Garofolo, Curtiss, Lambert & MacLean, Inc. v. Commonwealth

648 A.2d 1329, 167 Pa. Commw. 672, 1994 Pa. Commw. LEXIS 567

• Court: Commonwealth Court of Pennsylvania
• Decided: September 30, 1994
• Docket: 255 M.D. 1992
• Status: Published

Opinions

RODGERS,¹ Senior Judge.

In July 1992, Garofolo, Curtiss, Lambert & MacLean (Garofolo), a Pennsylvania corporation and a management consulting firm specializing in executive search services, filed a petition for review in our original jurisdiction, against the Commonwealth of Pennsylvania, asking this Court to declare Section 16 of Act 22², suspending operation of net loss carryover deductions from the taxable income of corporations unconstitutional, as violative of the due process (Article I, Section 1) and uniformity (Article VIII, Section 1) provisions of the Pennsylvania Constitution.

Prior to the enactment of Act 22, Section 401(3)(4) of the Tax Reform Code, 72 P.S. § 7401(3)(4) granted a carry-forward of net losses to be deducted against one of the three succeeding year’s income for corporate net income tax purposes, phased in over the three years beginning with 1981 and ending with 1983. In 1987, 1988 and 1989, Garofolo incurred losses in Pennsylvania. In 1990, it earned income that was offset by the net losses from 1987 and 1988 and $392,060 of its 1989 net loss. Garofolo had a remaining loss of $155,754 from 1989 after its 1990 income tax was reduced to zero. For the years 1987-1990 it paid no income taxes even though it had substantial income in 1990.

By reason of the passage of Section 16 of Act 22, suspending operation of the net loss carry-forward deduction for years beginning in 1991, Garofolo could not use its remaining 1989 net loss to reduce its 1991 taxable income, resulting in an increase in its tax liability for 1991 of $19,079. However, Garofolo has brought its petition on behalf of itself and for all similarly situated corporations. Thus, if Section 16 is declared unconstitutional, all such corporations with unused net losses from 1988 and 1989 may seek reductions of their 1991 income tax liability.³

The Commonwealth filed preliminary objections in the nature of a demurrer to Garofolo’s petition, which were dismissed, based on the court’s opinion in the companion case of Surgical Laser Technologies v. Department of Revenue, 156 Pa.Commonwealth Ct. 48, 626 A.2d 664 (1993), because the facts were uncertain. The issues in Surgical now appear to be moot, because Surgical Laser also had a net loss in 1991, and its 1988 net loss would have expired unused in any event.

The Commonwealth’s answer in this case denied that Section 16 of Act 22 was unconstitutional, but the only factual issues raised were the correct amount of Garofolo’s remaining 1989 net loss carry-forward and whether Garofolo had reasonably relied on the availability of net loss carry-forwards in continuing in business in Pennsylvania. However, based upon the admitted material facts, the issues raised by the pleadings present pure legal questions, requiring no development of evidence and, therefore, this Court will treat Garofolo’s motion for summary judgment as a motion for judgment on the pleadings.⁴ Bensalem Township School District v. Commonwealth, 518 Pa. 581, 544 A.2d 1318 (1988).

Garofolo claims the law violates the uniformity clause of the Pennsylvania Constitution. However, the petitioner admits there is no constitutional requirement that the corporate net income statute must contain any deduction for net operating loss, nor does it contend that a net income loss provision can never be repealed. But Garofolo does contend that, because another corporation with $155,754 more net income in 1990 than Garofolo, may have reduced its 1990 tax liability to zero, gaining a benefit of $13,239, by using its entire 1989 net loss carry-forward in like amount, Garofolo, whose 1990 tax liability was also zero, has a constitutional right to reduce its 1991 tax liability by $19,079 by using the balance of its 1989 loss.⁵ The Constitution does not require perfect uniformity of tax burden over several years or even over one year.

