Archive for the ‘California’ Category

Reason Magazine on Gilbert Hyatt vs. California’s Franchise Tax Board

Thursday, October 26th, 2017

Reason magazine has a superb presentation on Gilbert Hyatt’s battle with California’s Franchise Tax Board. I cannot recommend it highly enough:

California Fire Victims Have Extension Until January 31, 2018

Friday, October 13th, 2017

The IRS announced today that California wildfire victims have until January 31, 2018 to file various tax returns (including tax returns on extension due this coming Monday, October 16th). California’s Franchise Tax Board (the state income tax agency) immediately followed suit. (California automatically allows extended time for victims of any presidentially declared disasters, including the recent hurricanes.)

The Train to Nowhere Remains a Boondoggle

Friday, September 22nd, 2017

California’s high speed rail, aka The Train to Nowhere, remains likely to never carry passengers between Northern California and Southern California. Perhaps the segment linking Merced and Shafter (just north of Bakersfield) will run (although unlikely at high speed); more likely, it will never run. So the image that comes into my mind is the following:

via GIPHY

There have been some developments since I last reported on the train. First, the California Supreme Court ruled at the end of July that California law was not preempted by federal law and that a number of environmental suits against the high speed rail authority could continue.

Meanwhile, Quentin Kopp, the man who introduced the rail line, now calls the line foolish. In an interview with reason.com he said,

It is foolish, and it is almost a crime to sell bonds and encumber the taxpayers of California at a time when this is no longer high-speed rail. And the litigation, which is pending, will result, I am confident, in the termination of the High-Speed Rail Authority’s deceiving plan…

[The selling of bonds is] deceit. That’s not a milestone, it’s desperation, because High-Speed Rail Authority is out of money.

Ouch. Baruch Feuigenbaum, assistant director of transportation policy for the Reason Foundation, stated, “The costs of building [high-speed rail] projects usually vastly outweigh the benefits…Rail is more of a nineteenth century technology [and] we don’t have to go through these headaches and cost overruns to build a future transportation system.”

Look on the bright side Californians, the project will likely need subsidies from the state of only $100 million a year. That’s not bad, right?

Or better, I’m sure the 10 Shafterites looking to head to Merced each day will love the train (as will the 20 residents of Merced looking to head to Shafter each day).

Gilbert Hyatt (Mostly) Wins at Board of Equalization; What This Teaches Us About Moving from California

Thursday, August 31st, 2017

Remember Gilbert Hyatt? He’s the microprocessor inventor who made a fortune and then moved to no-tax Nevada from high-tax California, but California’s Franchise Tax Board (FTB) said didn’t move. The case has gotten to the US Supreme Court twice, and there’s still a related civil case at the 9th Circuit Court of Appeals. The underlying tax audit–an audit that began in 1993–was (mostly) resolved in Mr. Hyatt’s favor yesterday at California’s Board of Equalization.

Let me first start with the basic history of the case. Gilbert Hyatt invented (and patented) items related to microprocessors in 1990. He realized he would owe 10% of his very large upcoming income to California if he remained in the state, so in October 1991 he moved to Nevada. In 1993, the FTB audited Mr. Hyatt (the FTB is California’s income tax agency), alleging he didn’t move from California until April 1992. The FTB alleged he owed taxes on $5.4 million plus fraud penalties of another $5.4 million.

The FTB, as part of its investigation, skirted the law in Nevada. They rummaged through Mr. Hyatt’s garbage, and (as found by a jury here in Nevada) committed fraud. The first Supreme Court decision, in 2003, allowed Mr. Hyatt to sue the FTB in court in Nevada alleging that the FTB committed a wide range of torts. The FTB argued because the FTB is immune from lawsuits in California it could not be sued in Nevada; the FTB lost that argument.

The case went to trial, and Mr. Hyatt was awarded $400 million (including punitive damages). The FTB appealed, and the Nevada Supreme Court lowered the damages. The FTB appealed again to the US Supreme Court; the Supreme Court ruled that damages are limited to what could be awarded against a Nevada agency (something less than $100,000).

Meanwhile, Mr. Hyatt’s audit results were appealed to the Board of Equalization in the mid 1990s. Yesterday, some twenty years later, the BOE finally heard the case. (The BOE hears appeals from the FTB. However, beginning January 1, 2018 the BOE will no longer hear such appeals.) After a 13-hour hearing, the BOE ruled 4-1 that there was no fraud; the BOE ruled 3-2 that Mr. Hyatt moved to Nevada in October 1991 (as he had said). However, the BOE also ruled that Mr. Hyatt conducted his business primarily out of California after his move to Nevada in 1991. It’s likely Mr. Hyatt owes taxes on somewhere between $1 and $2 million (plus interest and penalties). This decision could be appealed into the California court system by either side.


