• General Assembly Passes New Statute Governing Rule Making Under G.S. 105-130.5A.
  • July 26, 2012 | Authors: Charles B. Neely; Nancy S. Rendleman; Robert W. Shaw
  • Law Firm: Williams Mullen - Raleigh Office
  • The General Assembly has enacted a new statute, G.S. 105-262.1, that suspends the Department’s authority to redetermine the State net income of a corporation under G.S. 105-130.5A until the Department enacts a rule pursuant to an expedited rule-making procedure. New G.S. 105-262.1 also prohibits the Department from interpreting G.S. 105-130.5A in the form of a bulletin or directive under the authority of G.S. 105-264.

    Background to the enactment of G.S. 105-262.1

    G.S. 105-262.1 was enacted in response to three directives (CD-11-01, CD-12-01, and CD-12-02) that the Department issued in response to the passage of HB 619 (Session Law 2011-390, as amended). HB 619 comprehensively revised the statutory framework governing the Department’s authority to require the filing of combined returns or to otherwise adjust a corporation’s net income. Directive CD-11-01 was issued on November 16, 2011. Directives CD-12-01 and CD-12-02, published on April 17, 2012, largely, though not entirely, restate the content of Directive CD-11-01.

    Directive CD-11-01 originated in efforts by the Department to address taxpayer complaints about the lack of guidance as to when the Department of Revenue would pursue forced combination of affiliated corporations. Responding to these complaints, in late 2010, David Hoyle, the new Secretary of Revenue, began the process of promulgating rules in compliance with the Administrative Procedure Act (“APA”) by drafting and then releasing for public comment a draft of proposed rules. Due in part to pending legislation concerning the forced combination remedy, which was subsequently enacted and signed into law by the Governor on June 30, 2011 (2011 N.C. Sess. Laws ch. 390), the proposed rules were never promulgated. However, the draft regulations, substantially changed and expanded to reflect the new legislation, were largely incorporated into Directive CD-11-01.

    Directive CD-11-01 was published purportedly pursuant to G.S. 105-264, which makes it the duty of the Secretary of Revenue (“Secretary”) to interpret all laws administered under the Secretary’s authority. However, several groups representing taxpayers questioned whether the Secretary had the authority to publish Directive CD-11-01 without proceeding under the rule-making requirements of G.S. 105-262.

    Directive CD-11-01 sets forth the Secretary’s interpretation of the Department’s discretionary authority to adjust corporate net income, including the authority to combine the returns of affiliated corporations, pursuant to G.S. 105-130.6, G.S. 105-130.15, and G.S. 105-130.16, as well as what the directive vaguely refers to as “other law,” for tax years beginning before January 1, 2012. For tax years beginning on and after January 1, 2012, the Directive explains the Department’s authority and the standards it will follow under new G.S. 105-130.5A, enacted by HB 619 in 2011, to adjust intercompany transactions or require a corporation to file a combined return.

    In addition to being an apparent response to taxpayer complaints, Directive CD-11-01 also implicitly responded to criticism of the Department by the North Carolina Business Court in Delhaize America, LLC v. Lay, 2011 NCBC 2 (Jan. 12, 2011), for the failure to provide guidance in the area of forced combination.

    There have been three major areas of concern with the directive raised by taxpayers and others:

    • The Directive lacks clarity and predictability.
    • The Directive erroneously interprets certain aspects of the legislation passed by the 2011 session of the General Assembly and by prior sessions of the General Assembly.
    • Publication of the Directive without undergoing formal rule making may violate the APA.

    Perhaps in response to these recent criticisms of Directive CD-11-01, the Department published two new corporate income tax directives on April 17, 2012. The first directive, CD-12-01, restates without substantive changes the discussion in Directive CD-11-01 that addresses the Department’s authority to require the filing of a combined return or adjust net income for tax years beginning before January 1, 2012.

    The second directive, CD-12-02, addresses the Department’s authority under G.S. 105-130.5A (eff. for tax years beginning on or after Jan. 1, 2012). Directive CD-12-02 generally restates the discussion of G.S. 105-130.5A in Directive CD-11-01 but includes several changes from the earlier directive. These changes respond to some of the concerns that taxpayers raised about Directive CD-11-01.

    However, most of the problems raised by taxpayers about Directive CD-11-01 remain. (See letter and memorandum jointly submitted by the Council on State Taxation, the North Carolina Retail Merchants Association, and the North Carolina Chamber of Commerce to the co-chairs of the Revenue Laws Study Committee on January 30, 2012, and available on the committee’s website.)

    New procedure for adopting rules under G.S. 105-130.5A

    In response to taxpayer concerns, the Revenue Laws Study Committee adopted a report on May 2 recommending that the General Assembly require the Department to undergo an expedited procedure in order to adopt rules pertaining to G.S. 105-130.5A. Based on this report, the General Assembly passed Senate Bill 824 (codifying G.S. 105-262.1), which requires the Department to follow an expedited rule-making procedure in promulgating interpretations of G.S. 105-130.5A.

    The expedited procedure in G.S. 105-262.1 is based on the procedure for adopting a temporary rule under the APA. G.S. 105-262.1(d). The Department is required to provide electronic notification of the adoption of the rule and accept written comments according to the timetable provided for the adoption of temporary rules in G.S. 150B-21.1(a3). If the Department receives a written comment objecting to the proposed rule and requesting review by the Rules Review Commission, the proposed rule must proceed through the rules review process provided in G.S. 105-262.1(e) through (j).

    SB 824 also “supersedes” Corporate Directive CD-12-02. 2012 N.C. Sess. Laws ch. 43 § 5.