TAX BOUNTY HUNTERS ON THE TRAIL OF NEW YORKERS

By Robert Kenny

New Jersey recently became the first state to hire a tax bounty hunter or ferret--a contingent fee agent who engages in the discovery, assessment, and collection of taxes--chiefly from out-of-state concerns doing occasional business in the state. Up until now this is a form of privatization that had been engaged in only by local jurisdictions (cities, counties, etc.) within eight other states: Connecticut, Delaware, Georgia, Kansas, Michigan, North Carolina, Pennsylvania, and Wyoming.

The chief area of controversy, however, is not the privatization of the activity; it is the method of compensation--contingent fee based on a percentage of taxes, interest, and penalties collected. Critics contend that, in due process terms, this is somewhat akin to having a traffic cop get paid a percentage of the ticket revenue. The practice has withstood court challenge, however, in five of six states, the lone exception being the Sears case in Georgia.

The practice originated as a method of employing property tax appraisal experts by local counties and municipalities. The New Jersey contract, as well as contracts in Pennsylvania and Delaware, extend to wage, income, business privilege, and sales taxes. The New Jersey contract was let to a collections lawyer who previously had the contracts with cities in Pennsylvania and Delaware and his affiliated collections agency, the Municipal Tax Bureau (MTB). Recently, one bounty hunter firm has proposed soliciting capital in a private offering.

Unauthorized Disclosure. Perhaps the threshold issue is whether this practice violates the structures on disclosure of the taxpayer's confidential financial information, e.g., N.J.S.A 54:50-8. In New Jersey the state may defend by saying that private tax collection agents are authorized by statute N.J.S.A. 54:49-12.2. But nowhere are discovery and assessment agents (which require much more in the way of confidential records and information) so authorized. Moreover, there is significant anecdotal information that bounty hunters use confidential taxpayer information obtained in one jurisdiction to prosecute the same taxpayer in, and even solicit contracts with other jurisdictions. This effectively circumvents any restrictions on exchange of information between tax authorities.

Another bounty hunter operating in New York, raises significant concerns in this area because it audits for abandoned property or escheat liabilities principally by using temporary employees. This, therefore, would require a corporate taxpayer to turn over sensitive shareholder and financial information to part-time employees over whom there is very little control.

The targets of this system have included professional athletes as well as physicians, accountants, builders, and attorneys performing services in the jurisdiction. Also included are out-of-state corporations which have not filed returns despite an alleged taxable nexus with the state. The techniques of the MTB include computer cross-checks of real estate, hospital, court, motor vehicle, hotel, and building permit records and even surveillance of cars and trucks coming into the jurisdiction.

Consumer Fraud. Another objection to this bounty hunter or ferret approach is that the communications from bounty hunters often convey the erroneous impression that they are a part of government. This can be interpreted as a violation of the Federal Fair Debt Collection Practices Act, 15 U.S.C.A. Sec. 1692 et. seq. and local consumer fraud statutes, which invoke the enforcement power of the Federal Trade Commission and a possible award of damages, costs, and attorney's fees.

Due Process and Conflict of Interest. Opponents also point out that due process requires an unbiased judgment in the assessment process by someone who does not have a pecuniary interest in the outcome. [See Tumey v. Ohio, 273 U.S. 510 (1927)]. The two leading cases to date did not deal with this Constitutional argument however, though the issue was raised in the briefs [Sears Roebuck and Co. v. Parsons, 260 Ga. 824, 401 A.E.2d 4 (1991), Appeal of Phillip Morris, U.S.A., 335 N.C. 227, 436 SE2d 828 (1993)]. The two cases went their separate ways on public policy grounds, the Sears court ruling that since there was no express authorization of bounty hunters, they were unlawful on policy grounds; and the Phillip Morris court deciding
that North Carolina law did not specifically outlaw their use and that public policy was the province of the
legislature.

Hence, we do not yet have a case squarely dealing with the Constitutional issue. So we must await the trial of this issue for a final resolution. Court decisions on public policy grounds can easily be reversed by the legislature. This
is not the case with constitutional grounds.

Advocates of taxpayer rights were disappointed in the latest decision of the Supreme Court which effectively removes one weapon against bounty hunters--the injunction [National Private Truck Council v. Oklahoma Tax Commission, 115 S. Ct. 235 (1995)]. There, a unanimous U.S. Supreme Court held that neither injunctive nor declaratory relief under 42 U.S.C.A. Sec. 1983 was available against unconstitutional state taxes. Nor were attorney's fees available under 42 U.S.C.A. Sec. 1988. This, in general, was because of the Tax Injunction Act (28 U.S.C.A. Sec. 1341 et. seq.).

Nevertheless, actions against bounty hunters seeking damages instead of injunctive relief may still be permissible after National Private Truck Council. The predominant view prior to the Supreme Court's decision has been that there is a distinction between suits brought to restrain the collection of an allegedly unconstitutional tax and suits for damages for official misconduct or alleged constitutional abuses in enforcing a presumable lawful tax. The latter have been considered permissible in the face of the Tax Injunction Act [See, Kenny, "Is 1993 Still an Available Remedy in State Tax Cases After National Private Truck Council," 10 Interstate. Tax Rep. No. 12 1 (1995)].

Also, more generally, a meager ray of hope appears in footnote six of National Private Truck Council wherein the Justices acknowledge that a state's continued enforcement of a tax ruled unconstitutional might give grounds for invoking the injunctive remedies of 42 U.S.C.A. 1983 because there would then be no adequate remedy under state law, which is an express exception to the Tax Injunction Act. *

Robert Kenny, Esq., CPA, engages in tax audit defense and business formation, estate, and tax planning in Lawrenceville, New Jersey. He moderates an online multistate tax discussion group (e-mail: taxdefender@counsel.com) and is currently adjunct associate professor of accounting at Rider University.

State and Local Editor:

Kenneth T. Zemsky, CPA

Ernst & Young LLP

Interstate Editor:

Marshall L. Fineman, CPA

David Berdon & Company LLP

Contributing Editors:

Henry Goldwasser, CPA

M. R. Weiser & Co LLP

Leonard DiMeglio, CPA

Coopers & Lybrand L.L.P.

Steven M. Kaplan, CPA

Konigsberg Wolf & Co., PC