Tax Type
Corporation Income Tax
Description
Delta Air Lines, Inc., v. W. H. Forst, et al.
Topic
Allocation and Apportionment
Date Issued
01-27-1998
VIRGINIA:
IN THE CIRCUIT COURT FOR THE COUNTY OF ARLINGTON
DELTA AIR LINES, INC.,
Plaintiff, At Law No. 93-1238
W. H. FORST, et al.,
Defendants,
Upon consideration of the evidence admitted at the trial of this matter and the
submissions of the parties filed herein, the Court makes the following findings of fact
and conclusions of law.
This Court has jurisdiction over this action pursuant to VA. Code §§ 58.1-1825 and 8.01-184 and -186. Venue is proper in this Circuit.
Delta is qualified to do business and, during the years involved in this case, did business in the Commonwealth. Delta was and is a common carrier of persons and property in interstate commerce under the laws of the United States. Delta conducts business activities both in and outside the Commonwealth.
Delta's business activities in the Commonwealth include the carriage of persons and property on aircraft that land in and depart from airports located in the Commonwealth. The airports within the Commonwealth at which Delta aircraft land and from which Delta aircraft depart are National Airport in Arlington County, Norfolk Airport, Richmond Airport, and Dulles International Airport. Delta also operates aircraft flights over the Commonwealth that do not involve a takeoff or landing at an airport located in the Commonwealth ("overflights"). Delta's overflights are the subject of this case.
For the tax years ending June 30, 1987, June 30, 1988, June 30, 1989, and June 30, 1990, Delta used the three factor method under the Virginia Code to apportion its income in determining its Virginia tax liability. See Va. Code §§ 58.1-406, 408. The three factors used by Delta, in accordance with the Virginia Code, are the property factor, the payroll factor and the sales factor. As more fully described below, Delta determined the property and sales factors based upon the mileage of Delta flights that land in and depart from airports within the Commonwealth, as a percentage of systemwide miles flown by Delta flights.
Delta determined that the amount of income subject to tax in Virginia and the corresponding amount of Virginia income tax were as follows:
Year Ending Virginia Income Tax
June 30, 1987 $1,770,431 $106,226
June 30, 1988 2,718,487 163,109
June 30, 1989 3,699,798 221,988
June 30, 1990 1,184,689 71,081
Delta paid its Virginia income taxes prior to the Commonwealth's deadline for payment of income taxes for each of the designated tax years.
Year Ending Additional Tax
June 30, 1987 $ 238,373.30
June 30, 1988 325,276.92
The Defendants asserted no penalties against Delta.
The Defendants' October 25, 1989, Notices of Assessment provided that Delta had the opportunity to protest the assessments in writing, which provision is in accordance with Va. Code § 58.1-1821 (permitting a protest to be filed in response to a notice of assessment). On April 11, 1990, Delta filed its protest, which the Defendants accepted for consideration. Later, on September 21, 1990, the Defendants denied Delta's protest in Commissioner's Ruling 90-173. Although Commissioner's Ruling 90-173 advised Delta that the "assessments are correct" and that the Department would issue an "updated bill," Commissioner's Ruling 90-173 did not state when the updated billing statement would be issued.
In his September 21, 1990, ruling denying Delta's administrative appeal, the Commissioner advised Delta that the assessments relating to the tax years ending June 30, 1987, and June 30, 1988, were correct, due and payable. At the time of the September 21, 1990, ruling, no other assessments by the Department against Delta were outstanding.
The Defendants next sent to Delta a second document marked as a "Notice of Assessment" on October 24, 1990, for each of the tax years ending June 30, 1987, and June 30, 1988. There was no evidence presented by the Defendants to this Court explaining the Defendants' actions in sending Delta the second "notices of assessment" instead of an updated billing statement form. These notices, sent to Delta on October 24, 1990, reference the "Date of Assessment" of October 25, 1989, the same amount of corporate tax assessed for the respective years as referenced in the October 25, 1989, Notices of Assessment, as well as the same bill numbers for the respective years as referenced in the October 25, 1989, Notices of Assessment. Further, these notices of October 24, 1990, include figures indicating additional accrued interest on the respective assessed amounts as of October 24, 1990, and include the words "Updated Bill" on the face of the documents.
The October 24, 1990, notices contained no markings to indicate that the forms were not notices of assessment; for example, the words "Notice of Assessment" were not blocked out. Also, the Defendants admit that the copies of said notices as submitted into evidence were true copies of "each of the second notices of assessment" issued on October 24, 1990, and that admission by the Defendants is conclusive and binding.
The Defendants did not send Delta the form used by the Department as a billing statement to taxpayers on October 24, 1990. The October 24, 1990, notices sent to Delta were not accompanied by any letter or other correspondence from the Department indicating that the Department did not intend the October 24, 1990, notices to be construed as anything other than as what they were marked, i.e., notices of assessment. Delta construed the October 24, 1990, notices as notices of assessment for all purposes, including statute of limitations purposes, thus treating the notices as separate assessments made on the date of issuance, October 24, 1990. The Department did not advise Delta in any way that these second notices were not intended as notices of assessment for statute of limitations purposes.
The notices of October 24, 1990, state that Delta may "protest the above assessment" in writing within 90 days "from date of assessment," which provision is in accordance with Va. Code § 58.1-1821. Based on the express statement set forth in the October 24, 1990, notices, Delta filed a second protest on January 21, 1991, writing to the Commissioner "[i]n response to your . . . October 24, 1990 Notices of Assessment" and requesting that the protest letter be regarded "as Delta's formal protest." The Defendants accepted for consideration Delta's January 21, 1991, protest.
On March 19, 1991, the Defendants issued to Delta a second ruling (Commissioner's Ruling 91-41), which did not in any manner advise Delta that the October 24, 1990, notices were not to be construed as notices of assessment. The Defendants treated the October 24, 1990, notices as notices of assessment, given the Defendants' acceptance of Delta's January 21, 1991, protest and the absence of any notification that the October 24, 1990, notices were not to be so construed. There was no evidence presented by the Defendants to this Court that shows that the Defendants did not regard the October 24, 1990, Notices of Assessment as notices of assessment.
On February 21, 1991, the Department sent Delta a consolidated bill statement. The Defendants' consolidated bill statement form is clearly different from the Department's notice of assessment forms sent to Delta on October 25, 1989, and October 24, 1990; for example, the bill statement form does not provide the opportunity to file a protest. On May 6, 1991, Delta paid $759,202 to the Department, under protest, representing the full additional income tax together with $195,552 of interest, as determined by the Defendants for the tax years ending June 30, 1987, and June 30, 1988. Delta filed its original Application for Correction of Erroneous Assessment with this Court on October 22, 1993.
The Defendants at no time prior to Delta's filing suit advised Delta that the October 24, 1990, notices were anything but notices of assessment. The first time the Defendants asserted that the October 24, 1990, documents marked as "Notices of Assessment" were not notices of assessment was in the Defendants' affirmative defenses contained in the Defendants' Demurrer, Grounds of Defense and Affirmative Defenses filed on November 16, 1993. Delta claims that, had the Defendants timely advised Delta that the October 24, 1990, notices were not to be construed as notices of assessment, Delta would have filed its suit by October 24, 1992, within three years of the earlier October 25, 1989, notices. Delta did not simply wait until October 22, 1993, to file suit. In the intervening period, Delta engaged in a continuing and active dialogue with the Defendants concerning the propriety of the Defendants’ audit position, in the effort to resolve the matter administratively.
The Defendants conducted an audit of Delta's tax years ending June 30, 1989, and June 30, 1990, and issued an audit report on September 10, 1992. On September 16, 1992, the Defendants issued to Delta a "Notice of Assessment" of additional income tax for each of the tax years ending June 30, 1989, and June 30, 1990, in which the Defendants determined that additional Virginia income tax was due as follows:
Year Ending Additional Tax
June 30, 1989 $ 399,762.78
June 30, 1990 195,155.71
The Defendants asserted no penalties against Delta.
The Defendants' September 16, 1992, notices provided that Delta had the opportunity to protest the assessments in writing. On December 14, 1992, Delta filed its protest to the September 16, 1992, notices, which the Defendants accepted for consideration. Later, on February 25, 1993, the Defendants denied Delta's protest in Commissioner's Ruling 93-38.
On or about March 24, 1993, Delta paid $798,505 to the Department, under protest, representing the full additional income tax together with $203,587 of interest, as determined by the Defendants for the tax years ending June 30, 1989, and June 30, 1990.
The property factor used by Delta has a numerator and denominator. Delta included in the numerator property used in Virginia. The denominator of the property factor reflected property everywhere.
There are two types of property used in Virginia, which are included by Delta in the numerator of the property factor: ground property and flight property. Ground property, such as Delta's baggage carts, tugs and other equipment, is included based on situs; accordingly, Delta's property factor included the value of ground property used at airports in Virginia. Flight property consists of Delta's aircraft.
In determining the value of aircraft used in Virginia, Delta used a mileage formula. The mileage formula used by Delta included in the numerator miles travelled by Delta aircraft from the Commonwealth's border to an arrival airport located in Virginia and miles travelled from a departure airport located in Virginia to the Commonwealth's border. Delta used those "actual arrival and actual departure" miles in the numerator of the property factor because those miles relate to Delta's use of facilities or services in Virginia, and measure Delta's activities that have a connection to Virginia. Overflight miles were not included in the numerator of Delta's mileage formula for the property factor.
