© 2012 The Texas Lawbook.
By Janet Elliott
Staff Writer for The Texas Lawbook
Food giant Nestle seeking $8.68 million tax refund in challenge to uniformity of revised franchise tax.
AUSTIN – A plain reading of the Texas Constitution’s requirement that taxes be “equal and uniform” should sound the death knell for the state’s revised franchise tax, a lawyer for food and beverage giant Nestle USA told the Texas Supreme Court.
Not so fast, said the state’s lawyer. The Texas Legislature has authority to pick winners and losers by distinguishing among classifications of businesses.
It was just another day in court for the much-maligned six-year-old tax, which last year withstood an assault over claims that it functions as a personal income tax on limited partnerships.
Once again, the stakes are high for Texas businesses – and the state budget.
After the sales tax, the business tax is the state’s second biggest source of revenue, and is expected to generate $5.5 billion this year. It was enacted in 2006 as part of a compromise to lower property taxes and to settle a lawsuit over school funding.
Nestle says the tax is a confusing mess that fails to treat businesses equally and uniformly. The court expedited the hearing on this case because of the upcoming legislative session.
Representing Nestle, Winstead shareholder Peter Nolan urged the court to apply a common-sense reading of the Texas Constitution, which he said exceeds equal protection clauses in the state and federal constitutions.
“These words should be interpreted as they are generally understood,” he said.
Nolan said there is nothing equal or uniform about taxing Nestle at the 1 percent manufacturer rate, even though it has no manufacturing operations in the Lone Star State. Nestle’s in-state operations are wholesaling, which along with retailing, is taxed at an 0.5 percent rate.
“This margins tax does not pretend to be fair, does not pretend to be equal and uniform,” said Austin lawyer Peter Nolan.
Texas, represented by Assistant Solicitor General Rance Craft, said Nestle is wrong to argue that the Legislature can’t classify businesses for purposes of assessing the franchise tax. If the court adopts that view, “then get ready for the sales tax cases,” warned Craft.
He noted that the Legislature has classified three-fourths of Texas businesses, those with less than $1 million in revenue, as exempt from the tax.
The court is expected to rule before the end of the year, which would give the Legislature time to address any mandated changes during the 2013 session.
Justice Nathan Hecht asked whether the federal income tax, with its myriad exemptions and deductions, would pass the Texas Constitution’s equal and uniform test.
“Absolutely not,” said Nolan.
Justice Don Willett wondered whether the Legislature will overhaul the tax next session, regardless of what the court does, because it has failed to live up to revenue projections. Craft wouldn’t speculate about the session but said he believes the lower-than-expected revenue is “attributable to what’s happening in the economy.”
When lawmakers revamped the outdated franchise tax under pressure from a challenge by school districts over public education funding, they lowered the rates and broadened the tax base to reflect shifts in the state’s economy from manufacturing to service industries.
That split in the business community, which twisted the Legislature in knots over three special sessions, has resurfaced at the high court.
The National Federation of Independent Business, a chronic critic of the revised tax, sides with Nestle. The federation said the tax has resulted in slower hiring as businesses not only have to pay new taxes but also employ experts to interpret the confusing provisions.
A coalition of manufacturers and energy companies that benefitted from a property tax cut and lower franchise tax rates wants the court to uphold the tax.
“The restructuring of the franchise tax undoubtedly had significant impact on many businesses with operations in Texas, and it is no surprise that some of those entities are dissatisfied. However, the revised franchise tax is both constitutional and the fairest, most equitable way to address the state’s budgetary needs,” said a brief filed on behalf of the capital-intensive industries by Austin lawyer Keith Strama, of Beatty Bangle Strama.
This is the second time this year the court heard Nestle’s constitutional challenge. After the first arguments, the court said it lacked jurisdiction because Nestle and two other companies did not pay their taxes under protest or request a refund.
Nestle filed the latest appeal after paying its taxes under protest. It is seeking refund of $8.68 million in taxes and an injunction against any future collections.
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