Sales Tax Slice: Iowa Lawmakers Construct Time Machine to Remedy Faulty Statute

In 2008, when the Iowa Legislature enacted S.F. 2400, specifically section 60, the intention was to exempt sales-tax exempt transactions from the state’s 5 percent equipment tax. The legislation accomplished this objective, but a recent discovery has exposed an “inadvertent” consequence that left taxpayers paying an obsolete tax for the past five years. Now, after being informed of their mistake, state lawmakers have introduced legislation to not only correct the error going forward, but to also erase any fiscal and administrative ramifications brought on by it.

For most of us, the notion of building a time machine to head off problems that currently beset us is a Hollywood fantasy.  But states have been using their own device—retroactive legislation—to cure their ills for years.  

One difference is that a state’s use of a time machine does not often result in the same happy ending as the movie Back to the Future.  Instead, taxpayers that followed a law can find themselves forced to pay an entirely unexpected assessment or have a refund rejected.  

The latest installment of State TaxBack to the Future involves the discovery that S.F. 2400 effectively repealed the state’s equipment tax on certain heavy equipment purchases. Accordingly, such discovery suggests that the bill was slightly over-inclusive in this regard.

Indeed, for the past five years, taxpayers have continued to collect and remit the tax on equipment such as motorized scaffolding, pile drivers, and self-propelled equipment. But since those items are exempt from Iowa sales tax, they apparently didn’t have to continue that activity.

The error, according to Victoria Daniels, spokeswomen for the Iowa Department of Revenue, slipped by the department, lawmakers and code editors and was finally brought to light over the summer when an attorney contacted the department to inquire about the specific code section. But if action is not taken during this legislative session, the state could potentially be on the hook to refund an estimated $18 million in taxes, plus interest, which would put that figure in the $20-$25 million range, Davis said.

Accordingly, to correct this legislative blunder, Iowa Senate Study Bill 3117 was introduced on January 28 and retroactively applies to all sales or uses of equipment on or after July 1, 2008, the effective date of S.F. 2400. 

In essence, because the tax was seamlessly collected and remitted over the last five years, the legislature is taking a “no-harm, no-foul” –type approach to this oversight. However, the issue of fairness looms large given the state of the economy over those past five years.

While the notion of retroactive legislation has been around for some time, it is not without controversy. Don’t compliant taxpayers deserve a clear and honest tax code? They are likely the ones being injured here. How about the taxpayer that caught S.F. 2400’s blunder early on and accordingly refused to collect and remit the tax? Can the department issue an assessment for those periods when the law was technically absent from the code?

Of course you can frame the argument as rewarding the diligent taxpayer in this situation, but why punish those that aren’t as sophisticated or were simply seeking to follow the law as they always had? According to Craig Fields, partner at Morrison and Foerster, “if the legislature decides that the tax should be changed, it should do so prospectively . . . [i]t should certainly not retroactively change a law that has been in existence for over five years.”

However, according to Daniels, such an oversight was an “honest mistake” and she hopes no one seeks to capitalize on it. The equipment tax is collected on a quarterly basis, and it will continue to be collected in the interim, Daniels said. Further, representatives of the heavy equipment industry have expressed cooperation and understanding with the current version of the bill, she said. Accordingly, she expressed optimism over legislative action to correct the error.

Continue the discussion on the BBNA State Tax Group on LinkedIn :  Is this retroactive applicability legislation fair for taxpayers?

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