Massachusetts State and Local Tax Update—Fourth Quarter 2022

The year closed with no significant decisions from the Appellate Tax Board, which is likely due to its not having conducted in-person hearings since the beginning of the Covid-19 pandemic. The board has indicated that it will resume normal activity early in the new year. Nevertheless, a decision from the Massachusetts Supreme Judicial Court brought some closure to a sales tax issue impacting internet vendors.

In U.S. Auto Parts Network, Inc. v. Commissioner of Revenue, the court rejected the Department of Revenue’s regulatory attempt to impose a technologic theory of physical presence for sales tax nexus purposes. On Dec. 22, the court affirmed the decision of the Appellate Tax Board, avowing that the use of cookies, apps, and contact delivery networks did not constitute in-state physical presence within the meaning of Quill v. North Dakota.

As all practitioners know, Quill’s “bright-line rule” required a nondomiciliary seller to have a physical presence with the taxing state. While somewhat rigid, it provided states and sellers with a fixed constitutional test that could be relied on when conducting their affairs. The commissioner’s regulation, issued prior to the South Dakota v. Wayfair decision abrogating the physical presence requirement, claimed that nondomiciliary internet vendors with a certain volume of sales to Massachusetts customers “invariably have one or more” contacts with the state that in review constituted an in-state physical presence.

In rejecting this theory, the court noted that the Wayfair court was highly skeptical as to whether such contacts amounted to a physical presence. It further questioned how cookies and apps could constitute a physical presence when Quill determined that sending sales catalogs into a state did not.

The court further ruled that Wayfair could not be applied retroactively because doing so without any clear rule in place would “upset [the] settled expectations” of internet vendors. It is worth noting that U.S. Auto only dealt with a single month, October 2017. The Wayfair case was decided in June 2018, and the applicable statute was amended to address internet sales as of Oct. 1, 2019. It remains to be seen how the Department of Revenue will address the post-Wayfair periods preceding the statutory change.

On Nov. 8, 2022, Massachusetts voters approved an amendment to the state constitution establishing an additional 4% surtax on taxable income over $1 million. This additional income tax is effective for tax years beginning Jan. 1, 2023.

As stated in the ballot initiative, the revenue from this tax must be used for public education and infrastructure repair and maintenance. Proponents of the amendment argued that the additional tax was necessary because wealthy residents did not pay their fair share in taxes. Opponents predicted that the tax increase would encourage wealthy residents to leave the state for a more tax-friendly jurisdiction. It may be coincidental, but the Department of Revenue appears to have stepped up its audit program in the past year, targeting wealthy individuals who stopped filing resident income tax returns.

In VAS Holdings & Investments LLC v. Commissioner of Revenue, the Massachusetts Supreme Judicial Court addressed the taxability of a sale of an interest in a Massachusetts pass-through entity by an S corporation not commercially domiciled in the state. The parties had agreed that the pass-through and the S corporation were not unitary.

The court determined that while the department’s attempt to tax a gain based on the in-state entity’s apportionment factors was constitutionally permissible, it was not authorized by statute. The case raised some questions about whether nondomiciliary corporate partners may be taxed absent active involvement in a Massachusetts partnership’s business and could open the door for potential refund claims.

In response to the decision, the Department of Revenue issued Technical Information Release 22-14 to explain its interpretation of the case as it pertains to refund claims. Among other conditions set forth in the release, taxpayers must “clearly demonstrate” the lack of a unitary relationship before being granted an abatement.

In Thomor, Inc. et al. v. Board of Assessors of Norwood, the Massachusetts Appeals Court held that an application for abatement of property tax was timely filed even though the local board of assessors claimed it was never received. In Massachusetts, when a taxpayer sends a tax abatement application by US mail, the postmark date is deemed to be the date of filing even if the application is received late. This is referred to as the “postmark rule.” Here, the taxpayer produced sufficient evidence, unrebutted by the assessors, to show that it had mailed the application prior to the deadline, thereby satisfying the postmark rule.

The Department of Revenue promulgated a regulation announcing that Massachusetts is now in sync with the federal rules regarding spousal relief from joint income tax liability. (See Code of Massachusetts Regulations, Title 830 CMR 62C.84.1.) This regulation describes the eligibility requirements for the three types of relief available: innocent spouse relief, separation of liability relief, and equitable relief. The regulation also explains when and how a taxpayer can apply and provides an opportunity for the taxpayer’s spouse to participate.

On Dec. 5, 2022, the Supreme Judicial Court heard arguments in the case of James Reagan v. Commissioner of Revenue. Reagan was the sole beneficiary of a nominee trust that owned minority limited partnership interests in three partnerships. Each partnership undertook an urban redevelopment project in regions characterized as economically depressed areas.

M.G.L. c. 121A was enacted to address urban decay by encouraging revitalization and redevelopment in such affected areas. The goal was to stimulate private capital investment in “blighted, open, substandard, or decadent areas.” To encourage privately financed urban renewal, the statute allowed corporations formed under Chapter 121A to be exempt from state and local taxation.

During the tax periods at issue, each partnership sold the real property that was the subject of its Chapter 121A project to unrelated buyers. The city of Boston approved the transfer to the new buyers, who then owned and operated the projects. Each partnership realized gain on the sale of its project property.

The issue presented to the court is whether the commissioner may impose Massachusetts income tax on capital gain from the sale of an urban redevelopment project notwithstanding Chapter 121A’s broad statutory exemption from “any tax, excise or assessment to or for the commonwealth on account of [such] project.” The Appellate Tax Board had ruled in favor of the commissioner. A secondary issue involves whether the board also correctly determined that the seller’s basis in the urban redevelopment project, as sold, should have been decreased by the amount of federal depreciation deductions taken by the partnerships.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Philip S. Olsen is a tax attorney at the Boston law firm of Davis Malm, where he focuses on state and local tax consulting and litigation. He has over 25 years of experience litigating and resolving major tax controversies before courts and administrative boards.

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