Michael W. Gates and Susan J. Gates v. Larry Walther, Secretary, Department of Finance and Administration of the State of Arkansas

2023 Ark. 74

• Court: Supreme Court of Arkansas
• Decided: May 4, 2023
• Status: Published

Opinion

Cite as 2023 Ark. 74 SUPREME COURT OF ARKANSAS No. CV-22-690

Opinion Delivered: May 4, 2023 MICHAEL W. GATES AND SUSAN J. GATES APPEAL FROM THE GARLAND APPELLANTS COUNTY CIRCUIT COURT [NO. 26CV-21-100] V. HONORABLE GARY M. ARNOLD, LARRY WALTHER, SECRETARY, JUDGE DEPARTMENT OF FINANCE AND ADMINISTRATION OF THE STATE REVERSED AND REMANDED. OF ARKANSAS APPELLEE

RHONDA K. WOOD, Associate Justice

Michael and Susan Gates appeal the circuit court’s order granting summary judgment

to the Department of Finance and Administration. The order upheld DFA’s amended and

corrected notices of final assessment of the Gateses’ tax burden for 2015, 2016, and 2017.

The Gateses argue that DFA failed to provide sufficient evidence to meet its prima facie

burden of proof for summary judgment. We agree and reverse and remand.

I. Relevant Facts

The Gateses failed to file tax returns or pay individual and corporate state taxes for

years 2012–2017. Mr. Gates pleaded no contest to one criminal count for failure to file a

tax return or pay taxes. As a condition of his plea, he was sentenced to six years’ probation,

ordered to pay $74,789.80 in restitution, and ordered to file tax returns for the years 2015– 2017. DFA audited those returns to determine the Gateses’ tax liability, penalty, and interest

for those years. DFA’s audit initially assessed the Gateses’ tax liability at $50,519, plus

penalties and interest.1 The Gateses protested this initial assessment, claiming that DFA

incorrectly taxed legitimate business expenses associated with their S corporation,

Stonebridge Collection, Inc. In response to the Gateses’ request, DFA provided them with

a copy of the schedule of adjustments prepared during the audit.

After this initial production, the parties communicated poorly. The Gateses

continued to claim DFA was not recognizing some legitimate business expenses, but they

conceded that some deducted expenses were personal. For example, the Gateses admitted

to thousands of dollars in personal expenses to Amway, Cranford’s Village Supermarket,

restaurants, Wal-Mart, and Entergy. These admitted personal expenses were listed on the

profit-and-loss statement of the Gateses’ business. DFA, on the other hand, in deposition

testimony, could not define what constituted a legitimate business expense when asked to

explain why it had excluded some seemingly business-related expenses.

DFA continued to send the Gateses a series of tax-assessment letters reflecting

differing amounts of their tax liability. For example, the following chart shows four written

communications from DFA2 to the Gateses in August 2020 regarding DFA’s fluctuating

calculation of the Gateses’ tax liability:

1 The tax-liability amounts referred to throughout this opinion do not include penalties and interest. The Gateses do not contest that, once their tax liability is determined, statutory penalties and interest will apply. 2 DFA titled each document differently; therefore, the date best identifies each document. 2 2015 2016 2017 Total Tax Liability

August 13, 2020 Summary Letter $8,916 $6,477 $6,284 $21,677

August 14, 2020 Assessment $14,948 $10,785 $6,284 $32,017

August 24, 2020 Notice of Final $23,864 $17,262 $13,061 $54,187 Assessment August 27, 2020 Letter $21,826 $14,951 $10,544 $47,321

When the parties reached an impasse, the Gateses sued DFA in circuit court. They

challenged the amended and corrected notices of final assessment. After discovery, DFA

moved for summary judgment, and in response, the Gateses filed a cross-motion for

summary judgment. After hearing these motions, the circuit court entered an order striking

several of the Gateses’ exhibits to their cross-motion for summary judgment, granting DFA’s

summary-judgment motion, and finding that the amended and corrected notices of final

assessment were sustained. The Gateses appealed.

II. Analysis

Summary judgment is proper when a claiming party fails to show that there is a

genuine issue as to material fact. Ark. R. Civ. P. 56(c); Flentje v. First Nat’l Bank of Wynne,

340 Ark. 563, 569, 11 S.W.3d 531, 535–36 (2000) (citing Mashburn v. Meeker Sharkey Fin.

Grp., 339 Ark. 411, 5 S.W.3d 469 (1999)). The burden is on the moving party—here, DFA.

