OGC Op. No. 10-11-14

The Office of General Counsel issued the following opinion on November 2, 2010 representing the position of the New York State Insurance Department.

Re: Retaliatory Tax Refund

Question Presented:

Does the payment by Insurer of franchise taxes in May, 2006 entitle Insurer to a refund, in whole or in part, of retaliatory taxes paid in 2005 for tax year 2003, an offset for retaliatory taxes currently due for tax year 2007, and a further offset for retaliatory taxes that may become due in the future?

Conclusion:

No. Insurer is not entitled under New York Insurance Law (“Insurance Law”) § 9109(a) to a refund of retaliatory taxes paid in 2005, a credit for retaliatory taxes due for tax year 2007, or a future credit against retaliatory taxes that may become due.

Facts:

Insurer owed retaliatory tax (without regard to interest and penalties) for tax years 2003 through 2007. These amounts were determined by and are to be paid to the Superintendent. The amount due for 2003 was paid in 2005. The amount due for 2007 has not yet been paid.

Insurer’s federal income tax liability for tax years 1999-2001 was audited by the Internal Revenue Service (IRS). A portion of Insurer’s net operating loss (NOL) deductions for those years was disallowed. The federal tax dispute was settled in January, 2001, followed immediately by a re-examination of the franchise taxes due for 1999-2001 by the New York Department of Taxation and Finance (DTF) to determine the effect of the IRS changes to Insurer’s NOL. DTF used Insurer’s federal tax NOL (as revised by the IRS audit) to calculate Insurer’s NOL for New York franchise tax purposes. No other issues as to law or fact were raised at the state level other than the substitution of the revised federal tax NOL. On the basis of DTF’s calculation, Insurer paid additional franchise taxes to DTF in May, 2006.

On November 20, 2009, as part of an ongoing dialogue about the amount of retaliatory taxes owed for tax year 2007, Insurer emailed the Taxes and Accounts Bureau of the Insurance Department (“Department”) with a request that its May 2006 franchise tax payment be taken into account in the calculation of retaliatory taxes then due and any amounts that might be due in the future. Subsequent submissions clarified that Insurer wishes to obtain a refund of its 2005 payment for the 2003 tax year, a credit against all amounts due for tax year 2007, and a carryover for any unapplied amount.

Analysis:

A. Statutory Framework

Analysis of Insurer’s refund request requires consideration of several provisions of the Insurance Law and Tax Law. A discussion of each of these provisions follows.

Insurance Law § 1112 is relevant to the inquiry. It imposes a retaliatory tax upon a foreign insurer in the event that the foreign insurer’s state of domicile imposes more onerous taxes upon New York domiciled insurers than New York imposes upon insurers of that foreign domicile. Insurance Law § 1112 reads, in pertinent part, as follows:

(a)(1) If, by the laws, or the action of any public official, of any other state, any insurer organized or domiciled in this state, or its duly authorized agents, shall be required to deposit securities in such other state to protect policyholders or for any other purpose, or shall be required to pay taxes, fines, penalties, fees for licenses or certificates of authority or any other sum for the privilege of doing business in such other state, or shall be subjected to any restrictions, obligations, conditions or penalties, imposed for such privilege, and such requirements are greater than those required of similar insurers organized or domiciled in such other state by the laws of this state for the privilege of doing business herein, then all similar insurers organized or domiciled in such other state and their duly authorized agents in this state shall make like deposits for like purposes with the superintendent, and pay him for taxes, fines, penalties, fees for licenses or certificates of authority or for any other requirement for the privilege of doing business in this state, an amount determined in the manner prescribed by such other state, and shall be subjected to such greater requirements imposed by such other state upon similar insurers of this state and their duly authorized agents.

Unlike the goal of most other taxes imposed by New York State, the purpose of the retaliatory tax imposed pursuant to Insurance Law § 1112 is not to raise revenue. Indeed, Insurance Law § 1112 imposes the retaliatory tax upon an insurer domiciled in another state only if that other state imposes greater obligations upon New York-domiciled insurers than upon its own domiciliaries. See Op. Att’y Gen. 153 (1935) (addressing 1909 predecessor to Insurance Law § 1112). In addition, a foreign insurer pays no retaliatory tax if it pays franchise tax at least equal to the burden borne by a New York-domiciled insurer in the foreign insurer’s domicile. Rather, via the possible imposition of retaliatory tax to equalize tax burdens between domestic and foreign insurers, New York employs Insurance Law § 1112 to encourage sister states to keep taxes on New York-domiciled insurers as low as possible.

The franchise tax paid to DTF is determined under New York Tax Law Article 33. As with many state taxes, much of the data used to determine the amount due is taken directly from the federal income tax return of the taxpayer. In this instance, Tax Law § 1503(b)(4) specifies that an insurer’s federal income tax NOL deduction, determined under the provisions of the Internal Revenue Code, is used as part of the calculation of an insurer’s franchise tax liability. The subsection continues with a lengthy list of adjustments, limitations and exclusions to the amount taken from an insurer’s federal income tax return, none of which are at issue here.