As to the sales factor, Delta used a mileage formula for passenger and cargo revenue. Similar to the property factor, the mileage formula used by Delta for the sales factor included actual arrival and actual departure miles in the numerator, because those miles reflect sales activities that have a connection to Virginia. Overflight miles were not included in the numerator of Delta's mileage formula for the sales factor.
All miles flown by Delta aircraft were included in the denominator of the mileage formula used by Delta for the property and sales factors.
In the event of an unscheduled landing of a Delta aircraft at an airport located in Virginia, Delta included the miles travelled by such aircraft from the Commonwealth's border to the arrival airport as actual arrival miles, and from the airport in Virginia to the Commonwealth's border as actual departure miles; accordingly, Delta included those miles in the numerators of the property and sales factors because the aircraft actually landed in Virginia.
Delta consistently used the same apportionment method for Virginia income tax purposes in tax years prior to the four years involved in this case. Accordingly, Delta consistently included in the numerators of the property and sales factors the actual arrival and actual departure miles, and did not include overflight miles in the numerators. Delta's mileage formula included in the denominator all miles flown by Delta aircraft.
The Department audited Delta for prior tax years, including for the tax years ending June 30, 1983, June 30, 1984, and June 30, 1985. The Department issued a report of its audit of those three tax years on March 31, 1987. In the audit of those three prior years, the Department was aware of Delta's mileage formula, and of Delta's use of actual arrival and actual departure miles and of systemwide miles. The Department did not propose in any prior audit to change Delta's apportionment method in a manner to require Delta to include overflights in apportioning Delta's income. The Defendants first contested Delta's mileage formula in the audit of the tax years ending June 30, 1987, and June 30, 1988.
In preparing and filing its state tax returns, Delta considers published guidance issued by a state to determine how to apportion its income. At the time Delta filed its Virginia tax returns for the years involved in this case, Virginia had not provided any guidance regarding the apportionment of airline income, whether in the form of legislation, regulations, or rulings. Virginia first proposed to tax Delta on overflights following the audits of the tax returns for the years at issue. This was a change in Virginia's audit position. In fact, the first time Delta was provided formal notice of the Defendant's position taxing Delta's overflights was on September 21, 1990, in Commissioner's Ruling 90-173.
The airline industry practice for apportioning income is that overflights are not included in the numerators of the factors in any apportionment formula. Different states use different formulas to apportion airline income, which fact is illustrated by a hypothetical flight from Georgia, which uses departures and tons in its apportionment formula, to New York, which uses arrivals and tons handled. If every state between Georgia and New York were to tax Delta
based on overflights, there is a risk that there would be tax on more than 100% of the income for that Delta flight.
The Federal Aviation Administration (the "FAA") is the only government agency (federal, state or local) that fixes approved routes for aircraft flying through United States airspace. Accordingly, the FAA designates approved routes for Delta aircraft, including aircraft in flight over the Commonwealth. The FAA also has sole authority to approve alternate routes for weather-related, economic, air traffic, or other reasons. In short, Delta aircraft fly routes designated by the air traffic control system, a federal system. A Delta flight, from departure gate, en route, and to arrival gate is in a purely federal environment.
Delta aircraft in flight communicate with either the air traffic control system or with Delta's operations control center, which oversees Delta flight schedules. The Delta personnel at Delta's operations control center who are authorized to communicate with Delta aircraft are licensed dispatchers. As to flight path control and the arranging of airport departure and arrival slots, Delta's aircraft communicate with air traffic control. For weather reporting services, Delta's aircraft receive information from Delta's operations control center and from air traffic control. As to any navigational matters during a flight, Delta's aircraft communicate with air traffic control.
There are no communications between Delta's overflying aircraft and any Virginia official or Virginia agency. Delta's aircraft use restricted frequencies, so that no person outside the FAA, other than the designated Delta dispatcher at Delta's operations control center, is able to contact the Delta aircraft.
Thus, as to Delta's overflights: (1) Delta does not use any services in Virginia; (2) there are no ground operations at airports located in the Commonwealth which provide services for Delta overflights; (3) Delta does not pick up or unload passengers in Virginia; and (4) Delta does not pick up or unload any fuel or cargo in Virginia. As to Delta's overflights, Delta derives no services from Virginia and Delta requests no services from Virginia. In sum, as to Delta's overflights, Delta has not availed itself of any benefit, economic or otherwise, from the Commonwealth, nor has the Commonwealth has provided any benefit, economic or otherwise, to Delta.
There are probably 300-500 Delta overflights over Virginia each day. If an emergency arises, Delta's aircraft contact the air traffic control system and are guided by the FAA. Delta's aircraft do not contact or call any state (or local) agency to request fire, rescue or any other services in the event of an emergency. Delta has had only one emergency landing in Virginia in the past year, and there have been no crashes in the Commonwealth in recent years. Although not every emergency occurring during the flight of an aircraft requires an emergency landing, if there were an unscheduled landing, Delta would use equipment located at that airport where the aircraft lands and pay landing fees to that airport. Delta pays landing fees at any arrival airport.
There is no evidence that Virginia, or any non-federal agency, rendered any services to any Delta overflight or assisted in any emergency situation. Moreover, Delta does not choose to fly over Virginia because Virginia offers any particular services. In case of an emergency landing or crash occurring at sites other than an airport, Delta would expect to receive emergency assistance from state and local authorities.
For each of the tax years in question, the General Assembly appropriated state funds to maintain and support state and local police, fire and emergency services. The Court takes judicial notice of all public laws or acts of the General Assembly. Randall v. Commissioner, 183 Va. 182, 31 S.E.2d 571 (1944). In this regard, Budget Bills are considered, drafted and adopted by the General Assembly. There is no evidence in the record that shows that Virginia specifically budgets or uses any taxpayer dollars to fund services for commercial airline emergencies.
In 1982, Senate Bill 231 was offered as an amendment to the Code of Virginia, relating to the apportionment of income of airline companies for purposes of the corporate income tax. If enacted, Senate Bill 231 would have put in place a statute addressing the apportionment of airline income.
Senate Bill 231, which was referred to the Senate Committee on Finance, proposed enactment by the General Assembly of the following provision: "§ 58-151.050:4. Airline companies; apportionment. -- Airline companies shall determine their net apportionable income to this State by multiplying Virginia taxable income of such company . . ., by the use of the ratio of revenue miles in this Commonwealth to the total revenue miles of the corporation."
Tax policy in Virginia is set by the General Assembly, and the Department cannot direct the General Assembly to set a particular policy. The Commissioner can only make policy recommendations to the General Assembly; the Commissioner does not dictate tax policy to the General Assembly.
On February 5, 1982, the Commissioner submitted a counterproposal to Senate Bill 231. It is not uncommon for the Commissioner and the Department to offer their own proposed language to a General Assembly bill, and if the Commissioner and the Department have a position on a particular bill before the General Assembly, they would make that position known. The Commissioner's counterproposal of February 5, 1982, to Senate Bill 231 proposed the following revised language: "C) A revenue mile shall be within this State if the aircraft carrying passengers or property moves through the air space over this State . . ." The Defendants, thus, attempted to obtain through the General Assembly a statute that would permit the Defendants to tax airlines based on overflights.
It was the Department's conclusion at that time that "in" this Commonwealth, as set forth in Senate Bill 231, did not mean in "air space over" the Commonwealth. After the Department attempted to obtain the referenced revision to Senate Bill 231, to include overflights, the bill was not passed into law by the General Assembly.
The Virginia Code in effect today refers to property used and income-producing activity in the Commonwealth," and does not refer to activity in airspace over the Commonwealth. The Commissioner, further, acknowledges that the use of the word "in" in the Virginia corporate income tax apportionment statutes does not necessarily require that those statutes be construed to include activity "over" the Commonwealth.
The Department prepared an issue paper dated September 8, 1989 (the "Issue Paper"), in which the Department acknowledged that "existing statutory and regulatory policies do not specifically deal with some of the unique characteristics of the airlines." The Issue Paper is not a document promulgated by the Commissioner and does not have the force and effect of a regulation or public ruling letter. In the Issue Paper, the Department also acknowledged that in the absence of legislative or regulatory action, the airline industry is subject to the three factor formula. The Department stated that it was unresolved as to how each of the three factors applies to the airline industry. Further, the Department acknowledged that existing regulations are not suitable for use in apportioning airline income.
Additionally, the Department acknowledged in the Issue Paper that there are specific apportionment formulas for motor carriers and railroad companies. The Department also acknowledged the statutory limitations on the Commissioner's and the Department's authority to adopt alternative methods of apportionment of corporate income. In this regard, the Department acknowledged that its statutory authority is limited to circumstances involving: (1) granting a request by a corporate taxpayer; (2) if the statutory method is inequitable; and (3) if the tax under the alternative method is lower than the tax under the statutory method. See Va. Code § 58.1-421. Accordingly, the Department acknowledged that it does not have the statutory authority to adopt a general alternative apportionment method on the grounds that it is more practical or accurate.
The Department considered implementing a "departures formula" for the apportionment of airline income. But the Department admitted that the use of a departures formula would be a new policy for Virginia, and that it should not be adopted "in the absence of legislative or regulatory action." The Department further recognized concerns about the accuracy of a departures formula. Accordingly, the Department recommended a regulation project be initiated to propose the use of departures so that the airline industry would have an opportunity to make its views known under the Virginia Administrative Process Act. There is, however, no evidence of any legislation or regulation that authorizes the use of a departures formula, nor of the Defendants' efforts to obtain any such legislation or regulation.