Flentje, 340 Ark. at 568, 11 S.W.3d at 535. In summary-judgment cases, we decide whether

the evidentiary items presented by the moving party left a material question of fact

unanswered. Id. Once the moving party establishes a prima facie entitlement to summary

3 judgment, the burden shifts to the defendant to meet proof with proof and demonstrate the

existence of a material issue of fact. Flentje, 340 Ark. at 569, 11 S.W.3d at 536.

Summary judgment is not proper “where evidence although not in material dispute

as to actuality, reveals aspects from which inconsistent hypothes[e]s might reasonably be

drawn and reasonable minds might differ.” Id. On review of a grant of summary judgment,

we examine the evidentiary items presented and determine whether the circuit court

correctly ruled that those items left all material facts undisputed. Wright v. Compton, Prewett,

Thomas & Hickey, P.A., 315 Ark. 213, 866 S.W.2d 387 (1993).

In tax cases, DFA carries the initial burden of proving the imposition of the tax by a

preponderance of the evidence. “The agency claiming the right to collect a tax bears the

burden of proving that the tax law applied to the item sought to be taxed.” Leathers v. A&B

Dirt Movers, Inc., 311 Ark. 320, 844 S.W.2d 314 (1992). Thus, to meet its prima facie

burden, DFA must prove the Gateses’ net taxable income and resulting tax liability for

2015–2017. Once that occurs, the Gateses will have the burden of proving any deductions.

Id.

The circuit court found that DFA met its burden of proving “earned income subject

to Arkansas income tax.” The circuit court supported this based on: (1) the Gateses’ filed

tax returns; (2) DFA’s tax assessments arising from disallowed income tax deductions; and

(3) income showed on the Gateses’ 1099 forms, which showed payments to Mr. Gates and

Stonebridge by sources other than an employer.

On appeal, the Gateses argue that the income tax returns and 1099s were not prima

facie proof of DFA’s calculation of the Gateses’ net taxable income. We agree because the

4 math in the record does not add up. It is undisputed that the Gateses had some taxable

income based on their filed tax returns. But we hold that a material dispute of fact exists

regarding the amounts of their taxable income for 2015–2017.

After reviewing the Gateses’ income tax returns and 1099s, DFA computed net

taxable incomes that were greater than what the Gateses had reported. DFA could be

correct, but its figures throughout the audit were moving targets, and it never revealed its

math to the Gateses, the circuit court, or this court on appeal. While DFA continues to

argue that it met its burden of proving “that the income attributed to the Gates[es], both

according to their income tax returns and the 1099s, was correct,” the record does not

reflect this. Based on the record before us, the net taxable income DFA calculated was

greater than the amounts the Gateses reported, plus their 1099 income. DFA offered no

other evidentiary support regarding how it calculated the increase in taxable income. While

DFA argued that its adjustments were “the result of disallowed business deductions and the

addition of some income shown on 1099 forms,” it did not show which 1099 income it

included or which business deductions it excluded. (Emphasis added.) The Gateses

admittedly ran many personal expenses through their business, but the burden falls first on

DFA to prove the initial taxable income amount and show how it arrived at that number.

The circuit court’s order supports that material-fact issues existed. The circuit court

sustained DFA’s “amended and corrected notice of final assessment.” One would have to

assume that the order is referencing the August 24, 2020 letter titled “notice of final

assessment.” But that letter wasn’t attached to DFA’s motion for summary judgment, and it

does not contain the net taxable income DFA calculated, which is DFA’s burden. It only

5 reported the Gateses’ tax liabilities. And after that “final” letter was sent, an assistant revenue

commissioner sent another letter with different figures that “reflected the corrected amounts

due.” Consequently, even after the circuit court’s order, we are left to wonder: how much

money did the circuit court conclude the Gateses owed DFA?

Considering this evidence, DFA did not meet its prima facie burden of proving the

total amounts of taxable income that it had calculated for 2015, 2016, and 2017. Because

DFA’s motion for summary judgment lacked this prima facie evidence, we conclude that

DFA did not meet its burden of proof at the summary-judgment stage of the proceedings.

Therefore, the circuit court erred in granting DFA’s motion for summary judgment.

The Gateses also appeal the circuit court’s exclusion of four exhibits they attached to

their cross-motion for summary judgment. The circuit court struck three exhibits because

they contained hearsay, were not properly authenticated, and contained information Mr.

Gates declined to provide at his deposition when he asserted his Fifth Amendment right not

to self-incriminate. It refused to consider another exhibit because it was not included in the

record. Because the Gateses do not argue on appeal that the circuit court should have

granted their summary-judgment motion, we do not decide the issues involving their

exhibits.

