On April 22, the Supreme Court of Oklahoma released its opinion in CDR Systems Corp. v. Oklahoma Tax Commission. Case No. 109,886; 2014 OK 31. The Oklahoma Supreme Court, overturning the decision of the Court of Civil Appeals, held that an Oklahoma statute, which grants a deduction for income from gains that result from the sale of all or substantially all of the assets of an “Oklahoma company,” is constitutional under the Commerce Clause. “Oklahoma company” is defined as an entity that has had its primary headquarters in Oklahoma for at least three uninterrupted years prior to the date of the taxable transaction.
In a 5-4 decision, the Oklahoma Supreme Court determined that there was no discrimination against out-of-state commerce. Even if there was discrimination, the Oklahoma Supreme Court held that the statute does not facially discriminate against interstate commerce, does not have a discriminatory purpose and has no discriminatory effect on interstate commerce. The Oklahoma Supreme Court’s reasoning was based in part on the conclusion that the statute treated all taxpayers the same.
In his dissent, Justice Combs reached the opposite conclusion and wrote that the deduction is unconstitutional because the primary headquarters requirement is based upon the level of business a company conducts in Oklahoma, and therefore it discriminates against out-of-state taxpayers. The dissent concluded that the statute effectively creates a tax on taxpayers with an out-of-state headquarters.
Although the majority ably walked through the existing case precedent on these issues, it misunderstood the practical effect of the statute. First, the majority concluded that the statute did not discriminate against any particular market because all markets are treated the same. This conclusion ignores the fact that under the statute, in-state markets are treated differently than out-of-state markets. The majority stated that “[w]ithout any actual or prospective competition in a single market, there is no negative impact on interstate commerce that results from the application of this deduction and no discrimination against interstate commerce . . . .” (Majority Opinion, p. 14). However, there is competition between in-state companies and out-of-state companies, not just in a single market but in all markets.
In reaching this conclusion, the majority relied upon Gen. Motors Corp. v. Tracy, 519 U.S. 278 (1997), which upheld the constitutionality of a tax that discriminated across markets (in other words, the statute benefited an in-state entity not because the entity was in-state but because it was in a different market and sold different products than an out-of-state entity). The dissent specifically took exception to the majority’s reliance on Gen. Motors, for good reason. The Tracy case does not appear to be applicable here, because the in-state and out-of-state entities are competing in the same markets under the Oklahoma statute.
Second, the majority concluded that the statute did not facially discriminate against interstate commerce because “[t]he degree to which the entity generating the gains participated in out-of-state activity, i.e. interstate commerce, is not relevant to whether the entity qualifies for the deduction” (Majority Opinion, p. 17). The majority then concluded that there was no discriminatory purpose behind the statute and that any discrimination was offset by in-state benefits. Again, this misunderstands the practical effect of the statute. Contrary to the majority’s conclusion, the statute’s only criteria relevant to qualification for the deduction are the amount of in-state activity. Recognizing this fact, the dissenting opinion reached a very different conclusion: “[t]he primary headquarters requirement makes the deduction based upon the level of business a company conducts in Oklahoma” (Dissenting Opinion, p. 10).
The case is a good candidate for a rehearing or appeal to the U.S. Supreme Court. The Oklahoma Supreme Court is sharply divided, and the majority appears to misunderstand the practical effect of the statute. The two sides do not disagree on the precedent that should be applied, but rather on how the statute would work within the context of that precedent. Unfortunately, the majority got it wrong. Stay tuned as this case continues to progress.