NOTICE: IC § 4-22-7-7 permits the publication of this document in the Indiana Register. The publication of this document provides the general public with information about the Indiana Department of Revenue's official position concerning a specific set of facts and issues. The "Holding" section of this document is provided for the convenience of the reader and is not part of the analysis contained in this Final Order Denying Refund.

Married couple did not establish that they were entitled to credit against Lake County income taxes.

I. Individual Income Tax - Credit for Taxes Paid to Other States.

Authority: IC § 6-3.5-1.1-6; IC § 6-3.5-6-23; IC § 6-3.5-7-8.1 (effective January 1, 2015); Comptroller of the Treasury of Maryland v. Brian Wynne et ux, 135 S. Ct. 1787 (2015); Bd. of Comm. of Howard County v. Kokomo City Plan Comm., 263 Ind. 282 (Ind. 1975); Md. State Comptroller of the Treasury v. Wynne, 64 A.3d 453 (Md. 2013); Frey v. Comptroller of Treasury, 29 A.3d 475 (Md. 2011); Frank H. Easterbrook, Presidential Review, 40 Case W. Res. L. Rev. 905 (1989); Letter of Findings 76-20060230 (January 10, 2007).

Taxpayers argue that they are entitled to a refund of Indiana income tax because the Department erred in disallowing a credit against Lake County income tax for taxes paid to other states.

Taxpayers are married residents of Indiana who filed Indiana income tax returns. On their 2013 Indiana income tax return, Taxpayers paid Lake County option income tax ("Lake County tax"). Taxpayers were unable to take a credit against Lake County tax for taxes paid to Illinois, Missouri, and Utah.

Subsequent to the United States Supreme Court Wynne decision, Taxpayers filed an amended 2013 Indiana income tax return requesting a refund of taxes paid to Indiana. Taxpayers claimed a refund by taking a credit against Lake County income tax for taxes paid to Illinois, Missouri, and Utah.

The Indiana Department of Revenue ("Department") denied the 2013 refund. In a letter dated November 5, 2016, Taxpayers stated that they "filed an amended income tax return to correct the unconstitutional Indiana tax scheme." An administrative hearing was conducted and this Final Order Denying Refund results.

I. Individual Income Tax - Credit for Taxes Paid to Other States.

As noted, on their 2013 amended Indiana income tax returns, Taxpayers claimed a credit for taxes paid to Illinois, Missouri, and Utah. Taxpayers state that the "issue is whether citizens of the State of Indiana may claim total credit for amounts paid to other states and their political subdivisions as part of the Indiana tax return." Taxpayers argue that the Department's refusal to grant a credit conflicts with the Supreme Court's decision in Maryland v. Wynne 135 S. Ct. 1787 (2015).

In Wynne, the U.S. Supreme Court considered the constitutionality of Maryland's income tax structure. Maryland collected a state income tax, a "special nonresident tax," and a "county" income tax. Maryland required all its counties to impose the county tax, which the state collected, at a rate based on the county in which the individual taxpayer lived. Maryland State Comptroller of the Treasury v. Wynne, 64 A.3d 453, 457-58 (Md. 2013). According to a Maryland Court of Appeals, Maryland's county income tax was part of a single state-imposed income tax scheme because the state mandated the income tax, restricted the authority of the counties to set the rate, and distributed the funds collected pursuant to that tax. Frey v. Comptroller of Treasury, 29 A.3d 475, 483, 492 (Md. 2011); Wynne, 135 S.Ct. at 1792. ("Despite the names that Maryland has assigned to these [state and county income] taxes, both are State taxes, and both are collected by the State's Comptroller of the Treasury"). In other words, Maryland's county tax was a mandatory tax imposed by the state, not a local-option tax imposed by localities.

As a result of this system, Maryland created three categories of taxpayers: (1) Maryland residents, who earned all their income in Maryland, paid the state and county income taxes; (2) Maryland residents who earned some of their income outside Maryland, paid the state income tax and the county income tax on all income, and were entitled to a credit against state taxes only for income tax paid to other states; and (3) nonresidents who earned some income in Maryland, paid the state income tax and the special nonresident tax. Wynne, 135 S. Ct. at 1792.

In Wynne itself, the taxpayers, a married couple, earned income in Maryland and thirty-nine other states attributable to their ownership interest in a multi-state S Corporation. Maryland refused to give the taxpayers a credit against their Maryland county income tax for income taxes they had paid to other states.

