For the first time since the enactment of the False Claims Amendment Act of 2020, the DC Attorney General’s (AG’s) Office has used its new tax enforcement powers to pursue an alleged personal income tax deficiency. This development brings to the forefront a long-simmering constitutional problem with DC’s statutory residency law and offers a stern warning to businesses that assist key employees and executives with their personal tax obligations.
The press rapidly and widely reported on DC’s lawsuit against MicroStrategy Co-Founder, Executive Chairman and former CEO Michael Saylor for alleged evasion of D.C. personal income taxes, which was made public this week. The case alleges that Saylor wrongly claimed that he was a resident of Virginia or Florida (rather than DC) since at least 2012.
The case was originally brought under seal by a relator under DC’s False Claims Act in April 2021—less than one month after the False Claims Amendment Act took effect. Using its new tax authority, the DC AG’s Office filed a complaint last week to intervene (taking over the case going forward). Interestingly, when the DC AG’s Office took over the case, it added MicroStrategy as a defendant under the theory that the company conspired to help Saylor evade DC personal income taxes. Under DC’s False Claims Act, both Saylor and MicroStrategy could be liable for treble damages if a court rules in favor of the DC AG’s Office.
ISSUES WITH DC’S “STATUTORY RESIDENCY” TEST
While determining where an individual is a resident for state and local tax purposes generally requires a fact-intensive analysis, the case against Saylor also implicates DC’s unique (and likely unconstitutional) statutory residency standard. DC’s statute is fundamentally different than statutory residency standards in other states. Most states only tax individuals having their domicile in the state as residents, while some states also have a “statutory residency” test to classify individuals as taxable residents. In most states, a person is classified as a statutory resident if they (1) maintain a permanent place of abode in the jurisdiction and (2) spend more than a specific number of days (typically 183 days) in the jurisdiction.
DC truncates this standard and classifies someone as a statutory resident if they merely maintain a personal place of abode in DC for more than 183 days. Thus, no amount of actual presence of the individual in DC is required. The problem created by this one-of-a-kind standard should be obvious: someone can (as many high-net-worth individuals often do) maintain a residence for 183 days in more than one jurisdiction. Thus, the plain language of the statute would violate the Commerce Clause of the US Constitution because it runs afoul of the internal consistency test. Under this test, a statute is unconstitutional if under a hypothetical situation in which every jurisdiction has the same law as the one being challenged, more than 100% of the tax base would be subject to tax. Here, if every state had a statutory residency test applicable to anyone who had a place of abode in the jurisdiction for more than 183 days, every state in which a person owned a residence could tax 100% of that person’s income. In theory, an individual with a place of abode in five different states would be taxed on 500% of their income by those states—a clearly unconstitutional outcome.
The only way to preserve the constitutionality of DC’s statutory residency statute is to have a more limited definition of “permanent place of abode” such that even if a person had a residence in multiple states, only one of those residences would be deemed the permanent place of abode. In fact, at least one judicial decision maker in DC has specifically narrowed the statutory interpretation to conform to constitutional requirements. However, the DC statute provides no such limitation, and even if a more limited interpretation is applied, it is not clear how the revised standard would differ from the more traditional domicile analysis, eliminating the need for a separate statutory residency standard in the district. In sum, DC’s current statutory residency standard risks invalidity and the DC Council, or at least the DC Office of Tax and Revenue, should provide the necessary limiting definitions and clarity to ensure it is applied in a constitutional manner.
ISSUES WITH DC BRINGING A FALSE CLAIMS ACT CASE AGAINST A PUBLICLY TRADED COMPANY RELATED TO AN EMPLOYEE’S PERSONAL INCOME TAX LIABILITY
The DC AG’s Office’s decision to add a publicly traded company as a defendant in a personal income tax case should be of concern to any business with activities in DC It is not uncommon for a company, even a large one, to provide tax advice to their employees—particularly to highly compensated employees with complex compensation packages or business location requirements. Such companies also have withholding obligations that require coordination on residency determinations to comply with state and local tax laws.
The addition of MicroStrategy as a co-defendant to Saylor’s case should push companies to review prior advice they provided to employees and consider potential risks that could arise in connection with its compliance with state and local withholding obligations. In jurisdictions like DC that include tax matters under the purview of their false claims act, the risk to employers (and potentially outside advisors) is increased. Companies should consider carefully documenting their due diligence regarding these issues, including potentially consulting with external lawyers regarding the application of relevant withholding tax laws and documenting how the company complied with any guidance provided.
Practice Note: This case is likely to raise many issues of first impression in the district regarding the appropriateness of expanding the False Claims Act to include tax issues. For a more robust discussion of the problems raised by such expansion, see our prior coverage of legislative expansion efforts in DC, California and New York. While Saylor’s case has generated significant media voyeurism, it is also an important case because it highlights the constitutional problem with DC’s statutory residency law and the risks (including treble damages!) companies may inadvertently assume in the growing number of jurisdictions with a false claims act applicable to tax matters when they provide their employees with guidance addressing personal income tax compliance.