Accordingly, although the Department had considered issuing regulations regarding the apportionment of airline income, there are no regulations that provide guidance to the airlines. Virginia does not have any statute or regulations regarding apportionment of airline income.
In audits conducted since January 1, 1985, the Department's auditors generally began to take the audit position that the property and sales factors should include overflights in the numerator. Without seeking legislation or regulations, the Defendants adopted an audit position to tax Delta on its overflights. Although the Defendants admit that it is appropriate to consider how other states tax corporate income, there is no evidence that the Defendants did so before adopting the audit position to tax Delta on its overflights. In the Defendants' view, an apportionment formula for corporate income can be arbitrary and does not always recognize economic reality.
The Defendants' mileage formula used for purposes of allocating Delta's worldwide income to the Commonwealth refers to and includes in the numerator miles flown by Delta aircraft over the Commonwealth whether or not the aircraft land in or depart from an airport located within the Commonwealth. The Defendants continue to maintain that Delta is subject to Virginia income tax based upon all miles flown by Delta aircraft over Virginia, which includes overflight mileage.
At the time of the administrative review of its protest, Delta was advised that acceptance by the Department of the mileage method for the apportionment formula requires that overflight miles be included in both the numerator and the denominator of the fractions in the three-factor formula. The Defendants for the first time formally informed Delta of the determination to tax Delta on its overflights in Commissioner's Ruling 90-173, dated September 21, 1990, which was issued after the close of each of Delta's tax years involved in the present case.
The Defendants did not base their audit determination to tax Delta based on overflights on hypothetical emergency landings of Delta or any other commercial aircraft. The Defendants' position is based on the view that if certain values are excluded from the numerators of a fraction while included in the denominator of that fraction, the sum of the numerators will never equal the denominator. Thus, if certain miles are excluded from the numerators of a fraction representing each taxing jurisdiction's apportioned share, while those miles are included in the denominator of that fraction, the sum of the numerators (representing the respective apportioned shares of the various jurisdictions) will never equal the denominator.
Upon adoption of their audit position, the Defendants issued a series of rulings to taxpayers in the airline industry. The Defendants have allowed some airlines to use a different method of apportioning income than other airlines. The Department will accept an apportionment formula based on either mileage or departures. Taxpayers may elect to use either of the apportionment formulas accepted by the Department (i.e., using either departures or mileage in an apportionment formula). Delta elected to use an apportionment formula based on mileage. Delta has used an apportionment formula based on departures in other jurisdictions, and Delta's Application for Correction of Erroneous Assessment does not challenge the legality of an apportionment formula based on departures. For any tax year that was not yet closed at the time of the administrative appeal to the Commissioner, Delta could have filed an amended return in which apportionment of Virginia income was made using a departures methodology.
In adopting their audit position, and in preparing the Issue Paper, the Defendants did not consult with industry representatives. In that regard, the Defendants did not issue any public notices prior to adopting a mileage formula that taxes Delta based on overflights. The Defendants did not hold any public hearings or seek comments from interested persons or entities about the appropriate formula for apportioning airline income. The Defendants did not conduct any survey, or perform any statistical or other analysis regarding the impact on airlines, air routes, or other aspects of the commercial airline industry. Nor did the Defendants confer, consult with or attempt to contact any federal officials or authorities including the FAA or the Department of Transportation about the Defendants' proposed audit position to tax Delta on its overflights. To date, the Defendants have not issued any regulations that prescribe a mileage formula that includes overflights, or that prescribe an apportionment formula for airline income.
The result of the Defendants’ determination to tax Delta based on overflights increases the apportionment factors for each of the years involved in this case by approximately 300%, and in turn increases Delta's tax liability in Virginia for each of the years involved in this case by approximately 300%. All the Virginia income taxes in dispute in this case are attributable to the Defendants’ determination to tax Delta on its overflights.
The numerator of the sales factor is Delta's sales “in the Commonwealth” during the tax year. As to a service such as the providing of air transportation, Virginia law looks to "income producing activit[ies] performed in the Commonwealth.” The denominator of the sales factor looks to Delta's sales “everywhere.” Va. Code §§ 58.1-414, 416.
The meaning of Virginia law, referring to property located and income-producing activities “in the Commonwealth,” is clear and is to be accepted and given effect. It is reasonable to treat the mileage of an aircraft flight that takes off from or lands at an airport in Virginia as “in the Commonwealth” until the aircraft departs the Commonwealth's border or after it enters the Commonwealth's border, as the case may be, because that activity uses services and facilities in the Commonwealth.
The purpose of Virginia's corporate income apportionment law is to confine taxation in Virginia of business income to that portion of the business income that is attributable to activities in Virginia. The relevant statutory language, specifically the phrase “in the Commonwealth,” is unambiguous and does not, based upon the plain meaning of the words used, include activity “over the Commonwealth.” Indeed, the Commissioner agrees that “in” does not necessarily mean “over” and this Court will not extend the Virginia tax laws to tax Delta's flights over the Commonwealth.
The Virginia Code is one act and is construed as a whole. Va. Code § 1-13; Sheperd v. F.J. Kress Box Co., 154 Va. 421, 153 S.E. 649 (1930). The General Assembly has distinguished between the use of “in” and the use of “over” in statutes of the Commonwealth, and this Court will not interpret the Virginia tax laws here at issue in a manner that would cause other Virginia statutes to contain surplus language. See, e.g., Va. Code §§ 5.1-37, -20. Accordingly, the Defendants' construction of Virginia tax law in a manner that taxes Delta based on its overflights is in error and otherwise improper, and Delta is entitled to refunds of taxes, and interest thereon.
Furthermore, Virginia's corporate income apportionment laws are silent as to activities “over” or “above” the Commonwealth. If the relevant statutes are deemed ambiguous, this Court may consider legislative history. The construction reached herein, however, is not in any part based upon the General Assembly's failure to pass Senate Bill 231 with the modified language requested by the Commissioner to include overflights. See, e.g., Brown v. Lukhard, 229 Va. 316, 330 S.E.2d 84 (1985); Crook v. Commonwealth, 147 Va. 593, 136 S.E. 565 (1927).
To conclude that “in the Commonwealth” as used in Virginia law encompasses Delta's overflight activity “over the Commonwealth” would be an improper extension of the Virginia statutes beyond the clear import of the language used. If there were any doubt concerning the scope of the Virginia tax laws, that doubt must be resolved against the Commonwealth, so as to absolve Delta from its burden. A tax statute that is ambiguous must be construed liberally in favor of the taxpayer. See Va. Code § 1-13; Commonwealth Natural Resources Inc. v. Commonwealth, 219 Va. 529, 248 S.E.2d 791 (1978). Accordingly, the Court construes the phrase “in the Commonwealth” not to include Delta's overflight activity.
The Commissioner may require the use of an accounting or tax reporting methodology which is fair and equitable and which clearly reflects income. However, only the General Assembly may fashion corporate income apportionment statutes for specific industries. See, e.g., Va. Code §§ 58.1-417 (motor carriers); 420 (railway companies). The Commissioner's and the Department's authority to adopt an alternate apportionment method is specially limited by statute to circumstances in which the taxpayer has requested the alternate formula and the tax result is lower than the statutory method of apportionment. See Va. Code § 58.1-421. The Defendants do not have the authority, statutory or otherwise, to adopt on audit an alternative formula for the apportionment of corporate income, especially where that alternative formula is not consistent with the applicable statute or otherwise requires an extension of the statute beyond its stated scope. Accordingly, the Defendants do not have the authority, statutory or otherwise, to tax Delta based on overflights, by treating overflight miles as "in the Commonwealth."
Moreover, the Defendants, even if arguably authorized to adopt an alternate corporate income apportionment formula for the airline industry, must do so in a manner consistent with applicable statutes and pursuant to the registry, hearing and comment procedures of the Virginia Administrative Process Act. The Defendants' audit determination to tax Delta based on overflights violates the Virginia Administrative Process Act. See Va. Code §§ 9-6.14: 1, et seq.
This case may be resolved in favor of Delta on the construction of Virginia's tax laws, as set forth above, and the Court need not address the federal statutory and Constitutional issues. However, as alternate grounds for this opinion, the Court's conclusions with regard thereto follow.
The Defendants' position, to tax Delta based upon the routes its aircraft travel over the Commonwealth, constitutes the attempted enforcement of a Virginia law that “relates to” the routes of Delta's aircraft, a finding with which the Defendants agree. However, the happenstance of Delta's aircraft travelling routes fixed by the FAA over the Commonwealth does not confer on Virginia the jurisdiction to tax those overflights. The Defendants' application of Virginia tax law to reach Delta's overflights, thus, violates the Supremacy Clause and principles of federal preemption. U.S. Const. art. VI, cl. 2; Title 49 U.S.C. § 41713(b).
