Tuesday, June 3, 2014

Shady Is Not A Sham: Respecting the Tax Avoidance LLC

The Louisiana Supreme Court recently denied the state's attempt to collect sales tax on the sale of an RV to a Montana LLC. Thomas v. Bridges, No. 2013-C-1855 (La. 2014).  The LLC was formed for the sole purpose of avoiding RV sales tax (saving the buyer as much as $47,000).  The state argued that the LLC veil should be pierced and the tax should be assessed to the LLC's sole member claiming fraud. The court disagreed, explaining that "taking actions to avoid sales tax does not constitute fraud. Although tax evasion is illegal, tax avoidance is not." 

There were problems with the state's attempt from the outset.  First, the sale occurred  in Louisiana, but the RV was housed in Mississippi.  Even if the LLC were to be disregarded, Mississippi, it seems to me, would be the state that should be asserting the claim.  Second, the state attempted to collect from the LLC's member before ever trying to collect from the LLC.  Thus,  the veil-piercing claim was being used as a post hoc justification for the attempt to recover from the LLC's member and was not properly raised below.  

This "legal loophole" (which is redundant because if it's a loophole, it's legal and if not, it's fraud), can be fixed by legislation, as Justice Guidry concurred, 

While I concur in the majority analysis and result, I write additionally to encourage the legislature to revisit this area of the law on foreign limited liability corporations formed solely for the purpose of sales tax avoidance on purchases made in Louisiana. As the facts of this case suggest, the law may be susceptible to abuse.

 Justice Clark's concurrence goes a step further:

Because I see no actual violation of the letter of the law in this matter, I concur with the result reached by the majority. However, I am concerned that the spirit of the law is not being protected. The potential for abuse in allowing the creation of sham entities to avoid the payment of taxes has policy implications that are worthy of the legislature’s attention.

I agree with Justice Guidry, but I think Justice Clark goes too far. I just don't see this as a sham entity. It does seem a bit shady, I admit, but shady does not equal a sham.  The entity here is a tax avoidance vehicle, but the entity is real, and the entity was apparently properly formed.  There was no allegation that the entity was not real, not disclosed, or otherwise used to perpetrate fraud. There are other ways to try to ensure taxes are paid in a state where the RV is housed.  (As a side note, though, one should always be sure to make it very clear that one is signing for the entity and not in one's individual capacity.)

And like the competition for entity formation, states often compete for business in a variety of ways. Maine, for example, has long-term leasing for trailers, including 8-, 12-, 20- and 25-year terms, that latter of which requires registration of at least 30,000 trailers.  

Other states choose to charge annual personal property taxes on vehicles like my home state of West Virginia. Similarly, the State of Virginia assesses personal property tax on vehicles kept by non-residents in the state, as long as the tax is paid somewhere:

Any person domiciled in another state, whose motor vehicle is principally garaged or parked in this Commonwealth during the tax year, shall not be subject to a personal property tax on such vehicle upon a showing of sufficient evidence that such person has paid a personal property tax on the vehicle in the state in which he is domiciled.

Va. Code  § 58.1-3511.

It seems Montana is using entity law to make a few dollars on state LLC formations, but that the benefit will likely be short lived.  I would expect many states will respond to reduce the effectiveness of this behavior.  The more interesting response, though, would be if Montana were to pass an annual RV property tax on entities (not individuals) that own such vehicles.  Montana natural persons, of course, don't need entities to avoid RV sales tax, so the tax would only (or mostly) impact out-of-state individuals who would have to pay taxes for their Montana entity. Because these nonresidents can't vote in the state, it would be hard for these folks to raise too much of a ruckus. 

Whether it is Montana or the location the RV is stored, the loopholes may start to close quickly. That, though, is a cost of doing business, even if the only business the entity tries to conduct is tax avoidance. 

http://lawprofessors.typepad.com/business_law/2014/06/shady-is-not-a-sham-respecting-the-tax-avoidance-llc.html

Business Associations, Ethics, Joshua P. Fershee, LLCs | Permalink

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Comments

Thanks for posting. A State reaffirmance that "[a]ny one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one's taxes.
Gregory v. Helvering, 69 F.2d 809, 810 (2d Cir. 1934) (Judge Learned Hand).

Posted by: Tom N | Jun 4, 2014 6:53:19 PM

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