For the primary time for the reason that enactment of the False Claims Modification Act of 2020, the DC Legal professional Normal’s (AG’s) Workplace has used its new tax enforcement powers to pursue an alleged private earnings tax deficiency. This growth brings to the forefront a long-simmering constitutional drawback with DC’s statutory residency legislation and gives a stern warning to companies that help key staff and executives with their private tax obligations.
The press quickly and extensively reported on DC’s lawsuit towards MicroStrategy Co-Founder, Govt Chairman and former CEO Michael Saylor for alleged evasion of D.C. private earnings taxes, which was made public this week. The case alleges that Saylor wrongly claimed that he was a resident of Virginia or Florida (moderately than DC) since a minimum of 2012.
The case was initially introduced underneath seal by a relator underneath DC’s False Claims Act in April 2021—lower than one month after the False Claims Modification Act took impact. Utilizing its new tax authority, the DC AG’s Workplace filed a criticism final week to intervene (taking on the case going ahead). Curiously, when the DC AG’s Workplace took over the case, it added MicroStrategy as a defendant underneath the speculation that the corporate conspired to assist Saylor evade DC private earnings taxes. Beneath DC’s False Claims Act, each Saylor and MicroStrategy might be answerable for treble damages if a court docket guidelines in favor of the DC AG’s Workplace.
ISSUES WITH DC’S “STATUTORY RESIDENCY” TEST
Whereas figuring out the place a person is a resident for state and native tax functions usually requires a fact-intensive evaluation, the case towards Saylor additionally implicates DC’s distinctive (and sure unconstitutional) statutory residency customary. DC’s statute is essentially completely different than statutory residency requirements in different states. Most states solely tax people having their domicile within the state as residents, whereas some states even have a “statutory residency” take a look at to categorise people as taxable residents. In most states, an individual is classed as a statutory resident in the event that they (1) keep a everlasting place of dwelling within the jurisdiction and (2) spend greater than a selected variety of days (usually 183 days) within the jurisdiction.
DC truncates this customary and classifies somebody as a statutory resident in the event that they merely keep a private place of dwelling in DC for greater than 183 days. Thus, no quantity of precise presence of the person in DC is required. The issue created by this one-of-a-kind customary must be apparent: somebody can (as many high-net-worth people typically do) keep a residence for 183 days in a couple of jurisdiction. Thus, the plain language of the statute would violate the Commerce Clause of the US Structure as a result of it runs afoul of the interior consistency take a look at. Beneath this take a look at, a statute is unconstitutional if underneath a hypothetical state of affairs by which each jurisdiction has the identical legislation because the one being challenged, greater than 100% of the tax base could be topic to tax. Right here, if each state had a statutory residency take a look at relevant to anybody who had a place of dwelling within the jurisdiction for greater than 183 days, each state by which an individual owned a residence may tax 100% of that particular person’s earnings. In idea, a person with a place of dwelling in 5 completely different states could be taxed on 500% of their earnings by these states—a clearly unconstitutional consequence.
The one strategy to protect the constitutionality of DC’s statutory residency statute is to have a extra restricted definition of “everlasting place of dwelling” such that even when an individual had a residence in a number of states, solely a kind of residences could be deemed the everlasting place of dwelling. The truth is, a minimum of one judicial determination maker in DC has particularly narrowed the statutory interpretation to evolve to constitutional necessities. Nevertheless, the DC statute offers no such limitation, and even when a extra restricted interpretation is utilized, it isn’t clear how the revised customary would differ from the extra conventional domicile evaluation, eliminating the necessity for a separate statutory residency customary within the district. In sum, DC’s present statutory residency customary dangers invalidity and the DC Council, or a minimum of the DC Workplace of Tax and Income, ought to present the mandatory limiting definitions and readability to make sure it’s utilized in a constitutional method.
ISSUES WITH DC BRINGING A FALSE CLAIMS ACT CASE AGAINST A PUBLICLY TRADED COMPANY RELATED TO AN EMPLOYEE’S PERSONAL INCOME TAX LIABILITY
The DC AG’s Workplace’s determination so as to add a publicly traded firm as a defendant in a private earnings tax case must be of concern to any enterprise with actions in DC It isn’t unusual for an organization, even a big one, to supply tax recommendation to their staff—notably to extremely compensated staff with advanced compensation packages or enterprise location necessities. Such firms even have withholding obligations that require coordination on residency determinations to adjust to state and native tax legal guidelines.
The addition of MicroStrategy as a co-defendant to Saylor’s case ought to push firms to evaluation prior recommendation they supplied to staff and think about potential dangers that might come up in reference to its compliance with state and native withholding obligations. In jurisdictions like DC that embrace tax issues underneath the purview of their false claims act, the danger to employers (and probably exterior advisors) is elevated. Corporations ought to think about fastidiously documenting their due diligence relating to these points, together with probably consulting with exterior legal professionals relating to the appliance of related withholding tax legal guidelines and documenting how the corporate complied with any steering supplied.
Observe Notice: This case is more likely to elevate many problems with first impression within the district relating to the appropriateness of increasing the False Claims Act to incorporate tax points. For a extra sturdy dialogue of the issues raised by such growth, see our prior protection of legislative growth efforts in DC, California and New York. Whereas Saylor’s case has generated important media voyeurism, it’s also an essential case as a result of it highlights the constitutional drawback with DC’s statutory residency legislation and the dangers (together with treble damages!) firms could inadvertently assume within the rising variety of jurisdictions with a false claims act relevant to tax issues once they present their staff with steering addressing private earnings tax compliance.