Moreover, under federal law, the Commonwealth may levy or collect a tax on or related to a Delta flight only if the aircraft takes off or lands in Virginia as a part of the flight. Title 49 U.S.C. § 40116(c). Federal law does not prohibit states from levying a net income tax on commercial air carriers. See, e.g., Northwest Airlines, Inc. v. County of Kent, 510 U.S. 355 (1994); Aloha Airlines, Inc. v. Dir. of Tax. of Hawaii, 464 U.S. 7 (1983). The Defendants' position to tax Delta based on its overflights, though, violates the express prohibition of federal law (in 49 U.S.C. § 40116(c)) because the Defendants' actions amount to levying a tax related to an aircraft flight that does not take off or land in the Commonwealth as a part of the flight. In this connection, the Defendants' application of Virginia tax law to reach Delta's overflights is a tax on the overflights. See, e.g., Trinova Corp. v. Michigan Dep't of Treasury, 498 U.S. 358, 374 (1991) (“A tax on sleeping measured by the number of pairs of shoes you have in your closet is a tax on shoes.”).
Section 40116(c) of Title 49 U.S.C. unambiguously forbids the Defendants from imposing Virginia income tax on or related to Delta's overflights. The Defendants may not add conditions to, or otherwise limit, the protections offered by a federal statute which limits states' powers to impose taxes on income derived by a taxpayer engaged in interstate commerce. Commonwealth v. National Private Truck Council, 253 Va. 74, 480 S.E.2d 500 (1997). Section 40116(c) is short, direct and unqualified, and the Court will not look beyond the plain language of the federal statute.
This case also implicates the Due Process and Commerce Clauses of the United States Constitution. The Due Process Clause requires that there be some definite link, or minimum connection, between the taxing jurisdiction and the person, property, or transaction it seeks to tax. Miller Bros. Co. v. Maryland, 347 U.S. 340 (1954). Delta's overflights have no contact, no definite link, no minimum connection with Virginia, and accordingly, the Defendants' application of Virginia tax law violates the Due Process Clause.
Furthermore, to pass Constitutional muster, the income to be attributed to Virginia for tax purposes must be rationally related to values or activities connected with Virginia. Accordingly, the tax levied by Virginia on Delta must (1) be applied to an activity with a substantial nexus with Virginia; (2) be fairly apportioned; (3) not discriminate against interstate commerce; and (4) be fairly related to services provided by Virginia. Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977). In that regard, the Defendants improperly conclude that corporate income apportionment formulas for taxpayers engaged in interstate commerce are necessarily arbitrary and need bear no relation to economic reality.
The measurement of Virginia tax based upon Delta's overflight activity has no rational relationship to any value or benefit connected with or conferred by Virginia. Delta's overflights do not generate any revenue in Virginia. Accordingly, the Defendants' position amounts to the improper taxing of revenue earned by Delta outside Virginia. The Defendants' application of Virginia tax law to reach Delta's overflights, thus, violates the Commerce Clause because the Defendants tax an activity that has no nexus, much less a substantial nexus, with Virginia.
The Defendants' application of Virginia tax law to reach Delta's overflights also violates the Commerce Clause because the tax as imposed is not fairly apportioned, which requires that Virginia's tax satisfy both the internal consistency and external consistency tests. Container Corp. of America v. Franchise Tax Board, 463 U.S. 159 (1983). The Constitutional requirements for fair apportionment of income are satisfied if a taxing jurisdiction offers a single valid method of apportionment. There is no Constitutional requirement that a state offer multiple methods for apportioning a corporation's net income. See Complete Auto Transit, 430 U.S. 274.
The internal consistency test is used to test a state's apportionment formula for taxing a taxpayer engaged in interstate commerce; it is not applied to determine the correctness of the taxpayer's method of apportionment. A state tax is internally consistent when imposition of an identical tax by every other state would result in no multiple taxation.
The external consistency test asks whether Virginia has taxed only that portion of Delta's revenue which reasonably reflects the in-state component of the activity being taxed. Goldberg v. Sweet, 488 U.S. 252 (1989). The external consistency test looks to the economic justification for Virginia's claim upon value taxed, to determine whether Virginia reaches beyond that portion of the value that is fairly attributable to Delta's economic activity within Virginia. See, e.g., Oklahoma Tax Commission v. Jefferson Lines, Inc., 514 U.S. 175 (1995).
The Defendants' application of Virginia tax law to reach Delta's overflights is not fairly apportioned because it violates the external consistency test and the result is out of all proportion to the business Delta transacts in Virginia. Furthermore, the Defendants' application of Virginia tax law to reach Delta's overflights is not fairly related to any services or benefits, economic or otherwise, provided by Virginia. Accordingly, the Defendants' application of Virginia tax law violates the Commerce Clause.
The Defendants sent Delta the first "Notices of Assessment" for each of the years June 30, 1987, and June 30, 1988, which, after Delta's protest, were followed by second "Notices of Assessment" dated October 24, 1990. The October 24, 1990, notices were clearly marked "Notice of Assessment" and provided Delta an opportunity to apply for relief from, or protest, said assessments within ninety days.
An "assessment" includes a written assessment made pursuant to notice by the Department. Va. Code § 58.1-1820(2). Any taxpayer, such as Delta, assessed with any tax may apply for relief to the Commissioner within ninety days of such assessment. Va. Code § 58.1-1821. Delta construed the October 24, 1990, notices as assessments made on October 24, 1990, and there was no evidence presented through the Commissioner or the Department's witness that these notices were not intended to be assessment notices within the meaning of Va. Code § 58.1-1820(2). These notices constitute notices of assessments made on October 24, 1990.
The assessments relating to the June 30, 1987, and June 30, 1988, tax years were issued on October 25, 1989. Delta filed its original application for relief with this Court on October 28, 1993. Delta's application was filed more than three years from the October 25, 1989, assessments relating to the tax years June 30, 1987, and June 30, 1988. See Va. Code § 58.1-1825.
The Court further decides that “in” does not mean “over” in the Virginia tax laws regardless of legislative consideration and nonenactment of specific language regarding that distinction. The legislative history, in other words, does not compel a particular result here.
Based on the foregoing, Delta is entitled to refunds of tax for the tax years ending
June 30,1989, and June 30,1990, of $485,885 and $219,618, respectively, and interest thereon,
including interest from the dates of Delta's payments.
SO ORDERED.
Dated: 27 January 1998 Paul F. Sheridan, Judge
Seen and objected to for the reasons stated in Plaintiff's Requested Findings of Fact and Proposed Conclusions of Law; Plaintiff's Responses to Defendants' Proposed Findings and Conclusions; Plaintiff's briefs; and in oral argument, which was transcribed, all incorporated herein by reference:
Frederick W. Chockley
H. Karl Zeswitz, Jr.
BAKER & HOSTETLER LLP
1050 Connecticut Avenue, N.W.
Suite 1100
Washington, DC 20036
(202) 861-1500
Of Counsel:
D. Michael Keen
Delta Air Lines, Inc.
Department 971
Hartsfield International Airport
Atlanta, Georgia 30320
Attorneys for Plaintiff
Seen and objected to for the reasons stated in Defendants' Proposed Findings of Fact and Conclusions of Law; Defendants' Memorandum in Response to Plaintiffs' Proposed Findings of Fact and Conclusions of Law; Defendants' briefs; and in oral argument, which was transcribed, all incorporated herein by reference:
Donald R. Ferguson (34010)
Assistant Attorney General
Commonwealth of Virginia
900 East Main Street
Richmond, Virginia 23219
(804) 786-4619
Attorney for Defendants
IN THE CIRCUIT COURT FOR THE COUNTY OF ARLINGTON
DELTA AIR LINES, INC.,
Plaintiff, At Law No. 93-1238
W. H. FORST, et al.,
Defendants,
MEMORANDUM OPINION AND JUDGMENT ORDER
THIS MATTER was tried before the Court, sitting without a jury, on July 7, 1997.Upon consideration of the evidence admitted at the trial of this matter and the
submissions of the parties filed herein, the Court makes the following findings of fact
and conclusions of law.
I. FACTS
A. General Background
The Plaintiff, Delta Air Lines, Inc. ("Delta"), is a corporation organized and existing under the laws of the State of Delaware, with its principal place of business in Atlanta, Georgia. The Defendants are Danny M. Payne, the present Tax Commissioner (the "Commissioner") for the Commonwealth of Virginia (the "Commonwealth"), and the Department of Taxation (the "Department"), an agency of the Commonwealth.A. General Background
This Court has jurisdiction over this action pursuant to VA. Code §§ 58.1-1825 and 8.01-184 and -186. Venue is proper in this Circuit.
Delta is qualified to do business and, during the years involved in this case, did business in the Commonwealth. Delta was and is a common carrier of persons and property in interstate commerce under the laws of the United States. Delta conducts business activities both in and outside the Commonwealth.
Delta's business activities in the Commonwealth include the carriage of persons and property on aircraft that land in and depart from airports located in the Commonwealth. The airports within the Commonwealth at which Delta aircraft land and from which Delta aircraft depart are National Airport in Arlington County, Norfolk Airport, Richmond Airport, and Dulles International Airport. Delta also operates aircraft flights over the Commonwealth that do not involve a takeoff or landing at an airport located in the Commonwealth ("overflights"). Delta's overflights are the subject of this case.
For the tax years ending June 30, 1987, June 30, 1988, June 30, 1989, and June 30, 1990, Delta used the three factor method under the Virginia Code to apportion its income in determining its Virginia tax liability. See Va. Code §§ 58.1-406, 408. The three factors used by Delta, in accordance with the Virginia Code, are the property factor, the payroll factor and the sales factor. As more fully described below, Delta determined the property and sales factors based upon the mileage of Delta flights that land in and depart from airports within the Commonwealth, as a percentage of systemwide miles flown by Delta flights.