In the case of Commonwealth v. Rohm and Haas Co., 28 Pa.Commonwealth Ct. 430, 368 A.2d 909 (1977), aff'd, 478 Pa. 164, 386 A.2d 491, appeal dismissed, 439 U.S. 805, 99 S.Ct. 61, 58 L.Ed.2d 97 (1978), the corporations which had elected to take foreign taxes paid as a credit against federal income tax liability rather than as a deduction from gross income, claimed a constitutional right to deduct the foreign taxes paid to reduce their liability for state net income taxes because corporations who had elected to take such foreign taxes paid as a deduction on their federal liability were permitted to take such deduction on their state liability. In rejecting this argument, the court said:

Finally, we must deal with the constitutional argument that the Act both as written and as applied to Appellants violates the uniformity clause and Appellants’ equal protection rights by discriminating against taxpayers electing to take foreign taxes as a credit on their federal returns in favor of those electing to take them as a deduction, and because in two other instances the deductions sought by Appellants were allowed.

Succinctly stated, the uniformity clause and equal protection clause, which stand in pari materia in tax matters, ... require that there be equality of burden upon the classes or things subject to the tax in question---- They do not,

however, impose an iron-clad rule of equality so as to inhibit flexible and reasonable schemes of taxation, ... and only substantial uniformity and approximate equality are required ....

In this attack upon the Act as written, Appellants bore the heavy burden of proving that it is ‘clearly, palpably and plainly’ violative of either the federal or state constitutions---- This burden, which has not been met, is not lightened by the fact that the constitutionality of the Act has been upheld on prior occasions____

Where the same rate of taxation is applied to the same tax base, no constitutional infirmity is made out, and no unreasonable classification can be said to exist____ Here, the Legislature has adopted as the tax base net income as returned to and ascertained by the Federal Government. Section 2 of the Act, 72 P.S. § 3420b; ---- The same rate of tax is applied to all taxpayers subject to the Act. Section 3 of the Act, 72 P.S. § 3420c. How Congress has chosen to compute ultimate Federal tax liability under the IRC, and the elections it has offered to taxpayers are of no consequence under the Act in the context of this litigation, ... and when tax legislation treats all within its scope in a substantially uniform matter, it cannot be said to discriminate because of classifications made by other legislation....

Id. 28 Pa.Cmwlth. at 436-37, 368 A.2d at 912-13 (citations omitted.)

The decision of the Commonwealth Court was affirmed sub nom. in Commonwealth v. Westinghouse Electric Corp., 478 Pa. 164, 386 A.2d 491, appeal dismissed, 439 U.S. 805, 99 S.Ct. 61, 58 L.Ed.2d 97 (1978), where the court said:

[T]his Court has held that a state tax is not violative of the uniformity clause if the tax ‘applies to all corporations with which the Commonwealth has power constitutionally to deal---- Where the (state tax) base is the same and the rate unvarying, there is no lack of uniformity.’ ... In the case at bar, it is obvious that the Act did not violate the uniformity clause because the Act’s tax base, the corporation’s ‘taxable income ... (as) ascertained by the Federal Government’ for Federal tax purposes, applied the ‘same ... unvarying’ rate to all corporations.

Id. at 169, 386 A.2d at 493 (citations omitted.) In this case it is clear that the state tax base for the year 1991 was the same and the rate unvarying for all corporations and, therefore, there was no -violation of the uniformity clause.

Garofolo relies on Commonwealth v. Budd Co., 379 Pa. 159, 108 A.2d 563 (1954), appeal dismissed, 349 U.S. 935, 75 S.Ct. 782, 99 L.Ed. 1264 (1955), where the court held unconstitutional the 1947 corporate net income tax act prohibiting the deduction from 1944 net income of carry-back losses suffered in 1946, which the superseded 1943 Act had allowed on the grounds that it retroactively changed the law in calculating 1944 net income, and because it arbitrarily allowed such deduction by corporations who had settled their tax liability with the state before the effective date of the 1947 Act.