More interestingly to blog readers, what does this teach us about changing your domicile from one state to another?

1. Really Move. This sounds basic, but tax agencies don’t like it when you say you move from their high-tax jurisdiction to a low-tax one. If you suddenly come into income, you’re far more likely to be audited, and if the tax agency discovers you’re using your friend’s house in your old hometown to conduct business they won’t be happy. If possible, don’t keep an address in your old state; simply have forwarding orders with the post office.

2. Do the Little Things. There are a lot of things involved when you move, but if you may be a subject of a residency audit it pays to do them. Register to vote in your new city. Make sure you register your car(s), and get a new driver’s license. Yes, the DMV isn’t fun but you need to do this. Change your address with your financial institutions. Have utility bills in your name. Find a new house of worship in your new home. The list is lengthy, but the more you do the easier a residency audit will be.

3. Document, Document, Document. One of my favorite sayings is that if you keep good records an audit is an annoyance; if you don’t keep good records an audit is a painful annoyance. You need to double or triple that for a residency audit.

The last residency audit I was involved with was for a couple that moved from New York to Las Vegas. They really moved and had all their documents. New York alleged that because they didn’t buy a new home for six months after they moved to Las Vegas they were still New York residents. However, the couple (and their children) really did move: There was a lease for their rental home, private school receipts from here, voter registration cards, etc. The couple won the residency audit.

4. Stay Around. You need to stay in your new tax home for four months (minimum)–six months or longer is far better–or your old home could say you haven’t changed your domicile (the place you intend to return to). Indeed, if you can avoid your old home for a year that’s far better.

5. California Tries to Exhaust Litigation Opponents. If you end up in a fight with California one component of the state’s strategy is to financially exhaust opponents. Mr. Hyatt’s dispute began in 1993. It is now 2017. I wouldn’t be surprised if there’s still litigation involved with the dispute into the next decade. Most individuals in fights with the FTB don’t have the resources that Gilbert Hyatt has. It’s very easy to have a Pyrrhic victory in a fight with a tax agency.

There’s a lot more involved when you change your residency. Realize if you’re a high-income individual and you move from California to Nevada you’ve painted a target on your back. If you really do move, do the little things and keep good records.

The Law Isn’t Fair, But You Have to Pay the Tax

Tuesday, August 29th, 2017

A California couple received an Advance Premium Tax Credit (part of the “Affordable Care Act,” aka ObamaCare). Through bureaucratic errors at Covered California, they’re unable to change their plan once they’re both employed to stop the credit, nor do they receive a Form 1095-A. It’s not as if they ever received the credits themselves; they went to insurers. The IRS assesses the repayment of the Advance Premium Tax Credit and assesses an accuracy-related penalty. The dispute ends up in Tax Court; do they have to pay the tax and penalty?

The facts of the case aren’t in dispute. The couple (for 2014) enrolled in a Silver plan based on lower income. When the wife took a job she promptly notified Covered California that their income increased; clearly, the credit needed to be adjusted. Months later, Covered California sent a letter to them…except the letter was never received.

What happened to that letter is unclear. The records from Covered California that were provided in this case are incomplete. But according to the records in evidence, “during Covered California’s first open enrollment period, Covered California was so busy that it was not uncommon that changes were not implemented.” What the record makes clear is that the [couple] made repeated efforts to get Covered California to take into account the change in household income, but it never did so. [footnote omitted]

They also notified Covered California of their address change; Covered California ignored that. They had an administrative hearing with the California Department of Health Care over Covered California’s errors; they lost on procedural grounds: “The Administrative Law Judge lacks jurisdiction to decide an issue involving an error on the part of Covered California for failure to recalculate the appellant’s eligibility for APTC after the appellant reported a change in income in January 2014.” They never received the Form 1095-A. They did note on their 2014 return that they had health insurance but they ignored the Advance Premium Tax Credit. The IRS assessed the tax (in the amount of the disallowed tax credit) and an accuracy-related penalty.