Delta determined that the amount of income subject to tax in Virginia and the corresponding amount of Virginia income tax were as follows:
Year Ending Virginia Income Tax
June 30, 1987 $1,770,431 $106,226
June 30, 1988 2,718,487 163,109
June 30, 1989 3,699,798 221,988
June 30, 1990 1,184,689 71,081
Delta paid its Virginia income taxes prior to the Commonwealth's deadline for payment of income taxes for each of the designated tax years.
B. Procedural Audit Steps
The Defendants conducted an audit of Delta's tax years ending June 30, 1987, and June 30, 1988, and issued an audit report on October 20, 1989. On October 25, 1989, the Defendants issued to Delta a document marked as a "Notice of Assessment" of additional income tax for each of the tax years ending June 30, 1987, and June 30, 1988, in which the Defendants determined that additional Virginia income tax was due as follows:Year Ending Additional Tax
June 30, 1987 $ 238,373.30
June 30, 1988 325,276.92
The Defendants asserted no penalties against Delta.
The Defendants' October 25, 1989, Notices of Assessment provided that Delta had the opportunity to protest the assessments in writing, which provision is in accordance with Va. Code § 58.1-1821 (permitting a protest to be filed in response to a notice of assessment). On April 11, 1990, Delta filed its protest, which the Defendants accepted for consideration. Later, on September 21, 1990, the Defendants denied Delta's protest in Commissioner's Ruling 90-173. Although Commissioner's Ruling 90-173 advised Delta that the "assessments are correct" and that the Department would issue an "updated bill," Commissioner's Ruling 90-173 did not state when the updated billing statement would be issued.
In his September 21, 1990, ruling denying Delta's administrative appeal, the Commissioner advised Delta that the assessments relating to the tax years ending June 30, 1987, and June 30, 1988, were correct, due and payable. At the time of the September 21, 1990, ruling, no other assessments by the Department against Delta were outstanding.
The Defendants next sent to Delta a second document marked as a "Notice of Assessment" on October 24, 1990, for each of the tax years ending June 30, 1987, and June 30, 1988. There was no evidence presented by the Defendants to this Court explaining the Defendants' actions in sending Delta the second "notices of assessment" instead of an updated billing statement form. These notices, sent to Delta on October 24, 1990, reference the "Date of Assessment" of October 25, 1989, the same amount of corporate tax assessed for the respective years as referenced in the October 25, 1989, Notices of Assessment, as well as the same bill numbers for the respective years as referenced in the October 25, 1989, Notices of Assessment. Further, these notices of October 24, 1990, include figures indicating additional accrued interest on the respective assessed amounts as of October 24, 1990, and include the words "Updated Bill" on the face of the documents.
The October 24, 1990, notices contained no markings to indicate that the forms were not notices of assessment; for example, the words "Notice of Assessment" were not blocked out. Also, the Defendants admit that the copies of said notices as submitted into evidence were true copies of "each of the second notices of assessment" issued on October 24, 1990, and that admission by the Defendants is conclusive and binding.
The Defendants did not send Delta the form used by the Department as a billing statement to taxpayers on October 24, 1990. The October 24, 1990, notices sent to Delta were not accompanied by any letter or other correspondence from the Department indicating that the Department did not intend the October 24, 1990, notices to be construed as anything other than as what they were marked, i.e., notices of assessment. Delta construed the October 24, 1990, notices as notices of assessment for all purposes, including statute of limitations purposes, thus treating the notices as separate assessments made on the date of issuance, October 24, 1990. The Department did not advise Delta in any way that these second notices were not intended as notices of assessment for statute of limitations purposes.
The notices of October 24, 1990, state that Delta may "protest the above assessment" in writing within 90 days "from date of assessment," which provision is in accordance with Va. Code § 58.1-1821. Based on the express statement set forth in the October 24, 1990, notices, Delta filed a second protest on January 21, 1991, writing to the Commissioner "[i]n response to your . . . October 24, 1990 Notices of Assessment" and requesting that the protest letter be regarded "as Delta's formal protest." The Defendants accepted for consideration Delta's January 21, 1991, protest.
On March 19, 1991, the Defendants issued to Delta a second ruling (Commissioner's Ruling 91-41), which did not in any manner advise Delta that the October 24, 1990, notices were not to be construed as notices of assessment. The Defendants treated the October 24, 1990, notices as notices of assessment, given the Defendants' acceptance of Delta's January 21, 1991, protest and the absence of any notification that the October 24, 1990, notices were not to be so construed. There was no evidence presented by the Defendants to this Court that shows that the Defendants did not regard the October 24, 1990, Notices of Assessment as notices of assessment.
On February 21, 1991, the Department sent Delta a consolidated bill statement. The Defendants' consolidated bill statement form is clearly different from the Department's notice of assessment forms sent to Delta on October 25, 1989, and October 24, 1990; for example, the bill statement form does not provide the opportunity to file a protest. On May 6, 1991, Delta paid $759,202 to the Department, under protest, representing the full additional income tax together with $195,552 of interest, as determined by the Defendants for the tax years ending June 30, 1987, and June 30, 1988. Delta filed its original Application for Correction of Erroneous Assessment with this Court on October 22, 1993.
The Defendants at no time prior to Delta's filing suit advised Delta that the October 24, 1990, notices were anything but notices of assessment. The first time the Defendants asserted that the October 24, 1990, documents marked as "Notices of Assessment" were not notices of assessment was in the Defendants' affirmative defenses contained in the Defendants' Demurrer, Grounds of Defense and Affirmative Defenses filed on November 16, 1993. Delta claims that, had the Defendants timely advised Delta that the October 24, 1990, notices were not to be construed as notices of assessment, Delta would have filed its suit by October 24, 1992, within three years of the earlier October 25, 1989, notices. Delta did not simply wait until October 22, 1993, to file suit. In the intervening period, Delta engaged in a continuing and active dialogue with the Defendants concerning the propriety of the Defendants’ audit position, in the effort to resolve the matter administratively.
The Defendants conducted an audit of Delta's tax years ending June 30, 1989, and June 30, 1990, and issued an audit report on September 10, 1992. On September 16, 1992, the Defendants issued to Delta a "Notice of Assessment" of additional income tax for each of the tax years ending June 30, 1989, and June 30, 1990, in which the Defendants determined that additional Virginia income tax was due as follows:
Year Ending Additional Tax
June 30, 1989 $ 399,762.78
June 30, 1990 195,155.71
The Defendants asserted no penalties against Delta.
The Defendants' September 16, 1992, notices provided that Delta had the opportunity to protest the assessments in writing. On December 14, 1992, Delta filed its protest to the September 16, 1992, notices, which the Defendants accepted for consideration. Later, on February 25, 1993, the Defendants denied Delta's protest in Commissioner's Ruling 93-38.
On or about March 24, 1993, Delta paid $798,505 to the Department, under protest, representing the full additional income tax together with $203,587 of interest, as determined by the Defendants for the tax years ending June 30, 1989, and June 30, 1990.
II. DISCUSSION
A. Apportionment of Corporate Income
The Virginia Code prescribes the method of apportioning income of any corporation to the Commonwealth for purposes of corporate income taxation. Va. Code § 58.1-408 requires apportionment of corporate income to be based upon three factors: a property factor, a sales factor, and a payroll factor. The Defendants do not challenge Delta's determination of the payroll factor.A. Apportionment of Corporate Income
B. Delta's Method of Apportionment
For each of the years involved in this case, Delta apportioned its federal taxable income using the three factor method, as required by Virginia law, to determine its Virginia taxable income, and correspondingly, its Virginia tax liability. Delta did not apportion its income using the motor carrier or the railway company methods, because Delta is neither a motor carrier nor a railway company under Virginia law.The property factor used by Delta has a numerator and denominator. Delta included in the numerator property used in Virginia. The denominator of the property factor reflected property everywhere.
There are two types of property used in Virginia, which are included by Delta in the numerator of the property factor: ground property and flight property. Ground property, such as Delta's baggage carts, tugs and other equipment, is included based on situs; accordingly, Delta's property factor included the value of ground property used at airports in Virginia. Flight property consists of Delta's aircraft.
In determining the value of aircraft used in Virginia, Delta used a mileage formula. The mileage formula used by Delta included in the numerator miles travelled by Delta aircraft from the Commonwealth's border to an arrival airport located in Virginia and miles travelled from a departure airport located in Virginia to the Commonwealth's border. Delta used those "actual arrival and actual departure" miles in the numerator of the property factor because those miles relate to Delta's use of facilities or services in Virginia, and measure Delta's activities that have a connection to Virginia. Overflight miles were not included in the numerator of Delta's mileage formula for the property factor.
As to the sales factor, Delta used a mileage formula for passenger and cargo revenue. Similar to the property factor, the mileage formula used by Delta for the sales factor included actual arrival and actual departure miles in the numerator, because those miles reflect sales activities that have a connection to Virginia. Overflight miles were not included in the numerator of Delta's mileage formula for the sales factor.
All miles flown by Delta aircraft were included in the denominator of the mileage formula used by Delta for the property and sales factors.
In the event of an unscheduled landing of a Delta aircraft at an airport located in Virginia, Delta included the miles travelled by such aircraft from the Commonwealth's border to the arrival airport as actual arrival miles, and from the airport in Virginia to the Commonwealth's border as actual departure miles; accordingly, Delta included those miles in the numerators of the property and sales factors because the aircraft actually landed in Virginia.