Reversed and remanded.

WOMACK, J., concurs.

WYNNE, J., dissents.

6 SHAWN A. WOMACK, Justice, concurring. I agree DFA failed to establish prima

facie entitlement to summary judgment and, therefore, join the majority opinion. I write

separately to explain why sovereign immunity does not bar the Gateses’ lawsuit against the

State.

The Tax Procedure Act allows a taxpayer to appeal state-tax assessments “by filing

suit for judicial relief” in circuit court.1 Article 5, section 20 of the Arkansas Constitution,

however, prohibits the State from ever becoming a defendant in any of its courts. Absent

an express constitutional provision to the contrary, this prohibits a party from filing a lawsuit

against either the State or its entities.2

In Board of Trustees of the University of Arkansas v. Andrews, we held that “legislative

waiver[s] of sovereign immunity . . . [are] repugnant to article 5, section 20 of the Arkansas

Constitution.”3 The Tax Procedure Act’s allowance of judicial review is no different, to

the extent it permits the State to be made a defendant in its own courts. 4 However, tax-

assessment appeals are essentially illegal-exaction claims.5

1 Ark. Code Ann. § 26-18-406(a)(1)(A) (Supp. 2021). 2 Thurston v. League of Women Voters of Ark., 2022 Ark. 32, at 17, 639 S.W.3d 319, 327 (Womack, J., dissenting) (rejecting judicially created exceptions to this constitutional prohibition). 3 2018 Ark. 12, at 10, 535 S.W.3d 616, 622. 4 See id. 5 See City of Jacksonville v. Smith, 2018 Ark. 87, at 6, 540 S.W.3d 661, 666 (holding that “[a]n illegal exaction is defined as any exaction that either is not authorized by law or is contrary to law”). Concerning taxes, this court has recognized two species of illegal-exaction cases: first,

public funds cases, where the plaintiff contends that public funds generated from tax dollars

are being misapplied or illegally spent; and second, illegal-tax cases, where the plaintiff asserts

that the tax itself is illegal.6 A tax-assessment contest is, in effect, an illegal-tax claim. Insofar

as an Arkansas taxpayer alleges that the State has mis-assessed his tax burden, he is alleging

that the State has imposed an illegal tax because DFA may collect only those taxes authorized

by state law.7

Therefore, when the State seeks to impose a tax burden on one or more of its citizens

that exceeds the amount authorized by statute or our constitution, the State has imposed an

illegal tax, i.e., an illegal exaction.8 Because the constitution expressly authorizes illegal-

exaction claims against the State, sovereign immunity does not bar the Gateses’ tax-

assessment contest.9

6 Prince v. Ark. State Highway Comm’n, 2019 Ark. 199, at 5, 576 S.W.3d 1, 4. 7 Ark. Code Ann. § 26-18-401(b)(1); see also Ark. Const. art. 16, § 11 (“No tax shall be levied except in pursuance of law, and every law imposing a tax shall state distinctly the object of the same . . . .” ). 8 See City of Jacksonville, 2018 Ark. 87, at 6, 540 S.W.3d at 666. 9 Rutledge v. Remmel, 2022 Ark. 86, at 10, 643 S.W.3d 5, 11 (Womack, J., concurring) (citing Ark. Const. art. 16, § 13). 8 ROBIN F. WYNNE, Justice, dissenting. From my de novo review of the record,

I think the trial court correctly determined that DFA was entitled to summary judgment.

Accordingly, I respectfully dissent.

A tax deduction is allowed only as a matter of legislative grace, and one claiming the

deduction bears the burden of proving that he is entitled to it. Weiss v. Am. Honda Fin.

Corp., 360 Ark. 208, 213, 200 S.W.3d 381, 384 (2004). Therefore, if the Gateses contend

that they are entitled to additional deductions beyond those allowed by DFA, they bear the

burden of proving entitlement to those deductions. When parties file cross-motions for

summary judgment, as was done here, they essentially agree that there are no material facts

remaining to be litigated and that summary judgment is an appropriate means of resolving

the case. Douglas Cos., Inc. v. Walther, 2020 Ark. 365, at 5, 609 S.W.3d 397, 400.