The couple correctly notes the Catch-22 they were caught in:

[The Commissioner argues] that if Petitioners are liable for the deficiency, then they would be no worse off financially than if the APTC had been terminated in early 2014. This is simply untrue and does not alter the fact that it was Covered California’s responsibility to ensure clients only received the Advance Premium Tax Credit for which they qualified. We would never have committed to paying for medical coverage in excess of $14,000 per year. We cannot afford it and would have continued to shop in the private sector to purchase the minimal, least expensive coverage or gone without coverage completely and suffered the penalties. * * *

* * * If we are deemed responsible for paying back this deficiency, it would be devastating and completely unjust. We hope and pray you are convinced that we have made every single effort to get Covered California to make proper adjustments to our reported income and subsequently to the Advance Premium Tax Credit we were qualified to receive without success. The whole purpose of the Affordable Care Act was to provide citizens with just that, affordable healthcare. This has been an absolute nightmare and we hope you will rule fairly and justly today.

Unfortunately, the Tax Court is not a court of equity:

In other words, the [couple] considered themselves to have been trapped in a health plan that they could not afford without the subsidy provided by the ACA. And they ask us to rule “fairly and justly” or, otherwise stated, equitably.

But we are not a court of equity, and we cannot ignore the law to achieve an equitable end. Although we are sympathetic to the [couple’s] situation, the statute is clear; excess advance premium tax credits are treated as an increase in the tax imposed. The [couple] received an advance of a credit to which they ultimately were not entitled. They are liable for the $7,092 deficiency. [citations omitted]

To add insult to injury, the couple were also charged with an accuracy-related penalty. Here, though, the law is on the couple’s side:

On the totality of the facts and circumstances, the [couple] acted reasonably and in good faith with respect to the underpayment of tax on their return. They did not receive a Form 1095-A showing the income they received in the form of an advance premium assistance credit, and they did not directly receive that income. They did not know nor should they have known that they had additional income required to be shown on their return, and consequently they are not liable for the accuracy-related penalty under section 6662(a).

This result is anything but equitable for the couple. They tried to have the credit adjusted but the bureaucracy ignored them. It just goes to show that when Ronald Reagan stated the following in 1986 he was dead-on accurate:

The nine most terrifying words in the English language are: I’m from the government and I’m here to help.

Case: McGuire v. Commissioner, 149 T.C. No. 9

California Single-Payer Health Plan Shelved

Sunday, June 25th, 2017

As Samuel Johnson said, “Whatever you have, spend less.” Apparently some Democrats in the California legislature have realized the virtue of this quote.

Assembly Speaker Anthony Rendon shelved the single-payer measure, calling it “woefully incomplete.” The California Senate Appropriations Committee estimated that it would cost only $400 Billion; that’s double California’s current total budget. While progressives (aka the far left) in California still support the measure, apparently Speaker Rendon realized that California can’t print money. Additionally, the gasoline tax increase in California is horribly unpopular; adding a new 15% payroll tax and/or a 2.3% gross receipts tax would not help matters.

While the bill has apparently been tabled for 2016, the California legislative session lasts two years; thus, it is possible that the bill could rise like a phoenix next summer.

Illinois and California Race for the Bottom

Saturday, May 27th, 2017

It appears that Illinois and California are in a race to see which can impose the worst tax policies. The Illinois legislature is debating a “Privilege Tax;” California is debating single-payer health care. Neighboring states to each are likely envisioning plenty of businesses relocating if these measures pass.

The Illinois Privilege Tax is a proposed 20% tax on investment advisors. Let’s say I’m a hedge fund manager in Chicago and I have the Russ Fox Fund. I charge a fee for running this fund; under this proposal, 20% of the fee would be taxable to Illinois. What would prevent me from moving to Des Moines (Iowa), Indianapolis (Indiana), or Nashville (Tennessee) and running the same fund? Absolutely nothing. If this proposal passes, the financial services sector will join lots of others in fleeing the Land of Lincoln.

Meanwhile, the Bronze Golden State is debating single-payer health care. It passed a Senate Committee, but there’s a major issue: The plan would cost $400 billion (that’s “billion” with a b, not million), far more than the state’s current budget. While $200 billion of it could come from repurposing current expenditures, $200 billion would need to be raised. How about a 15% payroll tax and self-employment tax on the state level? That would make California’s tax rate 28.3% on the highest earners! The proposal would cover anyone and everyone living in California, including those here illegally.

If this passes, there’s no doubt in my mind that businesses that could would relocate to neighboring states while any freeloaders who could would move to California. The self-employed who could move would do so immediately: Live in California, pay an additional 28% in tax, or live in Las Vegas and pay 0%? Or Arizona and pay 4%? Or, well, I think you get the picture.

There aren’t many good answers on healthcare, but there are plenty of bad ones. California appears to have chosen one of those. (Yes, single-payer can work but it would have to be implemented nationally to work, not in one state.)

