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Daily Tax Report: State

Third Time the Charm for California in Tax Fight With Inventor?

Jan. 8, 2019, 5:20 PM

The U.S. Supreme Court will hear arguments Jan. 9 in a case questioning whether one state can be sued in another state’s courts.

In Franchise Tax Board of California v. Gilbert P. Hyatt, microchip inventor Hyatt sued the California tax agency in Nevada court seeking damages for the FTB’s conduct while auditing him about his residency.

The outcome of the case will shape what remedies taxpayers have if they believe a state exceeds its authority. At least five other tax dispute cases are pending against California, Massachusetts, Ohio, and South Dakota in the courts of other states. Beyond tax disputes, the ruling would apply to tort and injury cases in which a citizen seeks damages against one state in another state’s court.

Who’s Involved and Why

The FTB has the Multistate Tax Commission and 45 other states taking its side in amicus briefs. They back the FTB’s argument that suits like Hyatt’s improperly disrupt the sovereign immunity states have to administer their own tax policies. Such a disruption goes to the heart of state police power, they argue.

Hyatt sued the FTB in Nevada in 1998 for alleged violation of privacy and abuse of authority during an audit that began in 1993. The FTB has sought income tax on patent royalties he earned in 1991 and 1992, when Hyatt says he had moved to Nevada and the FTB says he still lived in California.

Legal scholars who focus on states’ rights, sovereign immunity, and tax law have also weighed in with briefs defending a 30-year Supreme Court precedent the FTB wants the court to overturn while arguing Hyatt’s suit is improper for other reasons.

What They Want

California is asking the U.S. Supreme Court to revisit its 4-4 split in April 2016 on the question of whether Nevada has jurisdiction over lawsuits brought in its courts against other states. Because the justices split on the issue, a lower court ruling allowing such lawsuits stood.

Now that the court has added a ninth justice, the FTB wants a definitive ruling to overturn Nevada v. Hall, which would effectively end its 25-year fight with Hyatt and his claims of fraud, invasion of privacy, and emotional distress.

Hyatt wants the court to uphold its 1978 ruling in Hall, saying taxpayers should be able to sue one state in another state’s courts. States should continue to rely on comity, or mutual recognition of other states’ laws. For example, the Nevada courts ultimately capped Hyatt’s damages against California to those allowed under Nevada law.

The Saga

This is the third time Hyatt’s case has come before the U.S. Supreme Court. He first won a ruling in 2003 that Nevada didn’t have to provide California with full immunity from damages that California has under its laws, but could choose to provide California with Nevada’s lesser protections.

In Nevada, a trial court awarded $490 million to Hyatt in 2008 for his claims against the FTB for fraud, invasion of privacy, emotional distress, and punitive damages. The award was thrown out in various stages. Most recently, in December 2017, the Nevada Supreme Court capped Hyatt’s damages at $50,000 for fraud and $50,000 for intentional infliction of emotional distress after the U.S. Supreme Court in 2016 set aside punitive damages exceeding the state’s own cap of the same amount.

Hyatt skipped California’s administrative tax appeal process when he sued the FTB in Nevada in 1998. The State Board of Equalization didn’t hear his underlying tax appeal until 2017, and ruled mostly in his favor. Instead of owing $55 million in taxes, penalties, and interest that has accrued since 1992, the board said he owes $1.9 million in tax for 1991 plus interest.

The FTB has appealed that ruling to the new California Office of Tax Appeals, which is expected to decide in 2019 whether it will rehear the case.

The case is Franchise Tax Bd. of Calif. v. Hyatt, U.S., 17-1299, oral arguments scheduled 1/9/19.

To contact the reporter on this story: Laura Mahoney in Sacramento, Calif. at lmahoney@bloomberglaw.com

To contact the editors responsible for this story: Jeff Harrington at jharrington@bloombergtax.com; Megan Pannone at mpannone@bloombergtax.com