Taking No Prisoners in California

by Tom Yamachika, President, Tax Foundation Hawaii

“Lucky you live Hawaii,” goes the famous phrase.  Sometimes it’s really true, as we recently found out from our good friends in the California Taxpayers Association, publishers of the Caltaxletter.

California has two different tax agencies.  The Franchise Tax Board, sometimes known as FTB, deals primarily with income taxes.  The Department of Tax and Fee Administration, known as CDTFA, handles sales taxes.  (You might remember that California had an elected State Board of Equalization that used to serve this function.  Lawmakers put through a bill in 2017 that basically got rid of the elected Board and split its functions between two new executive branch agencies.)

CDTFA’s director, according to the Caltaxletter, publicly admitted to ordering his department’s Settlement Section to settle fewer, if any, cases.  His rationale for that directive was that his staff have a very high winning percentage when they take cases to court.  It appears that the guy feels invincible and told his staff to act accordingly.

The problem, of course, is that not all tax cases are created equal.  The taxpayer’s position is weaker in some, stronger in some.  Cases need to be evaluated on their merits and then both sides can decide if they are worth fighting about or settling.  Yes, the taxing agency does win in many cases that go to trial.  Many factors contribute to this.  The agency litigates before specialty tax courts all the time and develops relationships with the judges and staff.  The agency doesn’t have to pay attorneys by the hour to do the litigating, and thus might not see itself having litigation cost constraints.  But these advantages are no substitutes for judging each case on its own merits and are no justification for telling agency staff to take a hard line everywhere and not settle except in the most extreme cases.

Does the agency lose?  Sometimes it does, but apparently it can’t be counted on to be a good loser.  The story is told of a taxpayer named Starbuzz International, which sold hookah (16% tobacco) and filed refund claims for tobacco products tax because the tax did not seem to apply to tobacco products with a tobacco content less than 50%.  The taxpayer was subjected to a multi-year audit, after which a hearing was held before a panel of three administrative law judges.  The panel held for the taxpayer and granted its refund claims in full.  The agency filed a petition for rehearing, and after about a year of further litigation the case was heard by another panel of three administrative law judges.  That panel also held for the taxpayer and granted its refund claims in full.  The agency is refusing to pay up, however, claiming a need to re-audit the taxpayer based on newly raised issues.  Come on, guys.  The agency had eight years to make its case, went to the mat, and lost fair and square.  Twice.  It’s hard enough on a taxpayer to go through an audit once, especially when the taxpayer is a smaller business and the audit is a thorn in the side for company management.

Here in Hawaii, the Department of Taxation’s prior administration had a reputation, told to us by insiders, of not settling cases and taking a hard line in general.  The current administration is led by the gentleman who supervised the Department of Attorney General’s Tax and Charities Division, and thus represented the Department of Taxation in court, during the prior administration.  He has told practitioners that he does not intend to take hard lines and he is more open to settling cases to whittle down the backlog of tax appeals.

Lucky you live Hawai’i.  I guess.