C. Delta's Method of Apportionment on Prior Tax Returns
and Industry Practice
and Industry Practice
Delta consistently used the same apportionment method for Virginia income tax purposes in tax years prior to the four years involved in this case. Accordingly, Delta consistently included in the numerators of the property and sales factors the actual arrival and actual departure miles, and did not include overflight miles in the numerators. Delta's mileage formula included in the denominator all miles flown by Delta aircraft.
The Department audited Delta for prior tax years, including for the tax years ending June 30, 1983, June 30, 1984, and June 30, 1985. The Department issued a report of its audit of those three tax years on March 31, 1987. In the audit of those three prior years, the Department was aware of Delta's mileage formula, and of Delta's use of actual arrival and actual departure miles and of systemwide miles. The Department did not propose in any prior audit to change Delta's apportionment method in a manner to require Delta to include overflights in apportioning Delta's income. The Defendants first contested Delta's mileage formula in the audit of the tax years ending June 30, 1987, and June 30, 1988.
In preparing and filing its state tax returns, Delta considers published guidance issued by a state to determine how to apportion its income. At the time Delta filed its Virginia tax returns for the years involved in this case, Virginia had not provided any guidance regarding the apportionment of airline income, whether in the form of legislation, regulations, or rulings. Virginia first proposed to tax Delta on overflights following the audits of the tax returns for the years at issue. This was a change in Virginia's audit position. In fact, the first time Delta was provided formal notice of the Defendant's position taxing Delta's overflights was on September 21, 1990, in Commissioner's Ruling 90-173.
The airline industry practice for apportioning income is that overflights are not included in the numerators of the factors in any apportionment formula. Different states use different formulas to apportion airline income, which fact is illustrated by a hypothetical flight from Georgia, which uses departures and tons in its apportionment formula, to New York, which uses arrivals and tons handled. If every state between Georgia and New York were to tax Delta
based on overflights, there is a risk that there would be tax on more than 100% of the income for that Delta flight.
D. Delta's Overflights
Delta's overflights do not generate any revenue in the Commonwealth and have no contact with the Commonwealth. With regard to interstate aircraft operations, no Commonwealth official or agency is made aware at any particular time of the location of any Delta flight, including overflights.The Federal Aviation Administration (the "FAA") is the only government agency (federal, state or local) that fixes approved routes for aircraft flying through United States airspace. Accordingly, the FAA designates approved routes for Delta aircraft, including aircraft in flight over the Commonwealth. The FAA also has sole authority to approve alternate routes for weather-related, economic, air traffic, or other reasons. In short, Delta aircraft fly routes designated by the air traffic control system, a federal system. A Delta flight, from departure gate, en route, and to arrival gate is in a purely federal environment.
Delta aircraft in flight communicate with either the air traffic control system or with Delta's operations control center, which oversees Delta flight schedules. The Delta personnel at Delta's operations control center who are authorized to communicate with Delta aircraft are licensed dispatchers. As to flight path control and the arranging of airport departure and arrival slots, Delta's aircraft communicate with air traffic control. For weather reporting services, Delta's aircraft receive information from Delta's operations control center and from air traffic control. As to any navigational matters during a flight, Delta's aircraft communicate with air traffic control.
There are no communications between Delta's overflying aircraft and any Virginia official or Virginia agency. Delta's aircraft use restricted frequencies, so that no person outside the FAA, other than the designated Delta dispatcher at Delta's operations control center, is able to contact the Delta aircraft.
Thus, as to Delta's overflights: (1) Delta does not use any services in Virginia; (2) there are no ground operations at airports located in the Commonwealth which provide services for Delta overflights; (3) Delta does not pick up or unload passengers in Virginia; and (4) Delta does not pick up or unload any fuel or cargo in Virginia. As to Delta's overflights, Delta derives no services from Virginia and Delta requests no services from Virginia. In sum, as to Delta's overflights, Delta has not availed itself of any benefit, economic or otherwise, from the Commonwealth, nor has the Commonwealth has provided any benefit, economic or otherwise, to Delta.
There are probably 300-500 Delta overflights over Virginia each day. If an emergency arises, Delta's aircraft contact the air traffic control system and are guided by the FAA. Delta's aircraft do not contact or call any state (or local) agency to request fire, rescue or any other services in the event of an emergency. Delta has had only one emergency landing in Virginia in the past year, and there have been no crashes in the Commonwealth in recent years. Although not every emergency occurring during the flight of an aircraft requires an emergency landing, if there were an unscheduled landing, Delta would use equipment located at that airport where the aircraft lands and pay landing fees to that airport. Delta pays landing fees at any arrival airport.
There is no evidence that Virginia, or any non-federal agency, rendered any services to any Delta overflight or assisted in any emergency situation. Moreover, Delta does not choose to fly over Virginia because Virginia offers any particular services. In case of an emergency landing or crash occurring at sites other than an airport, Delta would expect to receive emergency assistance from state and local authorities.
For each of the tax years in question, the General Assembly appropriated state funds to maintain and support state and local police, fire and emergency services. The Court takes judicial notice of all public laws or acts of the General Assembly. Randall v. Commissioner, 183 Va. 182, 31 S.E.2d 571 (1944). In this regard, Budget Bills are considered, drafted and adopted by the General Assembly. There is no evidence in the record that shows that Virginia specifically budgets or uses any taxpayer dollars to fund services for commercial airline emergencies.
E. The Defendants' Audit Position
As described, for the four years involved in this case, Delta used a mileage formula to apportion its income in accordance with Virginia law, as made available to the public. In the absence of statutory, regulatory, or case law guidance, Delta filed its Virginia tax returns using the apportionment formula used in prior years and relying upon information provided to Delta in prior audits of its Virginia tax returns.In 1982, Senate Bill 231 was offered as an amendment to the Code of Virginia, relating to the apportionment of income of airline companies for purposes of the corporate income tax. If enacted, Senate Bill 231 would have put in place a statute addressing the apportionment of airline income.
Senate Bill 231, which was referred to the Senate Committee on Finance, proposed enactment by the General Assembly of the following provision: "§ 58-151.050:4. Airline companies; apportionment. -- Airline companies shall determine their net apportionable income to this State by multiplying Virginia taxable income of such company . . ., by the use of the ratio of revenue miles in this Commonwealth to the total revenue miles of the corporation."
Tax policy in Virginia is set by the General Assembly, and the Department cannot direct the General Assembly to set a particular policy. The Commissioner can only make policy recommendations to the General Assembly; the Commissioner does not dictate tax policy to the General Assembly.
On February 5, 1982, the Commissioner submitted a counterproposal to Senate Bill 231. It is not uncommon for the Commissioner and the Department to offer their own proposed language to a General Assembly bill, and if the Commissioner and the Department have a position on a particular bill before the General Assembly, they would make that position known. The Commissioner's counterproposal of February 5, 1982, to Senate Bill 231 proposed the following revised language: "C) A revenue mile shall be within this State if the aircraft carrying passengers or property moves through the air space over this State . . ." The Defendants, thus, attempted to obtain through the General Assembly a statute that would permit the Defendants to tax airlines based on overflights.
It was the Department's conclusion at that time that "in" this Commonwealth, as set forth in Senate Bill 231, did not mean in "air space over" the Commonwealth. After the Department attempted to obtain the referenced revision to Senate Bill 231, to include overflights, the bill was not passed into law by the General Assembly.
The Virginia Code in effect today refers to property used and income-producing activity in the Commonwealth," and does not refer to activity in airspace over the Commonwealth. The Commissioner, further, acknowledges that the use of the word "in" in the Virginia corporate income tax apportionment statutes does not necessarily require that those statutes be construed to include activity "over" the Commonwealth.
The Department prepared an issue paper dated September 8, 1989 (the "Issue Paper"), in which the Department acknowledged that "existing statutory and regulatory policies do not specifically deal with some of the unique characteristics of the airlines." The Issue Paper is not a document promulgated by the Commissioner and does not have the force and effect of a regulation or public ruling letter. In the Issue Paper, the Department also acknowledged that in the absence of legislative or regulatory action, the airline industry is subject to the three factor formula. The Department stated that it was unresolved as to how each of the three factors applies to the airline industry. Further, the Department acknowledged that existing regulations are not suitable for use in apportioning airline income.
Additionally, the Department acknowledged in the Issue Paper that there are specific apportionment formulas for motor carriers and railroad companies. The Department also acknowledged the statutory limitations on the Commissioner's and the Department's authority to adopt alternative methods of apportionment of corporate income. In this regard, the Department acknowledged that its statutory authority is limited to circumstances involving: (1) granting a request by a corporate taxpayer; (2) if the statutory method is inequitable; and (3) if the tax under the alternative method is lower than the tax under the statutory method. See Va. Code § 58.1-421. Accordingly, the Department acknowledged that it does not have the statutory authority to adopt a general alternative apportionment method on the grounds that it is more practical or accurate.
The Department considered implementing a "departures formula" for the apportionment of airline income. But the Department admitted that the use of a departures formula would be a new policy for Virginia, and that it should not be adopted "in the absence of legislative or regulatory action." The Department further recognized concerns about the accuracy of a departures formula. Accordingly, the Department recommended a regulation project be initiated to propose the use of departures so that the airline industry would have an opportunity to make its views known under the Virginia Administrative Process Act. There is, however, no evidence of any legislation or regulation that authorizes the use of a departures formula, nor of the Defendants' efforts to obtain any such legislation or regulation.
