The United States Supreme Court’s opinion in Hyatt v Franchise Tax Board[1], issued earlier this week, puts to rest twenty years of litigation with a decision concluding that the litigation was unconstitutionally filed in the first place. It is unlikely to have ongoing state tax impact other than by limiting where taxpayers can bring suit. Unlike South Dakota v. Wayfair[2], the opinion is straightforward, lacks qualifiers and provisos, and does not introduce terminology like “extensive virtual presence” requiring interpretation. Its reasoning is rooted in sovereign immunity concepts that do not typically receive much play in state tax opinions. This article explains the state tax backdrop of the case, discusses the sovereign immunity and stare decisis issues the case presents, and considers the opinion’s likely impact on state tax appeals.
The State Tax Backdrop
Hyatt v. Franchise Tax Board originates from a protracted California residency audit of an inventor who was a California resident but then moved to Nevada. Even by residency audit standards, the audit was contentious and intrusive. The facts as set forth in lower court opinions indicate that the Franchise Tax Board rifled through his trash, interviewed his estranged relatives, and disclosed confidential information about him to third parties. The audit was so intrusive, in fact, that he brought tort claims against the Franchise Tax Board in Nevada state court on several different theories. A Nevada jury returned a massive award in his favor and roughly two decades of appeals followed.
Two prior appeals reached the United States Supreme Court. A central issue in those appeals was how much immunity the Franchise Tax Board should receive from the Nevada State Court system. In particular, an issue was whether the Franchise Tax Board should receive the same degree of immunity that Nevada state agencies receive from tort claims under Nevada law or whether the Nevada courts are required, under the full faith and credit clause, to apply the full or near-full immunity from tort claims that California agencies receive under California law.
Sovereign Immunity – the Court’s Analysis
There is an extensive body of sovereign immunity case law. A principle from the case law is that the states are generally not subject to suit unless they have consented to be sued. And the 11th Amendment prohibits individuals from filing suits in local federal courts against other states (for example, the 11th Amendment restricts Hyatt from filing tort claims against the FTB in Nevada federal court).[3]
No constitutional provision expressly forbids individuals like Hyatt from filing lawsuits against out-of-state agencies in local state courts. This is not an abstruse or deeply-buried point. At the Hyatt v. Franchise Tax Board oral argument the justices hammered this point and it also figured heavily in the briefs filed by Hyatt in the case.
The majority opinion, authored by Justice Thomas, answers this “no textual support” argument in two ways. First, it states that the overall historical record supports granting the states sovereign immunity from suit in other states’ courts. Second, it holds that the overall constitutional design supports granting states such immunity.
On the historical record, Justice Thomas’s majority opinion cites a variety of different sources including Federalist and Anti-Federalist Papers, and the results of pre-ratification disputes, to support the notion of a historical, pre-ratification understanding that the states retained immunity from private suits in other states’ courts. On constitutional design, the opinion cites several different articles of the Constitution to support the notion that the states are not tantamount to foreign sovereigns (they are not equivalent to fully independent foreign nations vis-à-vis one another) but rather stand in something more closely resembling a brother-sister relationship in which there must be equal respect and inter-state conflicts are constitutionally disfavored; allowing the courts of one state to resolve disputes involving another state would upset this constitutional design, per the majority opinion.
Stare Decisis – the Court’s Analysis
Besides providing the historical and constitutional design bases for state sovereign immunity, the majority opinion also explains why the Court decided to overrule Nevada v Hall[4], which reached the opposite result. The majority opinion notes that stare decisis is “not an inexorable command” that must be followed under all circumstances.[5] It walks through four factors often cited in multi-factor stare decisis analysis (the quality of the prior decision’s reasoning; its consistency with related decisions; legal developments since the decision; and reliance on the decision) and concludes that those factors support overruling its prior opinion in Nevada v. Hall.
State Tax Implications – Limiting Tort Claims and Nexus Appeal Options
Had the case come out the other way, it would have left the door open to increased: (1) lawsuits from individuals seeking to file tort claims in local state courts against out-of-state tax agencies; (2) laws like the one enacted in Virginia[6], and like New Hampshire has contemplated, that allow in-state taxpayers a legal avenue for challenging the constitutionality of nexus determinations asserted by out-of-state tax agencies.
The Court’s opinion holds that (1) is unconstitutional. And (2) seems inconsistent with the “constitutional design” and understanding expressed by the majority opinion. Per the logic of the majority opinion, the states should not generally be passing judgment on the actions of one another, so (2) seems constitutionally suspect.
Where does this leave taxpayers? The Tax Injunction Act[7] and comity principles[8] will generally bar taxpayers from bringing suit in the federal courts; and now Hyatt v. Franchise Tax Board will generally foreclose taxpayers from bringing suit against out of state tax agencies in local state courts. Overall, then, aggrieved taxpayers will generally be left with little choice but to play ball on the home turf of the states with which they are in conflict.
Conclusion
Hyatt v Franchise Tax Board is not a barnburner from a state tax perspective. Its chief state tax significance rests in the limitation it places on suing out-of-state tax agencies in local state courts. It will almost certainly deter states from enacting laws authorizing in-state courts to rule on the constitutionality of nexus determinations made by out-of-state tax agencies. Outside the state tax area, the Court’s opinion is more broadly important as a state sovereign immunity precedent and for its flexible approach to stare decisis.[9]
[1] 587 U.S. ______ 2019 (May 13, 2019).
[2] 138 S. Ct. 2080 (2018).
[3] The Eleventh Amendment provides that the “judicial power of the United States shall not be construed to extend to any suit in law or equity, commenced or prosecuted against one of the United States by Citizens of another State, or by Citizens or Subjects of any Foreign State.”
[5] See pages 6-7 of the majority opinion.
[6] See, e.g., Va. Code Ann. § 8.01-184.1.
[8] See, e.g., Levin v. Commerce Energy, Inc., 560 U.S. 413 (2010).
[9] The approach to stare decisis is a bone of contention between the majority and the dissent. The dissent argues that the majority’s approach is far too cavalier, at least where an earlier opinion is not plainly wrong and is producing “no serious practical problems.” See page 13 of the dissent.