The majority concludes that DFA did not meet its prima facie burden of proving the

total amounts of taxable income that it had calculated for 2015, 2016, and 2017. But exhibit

J to DFA’s motion for summary judgment shows the amount of net taxable income:

$357,066 for 2015; $265,982 for 2016; and $204,097 for 2017. This exhibit also shows how

DFA calculated the net taxable income: adjusted gross income as shown on the Gateses’ tax

returns, plus adjustments to the Gateses’ business income made during the audit less

deductions. To show the amount of taxable income, DFA attached to its motion for

summary judgment the Gateses’ individual tax returns; tax returns from their business, the

Stonebridge Collection; and 1099s issued to the Stonebridge Collection and to Mr. Gates

individually. At the request of counsel, DFA gave the Gateses a schedule of disallowed

business expenses, attached as exhibit C to the Gateses’ motion for summary judgment and response to DFA’s motion for summary judgment.1 DFA did not have the burden of proving

that the Gateses were not entitled to additional deductions.

In my view, DFA met its prima facie burden of showing that the Gateses were

Arkansas residents who had income subject to Arkansas income tax. It did so through the

Gateses’ individual tax returns, business tax returns, and 1099s provided by the Gateses to

DFA during the audit. The Gateses then had the burden of proving that they were entitled

to additional deductions. Am. Honda Fin. Corp., 360 Ark. at 213, 200 S.W.3d at 384. They

failed to do so.

To support their argument that they were entitled to tax deductions, the Gateses

point to several exhibits filed with their motion for summary judgment and response to

DFA’s motion: exhibit D (a series of spreadsheets explaining business expenses, not attached

to an affidavit or otherwise authenticated), exhibit K (bank statements, canceled checks, and

receipts, not attached to an affidavit or otherwise authenticated), and exhibit L (copies of

receipts that were not served on DFA before the hearing on the summary-judgment motions

and not filed with the Gateses’ motion and response). They also rely on an electronic

QuickBooks file, which was not filed with the trial court and is not part of the record. The

trial court struck exhibits D and K because they “contain hearsay, are not properly

authenticated, and contain information Mr. Gates declined to provide at his deposition.”

On appeal, the Gateses do not explain which hearsay exception would apply to these

exhibits, and this court should not have to hunt for an exception. We will not make a party’s

1 The Gateses’ motion for summary judgment and response to DFA’s motion for summary judgment were combined into a single filing. 10 argument for them or consider an argument that is not properly developed. Teris, LLC v.

Chandler, 375 Ark. 70, 86, 289 S.W.3d 63, 75 (2008). The trial court struck exhibit L

because it was not introduced, nor was it part of the record. Because it is not in the record,

we cannot consider it. We cannot consider the QuickBooks file either because it was not

filed with the trial court and is not part of the record. In addition, Mr. Gates asserted his

Fifth Amendment right and declined to answer questions about specific deductions, and

Mrs. Gates did not testify at all. In short, the Gateses failed to meet proof with proof that

they were entitled to additional deductions. Accordingly, the trial court did not err in

granting summary judgment to DFA.

The majority also expresses uncertainty about the amount of tax that DFA says the

Gateses owe. But the Amended and Corrected Notices of Final Assessment dated August

24, 2020, which are attached to the Gateses’ complaint, plainly show the Gateses’ tax

liability—$23,864 for 2015; $17,262 for 2016; and $13,061 for 2017, excluding penalties

and interest. How these numbers were calculated is apparent from the record. Take 2015.

The August 24 Amended and Corrected Notice of Final Assessment shows $23,864 in tax

liability. This number represents the amount of net tax shown on line 36 of the Gateses’

individual tax return, attached as exhibit D to DFA’s motion for summary judgment

($14,948—the same amount as in the August 14 Notice of Final Assessment), plus the

additional tax liability determined by the audit ($8,916—the amount shown in the August

13 Summary of Findings attached as exhibit J to DFA’s motion for summary judgment).

The amount shown in the August 27 letter ($21,826) simply represents the total tax liability

($23,864) less the amount of income tax withheld ($2,038—the amount shown on line 37

11 of the Gateses’ individual tax return).2 The same calculations can be made for 2016 and

2017.3

Because I would affirm the trial court’s order granting summary judgment to DFA,

I respectfully dissent.

DeWitt Law, PC, by: Tyler H. DeWitt and Clinton L. DeWitt, for appellants.

Keith K. Linder, Bradley B. Young, and Michelle L. Baker, Office of Revenue Legal

Counsel, for appellee.

2 These numbers also explain what the majority characterizes as “DFA’s fluctuating calculation of the Gateses’ tax liability.” 3 There appears to be a clerical error in the August 14 Notice of Final Assessment for 2017. The amount should probably be $6,777, which is the amount listed on the Gateses’ 2017 tax return, not $6,284, which is the audit adjustment reflected in the August 13 Summary of Findings. 12