The continued vitality of Budd is questionable. In the case of Fisher Controls Co., Inc. v. Commonwealth, 476 Pa. 119, 381 A.2d 1253 (1977), Justice Roberts points out that Budd is a plurality opinion and, in Fisher, the court declined to follow the dissenting opinion that found unlawful discrimination because taxpayers who had settled their liability paid at a lower rate than other corporations. In Fisher, the Supreme Court was affirming the decision of the Commonwealth Court in the same case at 24 Pa.Commonwealth Ct. 199, 354 A.2d 920 (1976). Judge Bowman had rejected the lack of uniformity argument in these words:

[T]hose corporations which otherwise would have been subject to the higher tax rate by reason of the retroactive provisions of the Act of 1969 made their returns, paid tax at the lower rate and for various purposes, such as dissolution or merger, obtained clearance certificates before enactment of the Act of 1969. Settlements with respect to all other taxpayers made after December 31, 1969 were effected at the 12% rate consistent -with the retroactive provisions of the amendment. Retroactive provisions of a taxing statute increasing the rate of tax cannot reach a taxpayer whose tax liability was lawfully settled and paid before enactment of the statute increasing the rate. There is no want of uniformity in not applying retroactive provisions of a tax rate increase to those it cannot reach.

Id. at 205-06, 354 A.2d at 924 (emphasis in original.)

Budd is also clearly distinguishable from this case because the 1947 Act retroactively changed the state tax base for the 1944 tax year, in violation of Welch v. Henry, 305 U.S. 134, 59 S.Ct. 121, 83 L.Ed. 87 (1938). That is not the case here. Under the 1991 Act all corporations are required to pay the corporate net income tax for the year 1991 at the same rate on the same tax base and are entitled to the same deductions. Nor is the tax liability for years prior to 1991 in any way changed.

Garofolo’s reliance on Amidon v. Kane, 444 Pa. 38, 279 A.2d 53 (1971), is also misplaced. In Amidon, the court held that the Pennsylvania personal income tax applying a flat rate to “taxable income”, as defined in the federal Internal Revenue Code, lacked uniformity, because it resulted in different effective rates on gross income, due to deductions and exemptions that were available to some taxpayers and not to others. However, the court adhered to its view that the Pennsylvania Corporate Net Income Tax, which also utilized net income as defined by the federal Internal Revenue Code, did not lack uniformity even though it might, for some reason, result in different effective rates on corporations. The court reasoned that the corporate net income tax was not an income tax, but an excise tax for the privilege of doing business in the Commonwealth.

Garofolo also claims that the law violates uniformity because it results in different effective rates since the net loss carry-forward deduction was not available to reduce its tax liability in 1991, but was available for use by other corporations with larger profits in 1990. But Amidon makes clear that approval of the definition of “taxable income” as defined in the federal Internal Revenue Code for use in determining liability for the Pennsylvania corporate net income tax does result in different effective rates for corporations whose “cost” of making a profit differs, but still does not offend the uniformity clause.

Similarly, the inability of the corporation in Rohm and Haas to deduct foreign taxes paid to reduce its liability for state net income taxes, resulted in a higher effective tax rate as compared to those corporations who were entitled to use the deduction. But the court held there was no violation of the uniformity clause because the same rate of taxation was applied to the same tax base.

Garofolo also contends that the law violates due process because (1) it is retroactive, (2) it breaches a quasi-contract, and (8) it takes property without compensation.

Garofolo argues that, when it incurred its net operating loss in 1989, the law permitted it to carry-forward the loss as a deduction from profits for three years and that the law was retroactively changed in 1991 to disallow the deduction in 1991 and 1992. However, Garofolo admits there is no constitutional requirement that a corporate net income statute must contain a deduction for net operating loss, and also admits that such a deduction may be repealed, but now contends such repeal must be phased out over three years, since it had been phased in over that period. Garofolo cites no authority for its contention except Budd, which involved the repeal, not of a carry-forward loss but of a carry-back loss, which retroactively changed the state tax base for the 1944 tax year. In this case, for the year 1991, and thereafter, the same tax rate is applied to the same tax base, which is all that the law requires to satisfy the uniformity and due process clauses of our Constitution.