Accordingly, although the Department had considered issuing regulations regarding the apportionment of airline income, there are no regulations that provide guidance to the airlines. Virginia does not have any statute or regulations regarding apportionment of airline income.
In audits conducted since January 1, 1985, the Department's auditors generally began to take the audit position that the property and sales factors should include overflights in the numerator. Without seeking legislation or regulations, the Defendants adopted an audit position to tax Delta on its overflights. Although the Defendants admit that it is appropriate to consider how other states tax corporate income, there is no evidence that the Defendants did so before adopting the audit position to tax Delta on its overflights. In the Defendants' view, an apportionment formula for corporate income can be arbitrary and does not always recognize economic reality.
The Defendants' mileage formula used for purposes of allocating Delta's worldwide income to the Commonwealth refers to and includes in the numerator miles flown by Delta aircraft over the Commonwealth whether or not the aircraft land in or depart from an airport located within the Commonwealth. The Defendants continue to maintain that Delta is subject to Virginia income tax based upon all miles flown by Delta aircraft over Virginia, which includes overflight mileage.
At the time of the administrative review of its protest, Delta was advised that acceptance by the Department of the mileage method for the apportionment formula requires that overflight miles be included in both the numerator and the denominator of the fractions in the three-factor formula. The Defendants for the first time formally informed Delta of the determination to tax Delta on its overflights in Commissioner's Ruling 90-173, dated September 21, 1990, which was issued after the close of each of Delta's tax years involved in the present case.
The Defendants did not base their audit determination to tax Delta based on overflights on hypothetical emergency landings of Delta or any other commercial aircraft. The Defendants' position is based on the view that if certain values are excluded from the numerators of a fraction while included in the denominator of that fraction, the sum of the numerators will never equal the denominator. Thus, if certain miles are excluded from the numerators of a fraction representing each taxing jurisdiction's apportioned share, while those miles are included in the denominator of that fraction, the sum of the numerators (representing the respective apportioned shares of the various jurisdictions) will never equal the denominator.
Upon adoption of their audit position, the Defendants issued a series of rulings to taxpayers in the airline industry. The Defendants have allowed some airlines to use a different method of apportioning income than other airlines. The Department will accept an apportionment formula based on either mileage or departures. Taxpayers may elect to use either of the apportionment formulas accepted by the Department (i.e., using either departures or mileage in an apportionment formula). Delta elected to use an apportionment formula based on mileage. Delta has used an apportionment formula based on departures in other jurisdictions, and Delta's Application for Correction of Erroneous Assessment does not challenge the legality of an apportionment formula based on departures. For any tax year that was not yet closed at the time of the administrative appeal to the Commissioner, Delta could have filed an amended return in which apportionment of Virginia income was made using a departures methodology.
In adopting their audit position, and in preparing the Issue Paper, the Defendants did not consult with industry representatives. In that regard, the Defendants did not issue any public notices prior to adopting a mileage formula that taxes Delta based on overflights. The Defendants did not hold any public hearings or seek comments from interested persons or entities about the appropriate formula for apportioning airline income. The Defendants did not conduct any survey, or perform any statistical or other analysis regarding the impact on airlines, air routes, or other aspects of the commercial airline industry. Nor did the Defendants confer, consult with or attempt to contact any federal officials or authorities including the FAA or the Department of Transportation about the Defendants' proposed audit position to tax Delta on its overflights. To date, the Defendants have not issued any regulations that prescribe a mileage formula that includes overflights, or that prescribe an apportionment formula for airline income.
F. Summary of Tax Adjustments
For the four tax years involved in this case, the Defendants apportioned Delta's income, for purposes of determining Delta's tax liability in and to the Commonwealth, using a mileage formula that differed from Delta's mileage formula. The Defendants determined that Delta should be taxed based on its overflights, by including overflights in apportioning Delta’s income. The Defendants’ mileage formula necessarily includes all of Delta's overflights.The result of the Defendants’ determination to tax Delta based on overflights increases the apportionment factors for each of the years involved in this case by approximately 300%, and in turn increases Delta's tax liability in Virginia for each of the years involved in this case by approximately 300%. All the Virginia income taxes in dispute in this case are attributable to the Defendants’ determination to tax Delta on its overflights.
III. CONCLUSIONS OF LAW
The assessments made by the Department are presumed to be correct and valid, and it is Delta's burden to prove that the assessments are erroneous. See County of Henrico v. Mgmt. Recruiters of Richmond. Inc., 221 Va. 1004, 277 S.E.2d 163 (1981).A. Construction of Virginia Law
Delta, which conducts business activities within and without the Commonwealth, must apportion its taxable income based on the three factor formula. Va. Code §§ 58.1-406, 408. The property factor and the sales factor are two of the factors to be applied. Va. Code §§ 58.1-409, 414. The numerator of the property factor is Delta's property owned and used "in the Commonwealth." The use of movable tangible property, such as aircraft, in Virginia is based upon the "physical location of the property in the Commonwealth." The denominator of the property factor is Delta's property "located everywhere." Va. Code §§ 58.1-409, 410.The numerator of the sales factor is Delta's sales “in the Commonwealth” during the tax year. As to a service such as the providing of air transportation, Virginia law looks to "income producing activit[ies] performed in the Commonwealth.” The denominator of the sales factor looks to Delta's sales “everywhere.” Va. Code §§ 58.1-414, 416.
The meaning of Virginia law, referring to property located and income-producing activities “in the Commonwealth,” is clear and is to be accepted and given effect. It is reasonable to treat the mileage of an aircraft flight that takes off from or lands at an airport in Virginia as “in the Commonwealth” until the aircraft departs the Commonwealth's border or after it enters the Commonwealth's border, as the case may be, because that activity uses services and facilities in the Commonwealth.
The purpose of Virginia's corporate income apportionment law is to confine taxation in Virginia of business income to that portion of the business income that is attributable to activities in Virginia. The relevant statutory language, specifically the phrase “in the Commonwealth,” is unambiguous and does not, based upon the plain meaning of the words used, include activity “over the Commonwealth.” Indeed, the Commissioner agrees that “in” does not necessarily mean “over” and this Court will not extend the Virginia tax laws to tax Delta's flights over the Commonwealth.
The Virginia Code is one act and is construed as a whole. Va. Code § 1-13; Sheperd v. F.J. Kress Box Co., 154 Va. 421, 153 S.E. 649 (1930). The General Assembly has distinguished between the use of “in” and the use of “over” in statutes of the Commonwealth, and this Court will not interpret the Virginia tax laws here at issue in a manner that would cause other Virginia statutes to contain surplus language. See, e.g., Va. Code §§ 5.1-37, -20. Accordingly, the Defendants' construction of Virginia tax law in a manner that taxes Delta based on its overflights is in error and otherwise improper, and Delta is entitled to refunds of taxes, and interest thereon.
Furthermore, Virginia's corporate income apportionment laws are silent as to activities “over” or “above” the Commonwealth. If the relevant statutes are deemed ambiguous, this Court may consider legislative history. The construction reached herein, however, is not in any part based upon the General Assembly's failure to pass Senate Bill 231 with the modified language requested by the Commissioner to include overflights. See, e.g., Brown v. Lukhard, 229 Va. 316, 330 S.E.2d 84 (1985); Crook v. Commonwealth, 147 Va. 593, 136 S.E. 565 (1927).
To conclude that “in the Commonwealth” as used in Virginia law encompasses Delta's overflight activity “over the Commonwealth” would be an improper extension of the Virginia statutes beyond the clear import of the language used. If there were any doubt concerning the scope of the Virginia tax laws, that doubt must be resolved against the Commonwealth, so as to absolve Delta from its burden. A tax statute that is ambiguous must be construed liberally in favor of the taxpayer. See Va. Code § 1-13; Commonwealth Natural Resources Inc. v. Commonwealth, 219 Va. 529, 248 S.E.2d 791 (1978). Accordingly, the Court construes the phrase “in the Commonwealth” not to include Delta's overflight activity.
The Commissioner may require the use of an accounting or tax reporting methodology which is fair and equitable and which clearly reflects income. However, only the General Assembly may fashion corporate income apportionment statutes for specific industries. See, e.g., Va. Code §§ 58.1-417 (motor carriers); 420 (railway companies). The Commissioner's and the Department's authority to adopt an alternate apportionment method is specially limited by statute to circumstances in which the taxpayer has requested the alternate formula and the tax result is lower than the statutory method of apportionment. See Va. Code § 58.1-421. The Defendants do not have the authority, statutory or otherwise, to adopt on audit an alternative formula for the apportionment of corporate income, especially where that alternative formula is not consistent with the applicable statute or otherwise requires an extension of the statute beyond its stated scope. Accordingly, the Defendants do not have the authority, statutory or otherwise, to tax Delta based on overflights, by treating overflight miles as "in the Commonwealth."
Moreover, the Defendants, even if arguably authorized to adopt an alternate corporate income apportionment formula for the airline industry, must do so in a manner consistent with applicable statutes and pursuant to the registry, hearing and comment procedures of the Virginia Administrative Process Act. The Defendants' audit determination to tax Delta based on overflights violates the Virginia Administrative Process Act. See Va. Code §§ 9-6.14: 1, et seq.
