Legislature(2003 - 2004)
03/18/2003 01:35 PM Senate L&C
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* first hearing in first committee of referral
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= bill was previously heard/scheduled
SB 86-INTEREST ON DELINQUENT TAXES
CHAIR CON BUNDE called the Senate Labor and Commerce Standing
Committee meeting to order at 1:35 p.m. and announced SB 86 to
be up for consideration. Present were Senators Seekins, French,
Stevens; Senator Davis was excused.
SENATOR WILKEN, sponsor, related to the committee that:
SB 86 was brought to him by a constituent and is an
act relating to the interest on delinquent taxes. When
a business in Alaska submits a tax report to the
Department of Revenue, the department reviews the
report to insure its accuracy. When an error is found
in a report resulting in an under payment or an over
payment in the taxes, an interest of 11% is attached
by statute. This interest rate is set in statute, AS
43.22.05, which mandates the interest on the
delinquent taxes to be 5 percentage points above the
District 12 Discount Rate or 11%, whichever is
greater.
SB 86 proposes to eliminate the reference to 11%
interest and retain the 12th District Discount Rate,
plus 5% as the formula for calculating interest on
delinquent taxes. This will establish a fair and
reasonable method of calculating interest by allowing
it to float with the market. We believe it is
inappropriate to charge Alaskans 11% on delinquent
taxes, especially since many delinquencies result from
honest mistakes, as you will hear today.
Another disturbing practice is that the department
often doesn't find the discrepancy in a tax report for
two or three years. Unfortunately, for the business
owner, the 11% interest accrues from the date the tax
report was filed, not the date the discrepancy was
discovered.
According to the Department of Revenue, the fiscal
impact to the state as a result of this legislation
will be marginal. The state will receive a fair and
reasonable interest from the delinquent taxpayers and
will also pay a fair and reasonable interest on
refunds to tax payers.
CHAIR BUNDE asked what were the typical interest rates
throughout the nation when the 11% was first set.
MR. DARWIN PETERSON, Staff to Senator Wilken, replied that the
interest rate was higher than that. The interest rate in statute
was simple 8% until the legislation was enacted that changed it
to 5% above the 12th District Discount Rate or 11%, whichever is
greater.
CHAIR BUNDE asked what the discount rate was then.
MR. PETERSON replied in 1980 the discount rate was 12% in the
12th District.
SENATOR STEVENS asked how this legislation would change the date
of filing for the charges starting to accrue if a mistake had
been made.
MR. PETERSON replied that all this bill does is change the
interest rate. The fact that it takes the department years to
discover a mistake begs the question that could be answered
under separate legislation at the end of the budget process. He
understands that statute requires the department to discover a
mistake within three years. Since that is what is in statute,
the department often waits and reviews tax reports when it gets
close to the statutory deadline. It was 20 months before they
realized there was an honest mistake in Mr. Walker's tax
reports. At that time the 11% interest rate had accrued for the
entire 20 months.
SENATOR STEVENS continued saying that if it's a floating rate,
it could be greater or lesser than when the mistake was actually
filed. This would base it on when it was discovered.
SENATOR SEEKINS said this would also have an effect on the
interest the state pays for overpayments of taxes and asked
where that would tie in statutes.
MR. PETERSON said that the state is also liable for the 11% if
there is an overpayment of taxes.
SENATOR SEEKINS asked if they had considered putting a cap on
the rate.
MR. PETERSON said that is a possibility.
MR. DAN DICKENSON, Director, Tax Division, Department of
Revenue, said he wanted to give them a little history of this
section of the law.
Up until 1980, if the taxpayer underpaid his taxes,
interest was calculated at 12% simple interest when a
company finally paid the amount due. As Governor
Hickel characterized this situation in his March 1991
letter of transmittal for the bill that resulted in
the current law, he said the state ends up loaning
billions of dollars to its tax payers at very low
interest rates.
As everyone knows, a huge backlog built up of oil and
gas taxes over the state. I was able to locate an
accounts receivable payment from March 1991 that shows
$3.6 billion dollars in outstanding taxes. As you can
imagine, over $3 billion of that was in oil and gas
back taxes.
The legislature and administration made a good
decision in 1991; they changed the law. They made
three cases. First of all interest was moved from a
simple to more standard commercial practice of
compounding interest. The change to compound interest
made a dramatic difference in the interest owed on
long delayed cases. Second, interest was defined as
the federal reserve inter-bank rate plus 5% or - and
this third point is the interesting point - a minimum
of 11%. This change was designed to get the attention
of companies that had been underpaying their taxes and
it did.
At the same time, in 1991, a change was made in Title
38 putting oil and gas royalties on the same higher
intra bank rate or 11% compounded. Over the next five
years, $3.5 in back taxes and royalties flowed into
the CBRF, the constitutional budget reserve fund and a
whole different attitude became apparent. Clearly,
there was more than just interest rate changes at work
in this situation, but it is also clear that the
interest rate change played a significant role.
Now, in 2003, our accounts receivable in the tax
division is $71 million or about 2% of what it was in
1991. So now it's time for another good decision, to
bring the interest rates more in line with market
rates. I don't think this will bring about a return to
backlog. Since this change sticks with compound rates,
tax payer delay will rapidly become more and more
expensive to the tax payer. This bill does not change
the interest rate on tax due oil and gas royalties.