Garofolo also contends the law violates due process because it takes property without compensation. Garofolo claims that while the Commonwealth may repeal the net operating loss provision for current and future losses, losses experienced in prior years become vested property rights once they are fixed in amount. It relies on In re Prudential Lines, Inc., 928 F.2d 565 (2d Cir.1991), cert, denied, 502 U.S. 821, 112 S.Ct. 82, 116 L.Ed.2d 55 (1991), where the court enjoined a parent corporation from taking a worthless stock deduction on its federal income tax return with respect to its bankrupt subsidiary in reorganization under Chapter 11, since that would have wiped out the subsidiary’s ability to carry-forward its net operating loss to offset future income, to the possible detriment of the subsidiary’s unsecured creditors. The case did not involve any question of the right of the federal government to repeal the net loss carryover provisions, but involved the interpretation of the Bankruptcy Code in a contest between the owners of the parent corporation and creditors of the subsidiary. Even in the bankruptcy setting, the court pointed out that the federal courts considering whether net operating loss carry-forwards constituted property of the bankrupt’s estate had reached varying conclusions in varying contexts. Id. at 571. A tax deduction is not a vested right of the taxpayer. The net operating loss carry-forward deduction is a creature of the legislature, subject to repeal, suspension or reinstatement by the legislature, so long as it does not act in an arbitrary and unreasonable manner. Equitable Life Assurance Society of the United States v. Murphy, 153 Pa.Commonwealth Ct. 338, 621 A.2d 1078 (1993).

Finally, Garofolo claims a due process violation, because the Commonwealth breached a quasi-contract. Garofolo attached to its petition for review a portion of the legislative history of the 1981 law, showing the net operating loss deduction was passed to encourage the growth and development of small business in the state, and to encourage them to locate, expand and stay -within Pennsylvania. It also attached copies of two publications of the Pennsylvania Department of Commerce stating that highlights of the state’s business tax changes included Net Loss Carry-Forward provisions and that small businesses should be aware of loss carry-forward legislation, enacted in 1980, particularly beneficial to new businesses which may incur losses in their formative years and then could be used to offset income earned in later profitable years. The pamphlet also stated that “Beginning January 1, 1983, and thereafter, corporations are allowed to carry losses over a three-year period.” (Petition for Review, Exhibit C-2.)

Garofolo claimed in its petition that being aware of the law it made or continued to make investments and do business in the state and anticipated that it would have the benefit of the law when it incurred tax losses and that the Commonwealth benefited from the jobs and economic activity it created and that the Commonwealth defeated the corporation’s reasonable reliance on the benefit of the net operating losses from fiscal 1988, 1989 and 1990 when it eliminated the carry-forward without providing for “a similar phase out”.

A quasi-contract is not a contract but a duty imposed by law upon a person who has obtained property or services under circumstances where reason, common sense and justice dictate that payment should be made therefor. It applies where one party has been unjustly enriched at the expense of another and is required to make restitution for the fair and reasonable value of the benefit conferred. Pennsylvania Trial Guide, Feldman Revision § 25.21 (1978).

In the absence of fraud, coercion, or specific request, none of which is alleged by Garofolo here, a governmental body is not unjustly enriched by benefits voluntarily conferred upon it, except where the benefit was conferred under circumstances making such action necessary for the protection of its interests or the interests of a third person. Restatement, Restitution, § 112. Thus, where a statute requires that a town support indigents, its refusal to do so may require it to make restitution. Id., § 113, Comment b. Restitution may also be required where a person has performed another’s duty to the public, e.g., where one removes an obstruction from a public road which has become imminently dangerous to the traveling public, if the town fails to do so. Id., § 115, Comment b.