This case may be resolved in favor of Delta on the construction of Virginia's tax laws, as set forth above, and the Court need not address the federal statutory and Constitutional issues. However, as alternate grounds for this opinion, the Court's conclusions with regard thereto follow.
B. Conclusions Regarding Federal and Constitutional Law
Federal law under Title 49 of the United States Code expressly preempts the states from enacting or enforcing any law “related to” the route of an air carrier such as Delta. Title 49 U.S.C. § 41713(b). Federal preemption in this regard is broad because the United States Government has exclusive sovereignty of United States airspace, and the control of commercial aircraft such as Delta's is entirely in a federal environment. Title 49 U.S.C. § 40103(a)(1).The Defendants' position, to tax Delta based upon the routes its aircraft travel over the Commonwealth, constitutes the attempted enforcement of a Virginia law that “relates to” the routes of Delta's aircraft, a finding with which the Defendants agree. However, the happenstance of Delta's aircraft travelling routes fixed by the FAA over the Commonwealth does not confer on Virginia the jurisdiction to tax those overflights. The Defendants' application of Virginia tax law to reach Delta's overflights, thus, violates the Supremacy Clause and principles of federal preemption. U.S. Const. art. VI, cl. 2; Title 49 U.S.C. § 41713(b).
Moreover, under federal law, the Commonwealth may levy or collect a tax on or related to a Delta flight only if the aircraft takes off or lands in Virginia as a part of the flight. Title 49 U.S.C. § 40116(c). Federal law does not prohibit states from levying a net income tax on commercial air carriers. See, e.g., Northwest Airlines, Inc. v. County of Kent, 510 U.S. 355 (1994); Aloha Airlines, Inc. v. Dir. of Tax. of Hawaii, 464 U.S. 7 (1983). The Defendants' position to tax Delta based on its overflights, though, violates the express prohibition of federal law (in 49 U.S.C. § 40116(c)) because the Defendants' actions amount to levying a tax related to an aircraft flight that does not take off or land in the Commonwealth as a part of the flight. In this connection, the Defendants' application of Virginia tax law to reach Delta's overflights is a tax on the overflights. See, e.g., Trinova Corp. v. Michigan Dep't of Treasury, 498 U.S. 358, 374 (1991) (“A tax on sleeping measured by the number of pairs of shoes you have in your closet is a tax on shoes.”).
Section 40116(c) of Title 49 U.S.C. unambiguously forbids the Defendants from imposing Virginia income tax on or related to Delta's overflights. The Defendants may not add conditions to, or otherwise limit, the protections offered by a federal statute which limits states' powers to impose taxes on income derived by a taxpayer engaged in interstate commerce. Commonwealth v. National Private Truck Council, 253 Va. 74, 480 S.E.2d 500 (1997). Section 40116(c) is short, direct and unqualified, and the Court will not look beyond the plain language of the federal statute.
This case also implicates the Due Process and Commerce Clauses of the United States Constitution. The Due Process Clause requires that there be some definite link, or minimum connection, between the taxing jurisdiction and the person, property, or transaction it seeks to tax. Miller Bros. Co. v. Maryland, 347 U.S. 340 (1954). Delta's overflights have no contact, no definite link, no minimum connection with Virginia, and accordingly, the Defendants' application of Virginia tax law violates the Due Process Clause.
Furthermore, to pass Constitutional muster, the income to be attributed to Virginia for tax purposes must be rationally related to values or activities connected with Virginia. Accordingly, the tax levied by Virginia on Delta must (1) be applied to an activity with a substantial nexus with Virginia; (2) be fairly apportioned; (3) not discriminate against interstate commerce; and (4) be fairly related to services provided by Virginia. Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977). In that regard, the Defendants improperly conclude that corporate income apportionment formulas for taxpayers engaged in interstate commerce are necessarily arbitrary and need bear no relation to economic reality.
The measurement of Virginia tax based upon Delta's overflight activity has no rational relationship to any value or benefit connected with or conferred by Virginia. Delta's overflights do not generate any revenue in Virginia. Accordingly, the Defendants' position amounts to the improper taxing of revenue earned by Delta outside Virginia. The Defendants' application of Virginia tax law to reach Delta's overflights, thus, violates the Commerce Clause because the Defendants tax an activity that has no nexus, much less a substantial nexus, with Virginia.
The Defendants' application of Virginia tax law to reach Delta's overflights also violates the Commerce Clause because the tax as imposed is not fairly apportioned, which requires that Virginia's tax satisfy both the internal consistency and external consistency tests. Container Corp. of America v. Franchise Tax Board, 463 U.S. 159 (1983). The Constitutional requirements for fair apportionment of income are satisfied if a taxing jurisdiction offers a single valid method of apportionment. There is no Constitutional requirement that a state offer multiple methods for apportioning a corporation's net income. See Complete Auto Transit, 430 U.S. 274.
The internal consistency test is used to test a state's apportionment formula for taxing a taxpayer engaged in interstate commerce; it is not applied to determine the correctness of the taxpayer's method of apportionment. A state tax is internally consistent when imposition of an identical tax by every other state would result in no multiple taxation.
The external consistency test asks whether Virginia has taxed only that portion of Delta's revenue which reasonably reflects the in-state component of the activity being taxed. Goldberg v. Sweet, 488 U.S. 252 (1989). The external consistency test looks to the economic justification for Virginia's claim upon value taxed, to determine whether Virginia reaches beyond that portion of the value that is fairly attributable to Delta's economic activity within Virginia. See, e.g., Oklahoma Tax Commission v. Jefferson Lines, Inc., 514 U.S. 175 (1995).
The Defendants' application of Virginia tax law to reach Delta's overflights is not fairly apportioned because it violates the external consistency test and the result is out of all proportion to the business Delta transacts in Virginia. Furthermore, the Defendants' application of Virginia tax law to reach Delta's overflights is not fairly related to any services or benefits, economic or otherwise, provided by Virginia. Accordingly, the Defendants' application of Virginia tax law violates the Commerce Clause.
C. The Statute of Limitations Issue
The issue as to the timeliness of Delta's suit pertains only to the tax years ending June 30, 1987, and June 30, 1988. The Defendants asserted the statute of limitations as an affirmative defense and have the burden of proof thereon.The Defendants sent Delta the first "Notices of Assessment" for each of the years June 30, 1987, and June 30, 1988, which, after Delta's protest, were followed by second "Notices of Assessment" dated October 24, 1990. The October 24, 1990, notices were clearly marked "Notice of Assessment" and provided Delta an opportunity to apply for relief from, or protest, said assessments within ninety days.
An "assessment" includes a written assessment made pursuant to notice by the Department. Va. Code § 58.1-1820(2). Any taxpayer, such as Delta, assessed with any tax may apply for relief to the Commissioner within ninety days of such assessment. Va. Code § 58.1-1821. Delta construed the October 24, 1990, notices as assessments made on October 24, 1990, and there was no evidence presented through the Commissioner or the Department's witness that these notices were not intended to be assessment notices within the meaning of Va. Code § 58.1-1820(2). These notices constitute notices of assessments made on October 24, 1990.
The assessments relating to the June 30, 1987, and June 30, 1988, tax years were issued on October 25, 1989. Delta filed its original application for relief with this Court on October 28, 1993. Delta's application was filed more than three years from the October 25, 1989, assessments relating to the tax years June 30, 1987, and June 30, 1988. See Va. Code § 58.1-1825.
IV. JUDGMENT
The Court grants Delta's petition for relief, but holds the claims for the tax years June 30, 1987, and June 30, 1988, to be time-barred. Virginia's time for filing is made clear by statute. No acts or writings by the Commonwealth, and no reasonable reliance on time being extended by Delta, overrides that statutory clarity on these facts.The Court further decides that “in” does not mean “over” in the Virginia tax laws regardless of legislative consideration and nonenactment of specific language regarding that distinction. The legislative history, in other words, does not compel a particular result here.
Based on the foregoing, Delta is entitled to refunds of tax for the tax years ending
June 30,1989, and June 30,1990, of $485,885 and $219,618, respectively, and interest thereon,
including interest from the dates of Delta's payments.
SO ORDERED.
Dated: 27 January 1998 Paul F. Sheridan, Judge
Seen and objected to for the reasons stated in Plaintiff's Requested Findings of Fact and Proposed Conclusions of Law; Plaintiff's Responses to Defendants' Proposed Findings and Conclusions; Plaintiff's briefs; and in oral argument, which was transcribed, all incorporated herein by reference:
Frederick W. Chockley
H. Karl Zeswitz, Jr.
BAKER & HOSTETLER LLP
1050 Connecticut Avenue, N.W.
Suite 1100
Washington, DC 20036
(202) 861-1500
Of Counsel:
D. Michael Keen
Delta Air Lines, Inc.
Department 971
Hartsfield International Airport
Atlanta, Georgia 30320
Attorneys for Plaintiff
Seen and objected to for the reasons stated in Defendants' Proposed Findings of Fact and Conclusions of Law; Defendants' Memorandum in Response to Plaintiffs' Proposed Findings of Fact and Conclusions of Law; Defendants' briefs; and in oral argument, which was transcribed, all incorporated herein by reference:
Donald R. Ferguson (34010)
Assistant Attorney General
Commonwealth of Virginia
900 East Main Street
Richmond, Virginia 23219
(804) 786-4619
Attorney for Defendants
Rulings of the Tax Commissioner