Under the regime integrating franchise and retaliatory taxes, Tax Law § 1511(b) allows a credit against retaliatory taxes imposed for franchise taxes paid by insurers to DTF pursuant to Tax Law Article 33. The subsection provides:

(b) Credit against reciprocal taxes imposed by this state. In assessing taxes under the reciprocal provisions of section one thousand one hundred twelve of the insurance law, credit shall be allowed for any taxes paid under this article [i.e., Article 33 of the Tax Law, which deals with franchise taxes imposed upon insurance corporations].

B. Discussion

We will assume for purposes of argument that the Insurer’s claim was timely filed. Accordingly, the issue at hand is whether Insurer is entitled to a refund or offset against retaliatory tax paid or due for tax years 2003 and 2007 as a result of its payment of additional franchise tax in 2006 for tax years 1999-2001. Insurer specifically asserts that, because it paid additional franchise taxes in 2006, the retaliatory tax payments it made within the three years before the 2006 franchise tax payments are now refundable overpayments. Insurance Law § 9109 applies an overpayment by calendar years rather than tax years, so Insurer’s request in 2009 for refund of overpaid retaliatory taxes produced by a payment of franchise tax in 2006 clearly includes the retaliatory tax payment in 2005 (even though the latter payment was attributable to the 2003 tax year).

Insurance Law § 9109 sets forth the rules for refunds of taxes, fees or other charges that are erroneously paid to the Department:

§ 9109. Refunds and penalties. (a)(1) Whenever the superintendent is satisfied that because of cancellations, some mistake of fact, error in calculation, or erroneous interpretation of a statute of this or any other state, any authorized insurer or excess line broker has paid to him pursuant to any provision of law, taxes, fees or other charges in excess of the amount legally chargeable against it during the three year period immediately preceding the cancellations or the discovery of such overpayment, he shall refund to such insurer or excess line broker the amount of such excess by applying the amount toward the payment of taxes, fees or other charges already due or which may become due from such insurer until such excess has been fully refunded or at his discretion make a cash refund. The excess line broker shall pay the insured any refund of premium tax returned to such excess line broker if such taxes were originally collected from the insured. Such cash refund may be paid from any moneys not turned over to the department of taxation and finance pursuant to the provisions of the state finance law. [Emphasis added.]

Insurance Law § 9109(a)(1) does not mandate an automatic refund of excess retaliatory tax payments. The law authorizes a refund only if the excess payment results from one of three causes: (A) cancellation, (B) some mistake in fact/error in calculation, or (C) an erroneous interpretation of a statute of this or any other state.

As noted in the statement of facts, the sole and proximate cause of this claim for refund is the IRS determination that Insurer claimed an excess NOL on its federal income tax returns for tax years 1999-2001. Any mistake as to the facts and/or the application of federal tax law to those facts occurred in the course of the IRS dispute. Insurer has not alleged that a cancellation occurred or that any mistake of fact (generally thought of as a calculation error, placement of an entry on the incorrect line, or similar error) was made on its original franchise tax returns.

Insurer argues that the federal income tax NOL deduction, used under Tax Law § 1503(b)(4) as one of the factors in the computation of franchise taxes payable to New York, is determined under federal law and other federal tax authorities. Accordingly, Insurer argues that, because the amount of federal income tax NOL deduction used in the New York franchise tax calculation was changed because of a misinterpretation of federal law, the additional franchise taxes paid (and thus the “excess” retaliatory tax payments) are also simultaneously due to an error in interpreting New York law.

Insurer’s position is unsustainable for two reasons. First, Insurance Law § 9109(a) specifically refers to an error in interpretation of the law of either New York or another state. Although the precise nature of the legal disagreement with the IRS is not in this record, it is clear that the change in the amount of NOL allowed to Insurer for the taxable years at issue and other affected tax years was due solely to a dispute as to the application or interpretation of federal income tax law. State law was not involved in any way.

Insurer also argues that, because the federal NOL is used as part of New York’s calculation of the amount of franchise tax due, a change in the NOL amount (even though solely due to the application or interpretation of federal law), is also simultaneously an error in interpretation of New York law. Insurer’s argument fails because Tax Law § 1503(b)(4) does not provide for, or indeed allow, an examination by the Superintendent of the underlying validity of the federal income tax NOL deduction. Use of the NOL is simply part of the ministerial calculation process. Tax Law § 1503 begins with various entries from an insurer’s federal income tax return and then adjusts those numbers according to the formulas contained in Tax Law Article 33. There is simply no interpretation of state law involved.

Accordingly, Insurer has not paid excess taxes, fees, or other charges that are due to cancellation, a mistake of fact, or an error in interpretation of the New York’s or another state’s law, and Insurer is not entitled to a refund or an offset for the amounts paid. Because Insurer has failed to prove that any of the causes required as a prerequisite for approval of a refund are present, we need not address either the application of the statute of limitations or any of the computational issues that Insurer has also raised.

For further information you may contact Associate Tax Counsel Ann H. Logan at the New York City office.