The only authority cited by Garofolo in support of its claim of unjust enrichment is Erie v. Griswold, 5 Pa.Superior Ct. 132 (1897), aff'd per curiam, 184 Pa. 435, 39 A. 231 (1898), where the court held that the city had proper authority to pass an ordinance operating as a binding contract allowing abutting property owners an abatement of their property taxes, and where they had paved their properties from curb to curb in reliance upon the ordinance, the city could not by repealing the ordinance affect their vested property rights. There is no claim of such a binding contract with the Commonwealth in this case, nor any claim that the corporation was performing any duty owed the public by the Commonwealth. No authority is cited for the proposition that the Commonwealth is unjustly enriched because a corporation continues to stay in business in the state.

In the case of Gee v. Eberle, 279 Pa.Superior Ct. 101, 420 A.2d 1050 (1980), where subcontractors sought restitution from the lender, the court held that the subcontractor must show that it relied on assurances of adequate financing from the lender itself in order to recover from the lender on a reliance theory. Garofolo has not claimed that the Commonwealth assured it that the net operating loss corporate net income tax deduction would never be repealed or that it would be repealed only by phasing it out over a period of three years.

An additional element of recovery under quasi contract is the requirement that services be performed under circumstances which put the recipient upon notice that the party performing the services expected to be paid. Colish v. Goldstein 196 Pa.Super. 188, 173 A.2d 749 (1961); 13 Williston, Contracts, § 1575 (3d ed.1970).

Sachs v. Continental Oil Co., 454 F.Supp. 614, 619 (E.D.Pa. 1978). Garofolo has not pleaded that such notice was given to the Commonwealth in this case.

This Court finds no violation of either the uniformity or due process provisions of the Constitution of Pennsylvania. Accordingly, on the motion for judgment on the pleadings, judgment will be awarded to the respondent, Commonwealth of Pennsylvania.

ORDER

AND NOW, this 30th day of September, 1994, the petition of Garofolo, Curtiss, Lambert & MacLean, Inc., to declare Section 16 of Act 22 of 1991 unconstitutional is denied, and judgment is entered on the motion for judgment on the pleadings in favor of the respondent, Commonwealth of Pennsylvania, Department of Revenue, and against the petitioner, Garofolo, Curtiss, Lambert & MacLean, Inc.

1 . This case was reassigned to the writer on July 25, 1994.

2 . Act of August 4, 1991, P.L. 97, 72 P.S. §§ 7401-8296 (Act 22).

3 . An excerpt from the legislative history attached to the petition for review, (Exhibit B), in 1981 estimated the revenue loss by reason of the enactment of the carry-forward loss provision for the first year to be from nine to sixteen million dollars. On June 15, 1994, the Pennsylvania General Assembly enacted House Bill 868, Act No. 48 of 1994, which, inter alia, reinstated the carry-forward loss deductions from corporate net income for the taxable years beginning in 1995 and thereafter and also grants such deductions beginning with the 1995 taxable year for such losses from 1988 (1 year), 1989 (2 years) and 1990-1993 (3 years), but such losses may not be used in calculating net income for the 1991-1994 taxable years.

4 . After close of the pleadings, the only supplement to the record was Garofolo’s motion for summaiy judgment, attaching copies of Garofolo’s federal and state tax returns, showing it would have been able to use its 1989 net operating loss to reduce its 1991 taxable income by $155,754 instead of $124,962 as claimed by the Commonwealth in its answer. The difference is not material in considering the motion for judgment on the pleadings.

5 . Section 17 of Act 22 increased the tax rate from 8.5% to 12.25%. Thus, a corporation using a 1989 carry-forward of $155,734 to reduce its 1990 tax liability received a tax benefit of $13,239. If Garofolo were able to use the balance of its 1989 carry-forward to reduce its 1991 tax liability, it would receive a benefit of $19,079.