• Could Tennessee's Tax Incentives for Businesses be in Jeopardy?
  • September 8, 2004 | Author: Michael Stewart
  • Law Firm: Waller Lansden Dortch & Davis, LLP - Nashville Office
  • The Sixth Circuit U.S. Court of Appeals, which has jurisdiction over Tennessee, Kentucky, Ohio and Michigan, yesterday issued a sweeping decision that calls into question the constitutionality of tax credits and incentives routinely used by Tennessee and other states to attract investment in new plants and equipment. In Cuno v. DaimlerChrysler, Inc., a group of businesses challenged the incentive package offered to DaimlerChrysler Corporation in connection with its construction of a $1.2 billion automotive manufacturing facility which provided several thousand jobs to the Toledo, Ohio area. The plaintiffs challenged both a franchise tax credit for purchases of manufacturing machinery for use in Ohio and a 100 percent property tax exemption.

    The Court upheld the property tax exemption but invalidated the credit for in-state purchases of machinery. That credit is generally 7.5 percent of "the excess of the cost of the new manufacturing machinery and equipment purchased during the calendar year for use in a county over the county average new manufacturing machinery and equipment investment in that county," rising to 13.5 percent in certain economically depressed areas. To obtain a credit in excess of $1 million, a business must show that it increased its total ownership of Ohio property during the year for which the credit is claimed.

    The Court determined that the Ohio tax credit violated the Commerce Clause of the United States Constitution because it discriminated against interstate commerce. Reviewing recent decisions by the United States Supreme Court invalidating four incentive statutes since the late 1970s, the Court of Appeals read those cases as broadly prohibiting incentives which provide tax reductions to induce in-state investment. "Discrimination," the Court observed, "simply means differential treatment of in-state and out-of-state economic interests that benefits the former and burdens the latter." Because "the investment tax credit at issue ...encourages the development of local business through use of Ohio's power to tax an in-state operation as a means of requiring other business operations to be performed in the home state," the Court noted, it was plainly discriminatory. Accordingly, the Court prohibited further use of the credit in Ohio, placing DaimlerChrysler's incentive package in jeopardy.

    At the same time, the Court was unwilling to also invalidate DaimlerChrysler's ten year property tax exemption, drawing a distinction between incentives which merely lower future tax liability -- such as reduced property tax rates for future construction -- and those, like franchise tax credits, that eliminate liability already incurred. "Unlike an investment tax credit that reduces pre-existing income tax liability," the Court observed, "the personal property exemption does not reduce any existing property tax liability [but]...merely allows a taxpayer to avoid tax liability for new personal property."

    While the Court of Appeals stopped short of declaring all tax incentives unconstitutional, its decision in Cuno, if permitted to stand, will call into question the constitutionality of numerous credits for jobs or investments which in many instances have figured heavily in corporate re-location and expansion decisions. Businesses relying on those incentives may find them challenged, as in Cuno, by competitors, or by departments of revenue unwilling to provide credits under statutes they deem unconstitutional. Either way, Tennessee businesses could potentially be deprived of the benefits provided by many longstanding incentive programs if the Cuno decision is not successfully challenged.