against LMI, which paid the assessment under protest and commenced a lawsuit in the Michigan Court of Claims.
Because no one person owned more than 50 percent of PI, LMI and LLP, at issue before the Michigan Court of Appeals was whether indirect ownership could be established by the constructive attribution of ownership between family members. After finding that Michigan law did not define indirect ownership for the purposes of MCL 208.1117(6), the court turned to sections 957 and 958, which concern the treatment of controlled foreign corporations, and determined that indirect ownership can be established constructively via attribution between family members. LMI appealed to the Michigan Court of Appeals, which reversed the decision of the Michigan Court of Claims and held in LMI’s favor on the grounds that the Code was not controlling and the plain meaning of the statutory language was that indirect ownership was limited to ownership through an intermediary entity.
Taxpayers with open MBT years that applied constructive ownership principles when determining their unitary business group for MBT purposes should review the LaBelle Management decision and consider filing on an amended basis as covered in the department’s notice, but should be aware that the payment of any resulting refunds or collection of any deficiencies would be held in abeyance as a result of the Michigan Court of Appeals grant of a stay of enforcement in this case. Additionally, although LaBelle Management was a MBT case, the reasoning arguably applies to the corporate income tax adopted in 2012, which has a substantially similar statutory definition of unitary business group. Accordingly, as with MBT, taxpayers with open corporate income tax years should review their unitary business group to determine if any changes should be made under the LaBelle Management decision.