This legislation simply eliminates the 11% minimum
rate on taxes and allows the rate to float at 5% above
the federal reserve's intra-bank rate. And just as the
new rate structure applies to back taxes owed the
state, it would also apply to certain tax refunds paid
by the state, thereby saving us some money. The
administration supports this bill and urges you to do
the same.
CHAIR BUNDE asked him to comment on language stating that the
clock starts ticking at the time the taxes are filed rather than
when the error is found.
MR. DICKENSON, in response, asked the committee to "put on the
glasses" of a large corporation who is paying hundreds of
millions of dollars in taxes to the state. There are frequently
conceptual problems about how things get characterized in both
royalty or the tax situation. These are sophisticated tax
requirements and sophisticated royalty payers.
In those situations, we don't want to have the state
essentially lending money to the companies; in other
words, have the companies underpay. We'll be in a
dispute with them for a year or two, three, four,
these can go on, and, then when it's finally agreed,
then the interest clock starts to run. The notion
should be that when a tax amount is agreed upon, we go
back and look when that was due and we make sure that
the company doesn't gain any advantage from not having
paid when it was due. That's a very different
perspective than the small business owner who perhaps
made an inadvertent error and is faced with the same
situation.
CHAIR BUNDE asked what would preclude the interest clock from
starting to tick the moment you found an error rather than
waiting until after everything was litigated.
MR. DICKENSON replied that nothing would preclude it and that
would set a small advantage for the companies for not paying
their taxes.
What it would really do is totally change the way the
division was organized and approaches problems. Right
now when we, and I'll just use Exxon, because everyone
understands that they're a tax payer here and they're
the world's largest industrial organization. When we
audit them, we don't want to be going in every month
and - the pay production tax as a monthly tax - and
try to catch the errors so that we start the interest
clock running. We wait until we have a two-year cycle
and go in, step back, look at it closely, sometimes
subsequent events have occurred that are important,
sometimes we need to hire experts that understand some
aspects of the business.
We are certainly organized around a principle that if
a company has underpaid, we can be thorough and
careful and make sure that we get the right amount and
that we're not penalized for taking the time to do it
correctly. If we were to change the statute, we would
have to think about our emphasis and think about how
dealt with the timeliness of findings and pointing out
these kinds of errors...
SENATOR FRENCH asked where the statute says the refund interest
rate is set the same as the delinquent tax.
MR. DICKENSON replied AS 43.05.280 - Interest on overpayments
(a) - Interest shall be allowed and paid on an overpayment of
tax under this title at the rate and the manner provided in AS
43.05.225, section 1.
SENATOR FRENCH said the fiscal note spoke about the potential
difference of close to $1 million per year in the amount going
to the constitutional budget reserve and asked him to comment on
that.
MR. DICKENSON replied that it's hard to estimate because the
number of payments is fairly small and the volatility is fairly
high. Interest is about one third of the dollars going into the
CBRF and that could change because the division is getting more
and more caught up, currently auditing 2000 and 2001 for the
major companies and 2002 for some of the smaller ones. They also
need to look at what future interest rates are going to look
like. Most folks think we're at an historic low and it's not
safe to use the 7.25%, which is what the interest rate is today.
Using assumptions, they came up with a ballpark figure of $1
billion.
In the income tax arena, we based our analysis on what
the IRS does. They are much further behind than we
are. So, let's say we got notice of an adjustment
[indisc.] to 1993 and made a tax adjustment and the
taxpayer paid us more tax based on that. From 1993
until the effective date of this law, you'd use the
11% and then for the number of months after that, you
would drop down and use the 7.25%. So, for the first
couple of years, you see almost no drop in the CBRF,
but then as you go out several years, that's where you
see the drop in [indisc.] and perhaps even go over it.
SENATOR FRENCH asked how he picked the fed plus 5% figure.
MR. DICKENSON replied that he wasn't directly involved with that
legislation, but they take what someone characterized as a risk
free rate and added 5%. Credit card rates are much higher than
that.
CHAIR BUNDE asked if they wanted to keep enough penalty "to keep
a careful pencil."
MR. DICKENSON replied that is exactly right. He added that the
Supreme Court has ruled that interest has no punitive aspects to
it; it is merely the time value of money.
MR. WAYNE WALKER, President, A&W Wholesale, thanked Senator
Wilken and Mr. Peterson for working on this issue and thanked
the Department of Revenue for trying to help him. He explained
that since 1970 he has been the sole respondent in filing the
tax returns for his company on cigarettes and they have as clean
a business as anybody. A precedent was set by the Department of
Revenue that within a few weeks after receiving their filing,
the department would send a letter on whether it was overstated
or understated and penalties and interest and by the time of
their next month's filing, they were expected to pay whatever
they owed including penalties and interest. That went on from
1970 at least through 1995 and maybe further. The report in
question was sitting somewhere for 20 months before they
received a report from the Department of Revenue. If they had
received a report from them sooner, the fine would have been
paid immediately.
MR. WALKER said the first letter he received was for what was
owed on the cigarettes, which was almost $16,000. Five days
later, they got another letter adding $3,000 worth of interest.
The reason they were upset is because they couldn't understand
why 20 months passed when there was 25 years worth of precedent
of a couple of weeks. He said also it came at a bad time for his
company as they had discontinued selling cigarettes almost two
years ago, which means they didn't have the cash flow they used
to have.
CHAIR BUNDE thanked him for his testimony. There were no further
testifiers and he announced that he would hold the bill for
further work.
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