STATE AND LOCAL TAXATION

May 2000

MICHIGAN SITE-BASED CAD DEDUCTION

By Nicholas A. Nesi, CPA, BDO Seidman, LLP

In determining the Michigan Single Business Tax (SBT) liability, Michigan permits taxpayers a capital acquisition deduction (CAD), which is a one-time upfront deduction to recover the cost of tangible assets (i.e., in lieu of depreciation or amortization). Although the CAD had been available for assets regardless of their location, the statute was amended in 1995 to limit the deduction to assets located in Michigan, effective January 1, 1997. In Jefferson Smurfit Corporation v. Department of Treasury [Docket No. 98-17140 (11/24/99)], this amended provision was challenged by the Jefferson Smurfit Corporation on the grounds that the amendment facially violated the U.S. Constitution by discriminating against interstate commerce.

The Michigan Court of Claims found that the 1995 amended CAD provision limits the deduction to Michigan-based assets and thus attempts to channel investment capital into the state. The court further found that the amendment precluded multistate taxpayers from receiving an appropriate benefit from the CAD, because the deduction was based on a taxpayer's apportioned activities in each state. As a result, the court held that the amended CAD deduction failed the "internal consistency" test and impermissibly discriminated against interstate commerce.

Required Action

Although the Michigan Department of Treasury will appeal the Jefferson Smurfit decision, taxpayers have a reasonable basis to take a CAD deduction on all assets regardless of location. For returns that have been previously filed under the 1995 amended CAD provision, protective refund claims should be submitted as soon as possible. In preparing such claims, a note should be attached stating that the 1995 amendment contained a provision which, in the event the limitation of the CAD to Michigan-based assets was held unconstitutional, provides that the CAD deduction and the tax base will be apportioned using the following weighted three-factor formula:

* 1997: 50% sales, 25% property, 25% payroll
* 1998: 60% sales, 20% property, 20% payroll
* 1999: 70% sales, 15% property, 15% payroll.

The normal four-year Michigan statute of limitations is reduced to 90 days from the extended due date of the return in cases where the refund claim is based on constitutional grounds. This means that taxpayers are unlikely to qualify for relief under Jefferson Smurfit for their 1997 SBT returns unless they took a protective position on the return as originally filed. For 1998 and subsequent year returns, protective amended returns should be filed within the 90-day period. Effective January 1, 2000, the CAD has been replaced by an investment tax credit. *