A few years back, a case came before the North Carolina Supreme Court that provided the state tax world with an extreme example of a tax agency’s resistance to transparency in exercising its discretionary authority. In the case, Delhaize America Inc. v. Hinton, Secretary of Revenue of the State of North Carolina, the North Carolina Department of Revenue was alleged to have applied unpublished guidance to force the combination of affiliated corporations.
What the case really did was to highlight the department’s policy of secrecy. And it was a policy. In 2005 then-Revenue Secretary E. Norris Tolson and the director of the DOR’s Examination Division developed the policy in response to a perceived loss of revenue because accounting firms had been aggressively marketing strategies during the 1990s to shift assets and income among affiliated corporations.
The decision was made to actively conceal the standards used by the DOR in exercising its discretionary authority to combine returns. The department went so far as to avoid training its own auditors on when to require consolidation. The revenue secretary said explicitly that guidance would not be issued on forced combination because taxpayers would only use it as a “roadmap to tax avoidance.”
And that’s far from the only juicy quote. Discovery during the case revealed some disturbing e-mail communications between department officials. In one of them, a DOR official writes that issuing combination guidance “would be like handing a gun to the guy who is about to rob you.”
But since the Delhaize opinion, transparency in North Carolina has improved – at least regarding forced combination. In response to the case, the North Carolina General Assembly passed HB 619, which limits the revenue secretary’s authority to require combination. The bill provides that combination may be required or adjustments made only after it is found “as a fact that the corporation’s intercompany transactions lack economic substance or are not at fair market value.”
Still, the state has a long way to go. North Carolina does not publicly release private letter rulings, its corporate income tax directives are current only through April 2012, and the most recent corporate income tax bulletins that are publicly available are from 2008. As Amy Hamilton noted in a 2012 article on transparency in North Carolina, “Taxpayers who use publicly available technical bulletins may find themselves using guidance that’s been outdated for years. And those who seek out more specific advice may find themselves with a binding letter ruling that contradicts the guidance their competitors have been given.”
Practitioners are generally pleased with the direction that new Revenue Secretary David Hoyle has taken in the DOR since his arrival in 2010, but the culture will not change overnight. People who were once rewarded for creating and maintaining a veil of secrecy for the department must change their way of thinking. And this problem is not unique to North Carolina. Delhaize may have exposed an extreme example, but there is a sense of “them vs. me” in many state revenue departments. While legislation can be enacted and procedures put into place, it may take a long time to change a culture of secrecy.
It’s troubling because a transparent tax system benefits both taxpayers and state officials. Our system of taxation is all about voluntary compliance, so it is in the best interests of the state to make as much easily accessible information as possible available to taxpayers in order to cut down on the number of pre- and post-filing contacts the taxpayer needs to make with the tax authority, thus greatly improving efficiency.