While I Was Out: The BOE Is In Deep Trouble

Wednesday, April 26th, 2017

California has not one but three tax agencies. The Franchise Tax Board (FTB) administers income tax. The Employment Development Department (EDD) administers payroll taxes. And the Board of Equalization (BOE) administers sales tax (and a few other miscellaneous taxes and fees); the BOE also hears appeals from the Franchise Tax Board. Most states have one tax agency but as Scott would say, “California.” Until this year the most notoriety the BOE has received was over its building. That changed last month when the California Department of Finance released a scathing audit report on the BOE.

The Executive Summary notes,

…Specifically, certain board member practices have intervened in administrative activities and created inconsistencies in operations, breakdowns in centralized processes, and in certain instances result in activities contrary to state law and budgetary and legislative directives.

During our evaluation, BOE had difficulty providing complete and accurate documentation in response to our evaluation inquiries and in some instances various levels of management were not aware of and could not speak to certain district activities for which they held oversight responsibilities. Specific examples include the informal establishment of a call center, creating an unofficial office location, and inconsistent use of community liaisons.

This sounds bad. It looks like the BOE is ignoring its budget, violating the law, and ignoring the legislature. Continuing:

In addition, staff resource utilization practices have negatively impacted personnel and accounting records. These records do not accurately depict current operational activities. Despite having dedicated staff and operating budgets of $1.5 million, some board members routinely supplement their staff by redirecting revenue generating staff to perform non-revenue generating board member activities, including outreach activities. These redirections violate Provision 1 of the Budget Act. Additionally, BOE is unable to accurately reflect revenue and cost impacts in its accounting records and Annual Report on Sales and Use Tax Audit and Collection Activities, Statewide Compliance and Outreach Program and Audit Selection Improvements (supplemental annual report).

Yikes! They’re spending money when they’re not authorized to. But I’m sure they’re handling their core function, collecting sales tax, just fine. Right?

Lastly, BOE provided 11 different versions of its proposed sales and use tax allocation adjustment and with each version, Finance continued to find errors and omissions. Since the proposed adjustment continues to change and BOE has not prepared a comprehensive explanation of its assumptions and methodologies, further review of the proposed allocation adjustment is imperative.

The report is devastating, and the reactions have been uniform across both sides of the aisle in Sacramento. Governor Brown has sanctioned the agency. Democrats and Republicans in the legislature are asking tough questions.

This isn’t the first time the BOE had a problem with money. As the San Francisco Chronicle noted in an editorial, the BOE mishandled $47.8 million in sales tax money back in 2015.

Several years ago (when I resided in California) I suggested that the FTB and BOE should merge. I wouldn’t be surprised if that now becomes reality.

Bozo Tax Tip #7: Nevada Corporations

Wednesday, April 5th, 2017

As we continue with our Bozo Tax Tips–things you absolutely, positively shouldn’t do but somewhere someone will try anyway–it’s time for an old favorite. Given the business and regulatory climate in California, lots of businesses are trying to escape taxes by becoming a Nevada business entity. While I’m focusing on California and Nevada, the principle applies to any pair of states.

Nevada is doing everything it can to draw businesses from California. Frankly, California is doing a lot to draw businesses away from the Bronze Golden State. But just like last year you need to beware if you’re going to incorporate in Nevada.

If the corporation operates in California it will need to file a California tax return. Period. It doesn’t matter if the corporation is a California corporation, a Delaware corporation, or a Nevada corporation.

Now, if you’re planning on moving to Nevada forming a business entity in the Silver State can be a very good idea (as I know). But thinking you’re going to avoid California taxes just because you’re a Nevada entity is, well, bozo.

FTB Not Appealing Swart Decision

Wednesday, February 22nd, 2017

Last month a California appellate court ruled that California’s Franchise Tax Board was wrong in trying to assess an Iowa corporation with a 0.2% ownership in an LLC that invested in California the California minimum Franchise Tax. It was announced today that the FTB will not appeal the decision. The court’s conclusion was,

We conclude Swart was not doing business in California based solely on its minority ownership interest in Cypress LLC. The Attorney General’s conclusion that a taxation election could transmute Swart into a general partner for purposes of the franchise tax, and that the business activities of Cypress can therefore be imputed to Swart, is not supported by citation to appropriate legal authority and, in our view, defies a commonsense understanding of what it means to be “doing business.”

This is good news for passive business entity investors who happen to be investing in California. It’s likely that other cases that are winding way through the courts will now be settled and that the FTB will adopt a common-sense approach on this issue. Chris Smith, the FTB’s Trade Media Liaison, sent an email noting that, “[The] FTB is working on providing information to taxpayers in light of the decision which it expects to release soon.” I will link to that information when it becomes available.