Michigan Court of Appeals Holds That a Reduction in a Credit Is Not a “Deficiency”

The BR State + Local Tax Spotlight

The Michigan Court of Appeals held that the statute of limitations does not prevent the Department of Treasury (“Treasury”) from reducing a credit in an otherwise closed year, despite acknowledging flaws in how the audit was handled and the lack of notice to the taxpayer. McLane Co., Inc. v. Dep’t of Treasury, No. 354973, 2021 WL 4808351 (Mich. Ct. App. Oct. 14, 2021). This case is another example of auditors reaching back into otherwise closed years to examine items that have going-forward impact, but here the result was different from the result in a recent New Jersey case, which did not allow the retroactive adjustment under different statutory language. See R.O.P. Aviation, Inc. v. Dir., Div. of Tax’n, 32 N.J. Tax 346 (May 27, 2021), and You Had Your Chance: New Jersey Tax Court Prohibits Audit Adjustments to Closed Years, The BR State + Local Tax Spotlight (June 2021).

Facts: The Treasury audited the 2008 through 2010 returns filed by McLane Company, Inc. (“McLane”). It did not finish the audit until 2017, when it issued a final audit determination reflecting a total net credit due to McLane of $966,462, which was paid out by check. However, without the knowledge of the company and in the absence of any explanation by the Treasury, the check included a prior-year overpayment credit of $711,415 that McLane had claimed in its 2011 return.

Apparently recognizing the alleged double benefit, the Treasury then, in February 2018, issued a formal notice disallowing the overpayment credit on the 2011 return. The notice did not request that McLane pay additional amounts for 2011, but instead the disallowance resulted in much lower overpayment credit available to be carried forward.

McLane challenged the adjustment in an informal conference, contending that the four-year statute of limitations, Mich. Comp. Laws § 205.27a(2), prevented a change to its 2011 return in 2018. The hearing officer disagreed. McLane brought an action in the court of claims, which rejected McLane’s arguments, and McLane appealed to the court of appeals.

The Decision: The court of appeals affirmed. It found that the 2018 adjustment did not result in a “deficiency” under Mich. Comp. Laws § 205.27a(2), although it acknowledged that the term “deficiency” is not defined in the tax laws or regulations and invited the Legislature or Treasury to consider correcting this “oversight.” It agreed with the trial court, which, after reviewing dictionary definitions and statutory context, concluded that when the credit reduction results in a lower credit to carry forward, there is no “deficiency” to be paid by the taxpayer. The court of appeals determined that the disallowance did not result in additional tax being owed, since “McLane did not have to cut a check to pay a tax deficit.”

The court explicitly noted that “McLane’s frustration with how the department handled this matter is understandable” and that “these were not the best of circumstances, as most clearly evidenced by the department’s lengthy delay in finishing the 2008-2010 audit, and most egregiously, its failure to explain that the check reflecting the total net credit from the audit included an overpayment credit from the 2011 tax return.” Nonetheless, the court held that there was no assessment of a “deficiency” when the credit was disallowed and rejected McLane’s challenge.

This article is one in a series of articles written for the November 2021 edition of The BR State + Local Tax Spotlight.