In a 5-4 decision authored by Justice Alito, the Supreme Court held that Maryland's tax structure violated the dormant Commerce Clause. The Court explained that "States are allowed to tax a taxpayer's multistate income if the income is fairly apportioned among taxing jurisdictions," but a State may not impose taxes that "discriminate" against income earned interstate. Id. at 1796-98 (citations and quotations omitted). To determine whether a tax discriminates against interstate income, the Court adopted the "internal consistency" test:

Id. at 1802 (citations and internal quotations omitted).

As the court explained, if every state had a scheme identical to Maryland's - which allowed no credit for county income tax paid out-of-state - then no taxpayer in any state could obtain a credit for county taxes paid in another state. Everyone earning interstate income in any state would be taxed at a higher rate than those earning only intrastate income. The disparate treatment of interstate income in Maryland was an intrinsic feature of Maryland's tax structure and not merely the result of the interaction of differing state tax structures. This violated the internal consistency principle.

Based on this analysis, the Court held that Maryland's tax scheme violated the dormant Commerce Clause because it "inherently" subjected interstate income to higher taxes than intrastate income. Id. at 1804.

The tax regimes of Maryland and Indiana differ in several key respects. Like Maryland, Indiana imposes a state income tax, taxes residents on income earned elsewhere, and taxes non-residents on income earned in Indiana.

Unlike Maryland, however, Indiana allows credits for out-of-state taxes at both the state and local levels. Indiana allows a credit for out-of-state income taxes against Indiana's state income tax, and a credit for out-of-state local income taxes against local income taxes owed in Indiana. IC § 6-3.5-1.1-6; IC § 6-3.5-6-23; IC § 6-3.5-7-8.1 (effective January 1, 2015). Although Indiana does not permit out-of-state state income taxes to offset Indiana county income taxes, or allow out-of-state local income taxes to offset Indiana state income taxes, Indiana maintains symmetry in allowing credits at both the state-to-state level and the county-to-county level. According to the Supreme Court, had Maryland offered credits for out-of-state taxes, Maryland's tax system would have survived constitutional scrutiny: "To be sure, Maryland could remedy the infirmity in its tax scheme by offering, as most States do, a credit against income taxes paid to other States. If it did, Maryland's tax scheme would survive the internal consistency test and would not be inherently discriminatory." Id. at 1805.

Moreover in Indiana, unlike in Maryland, each county chooses whether to impose a county-level income tax, and each county's governing body must independently approve both the tax and the rate. Until 2013, at least one county in Indiana imposed no county-level income tax at all. Accordingly, Indiana's local-option income taxes are not part of a single state-imposed income tax scheme.

Contrary to the Taxpayers' argument, Wynne suggests that Indiana's tax structure passes constitutional muster. Unlike Maryland, Indiana credits taxpayers for out-of-state income taxes at both the state-to-state level and the county-to-county level. According to Wynne, such credits allow a state's tax system to "survive the internal consistency test" because the tax system "would not be inherently discriminatory." Wynne, 135 S.Ct. at 1805.

Applying the internal consistency principle as the Court did in Wynne, if every state adopted a tax structure identical to Indiana's, then every state would impose state and county taxes, and taxpayers in every state would be entitled to claim credits for both state and county taxes paid on income earned out-of-state. Everyone earning interstate income would be taxed at the same rate as those earning only intrastate income. Any disparate treatment of interstate income in Indiana could only result from the interaction of differing state tax structures, not from anything inherent in Indiana's tax structure. A straightforward application of Wynne's internal consistency principle demonstrates that Indiana's tax structure fully comports with the dormant Commerce Clause.

In general, the Department is not the best forum in which to evaluate a constitutional question. Of course, every departmental employee, and every member of the executive branch, has an inherent responsibility to construe and interpret the constitution as it bears on the exercise of his responsibilities. See generally Frank H. Easterbrook, Presidential Review, 40 Case W. Res. L. Rev. 905 (1989). Nevertheless, "all statutes are presumptively rational and constitutional." Bd. of Comm. of Howard County v. Kokomo City Plan Comm., 263 Ind. 282, 286-87 (Ind. 1975). As a result, as a practical matter, the Department usually denies challenges to a statute's constitutionality. In one typical decision, the Department concluded the following: "The Department takes note of Taxpayers' constitutional and statutory protests. However, Taxpayers raise issues which are beyond the purview of administrative review by the Department. Taxpayer's constitutional challenges will not be addressed here because the Department will not overturn a tax scheme enacted by the Indiana General Assembly based upon Taxpayers' facial constitutional and statutory challenges." Letter of Findings 76-20060230 (January 10, 2007), 20070328 Ind. Reg. 045070178NRA.

Taxpayers' protest is respectfully denied.