Derek K. Heyman, PhD, JD, CPA - Attorney
Cities Win Round One vs. Buckeye Institute
On April 27, 2021 the Franklin County Court of Common Pleas granted the motions of the Columbus City Auditor and the Ohio Attorney General to dismiss the lawsuit brought by The Buckeye Institute (“Buckeye”) and three of its employees to refund their municipal income taxes withheld and paid to the city of Columbus. The Buckeye employees began working from home around the beginning of the Covid-19 pandemic, following the March 9 state of emergency declaration by Governor DeWine and Buckeye’s own advice that its employees work from home, issued on March 18, days before the Ohio Department of Health’s official Stay-at-home order of March 22, 2020. Buckeye continued to withhold payroll taxes for Columbus, following the expanded safe harbor for withholding included in the hastily drafted Section 29 of H.B. 197 (“Section 29”), that went into effect on March 27, 2020. Plaintiffs’ Position: The principal place of work for Buckeye and its employees was Columbus. According to the July 2, 2020 complaint, Section 29 requires continued withholding to Columbus even though the employees are working from their homes outside Columbus. The complaint asserted two issues:
Section 29 violates the Due Process clauses of the U.S. and Ohio constitutions by requiring tax to be paid to a locality that has no connection with the income taxed; and
Section 29 violates Article XVIII, Section 13 of the Ohio Constitution by expanding a municipality’s power to tax income, enabling it to reach beyond its borders, even though the municipal code itself imposes tax only on income earned within the city.
Columbus’ Position: Based on its refusal to refund the tax to the Buckeye employees and similarly situated taxpayers, it appears that Columbus interprets Section 29 to provide for more than easing an employer’s withholding burden by increasing the protections under the 20-Day Occasional Entrant Rule (“20-Day Rule”) contained in R.C. 718.011. Instead, Columbus seems to be taking the position that Section 29 also requires wages to be treated as earned in Columbus for purposes of the employees’ personal tax returns, not just for the employer’s withholding responsibility. Under such a broad interpretation, employees would not be able to receive refunds from Columbus for the portion of wages earned outside of Columbus (or even outside of Ohio) during the pandemic. Motion to Dismiss: The city of Columbus, joined by the Ohio Attorney General, moved to dismiss the complaint for failure to state a claim, arguing that: (1) Section 29 “presents no new legal issues,” because “Just like the 20 Day Rule and the Small Employer Rule, H.B. 197 authorized the employee’s ‘regular and ordinary’ principal place of work municipality to impose tax even if the employee isn’t physically working in that municipality during those days;” and (2) the Due Process Clause does not prohibit “the application of a municipal income tax to an Ohioan during the time the Ohioan lives and works outside the municipality.” Court’s Decision: The Franklin County Common Pleas Court’s order to grant motions for dismissal brought by Columbus and the Attorney General shows that the court, like the original Buckeye complaint and the city’s response, interprets Section 29 as creating a tax obligation, not merely a withholding convenience, to the city of Columbus. The decision, however, does not discuss this distinction, and when it discusses the “20-Day Rule,” it characterizes it thus:
The 20-Day Rule authorizes the municipality in which the employee is required to report for employment duties “on a regular and ordinary” basis to retain the power to tax employees working elsewhere. At the same time, the 20-Day Rule limits the power of the municipality in which the employee is working, by not allowing the municipality to impose a tax.
Seen this way, the 20-Day Rule provides a precedent for what Section 29 does, but not because Section 29 impacts withholding only; rather because the court views both the 20-Day Rule and Section 29 as “regulat[ing] municipal taxing authority, both temporally and geographically.” The court’s order focuses on the Ohio General Assembly’s “broad powers of intrastate taxation,” Interpreting Section 29 as a run-of-the-mill state taxation statute, essentially imposing a statewide tax that it allocates to those cities that have chosen to participate. Referring to two cases cited by Buckeye in its complaint, the court states:
Neither Hillenmeyer nor Willacy address the Ohio General Assembly’s longstanding power to tax Ohio residents wholly within Ohio’s borders, or to set appropriate limitations between Ohio municipalities for an efficient, organized and coordinated intrastate taxing schema.
Discussion and Observations: From this point of view, it may be unsurprising that the court finds Buckeye’s argument that Section 29 violates the Due Process clauses of the U.S. and Ohio constitutions to be “misplaced.” In Buckeye’s complaint, and its response to the city’s motion to dismiss, the government entity whose tax exceeds constitutional due process limits is the city of Columbus, not the state of Ohio. Yet that distinction is not directly addressed by the court, which maintains a narrow focus on the General Assembly’s powers. The court notes that “the Home Rule Amendment to the Ohio Constitution provides the power to impose municipal taxes, expressly subject to the limits and the control of the General Assembly.” And while Buckeye’s complaint alleged that Section 29 impermissibly expands, rather than limits municipal taxing authority, the court views Section 29 as “an express limitation on municipal latitude in taxation; providing uniform rules regulating the circumstances in which municipalities can and cannot tax. . . . [Municipalities] are constrained by the General Assembly’s overarching direction and regulation—and thus are limited for purposes of construing Home Rule.” In short, the court chooses not to view Section 29 as expanding the city’s power by allowing it to tax extraterritorial income, but rather to regulate municipal taxation within the state. Since some taxing jurisdictions win while others lose, the court views the impact of Section 29 as one of limitation—the regulation of all cities’ taxation powers—rather than the expansion of a particular city’s power to tax. Since the court views the temporary law of Section 29 as providing for intercity regulation within the state of Ohio, rather than the expansion of power of the taxing municipality, it reaches the conclusion that Section 29 is a kind of limitation on municipal taxing authority. In this context, the court’s cite to the recent decision in City of Athens v. McClain, 2020-Ohio-5146, to the effect that the General Assembly’s authority to limit municipal taxing power preempts municipal income taxes and requires such taxes to accord with the terms of statewide legislation, is better understood. Buckeye’s complaint, on the other hand, as well as its response to the motions to dismiss, had taken a rather different perspective. From Buckeye’s perspective, the due process violation does not belong to the state’s law, but to the city’s taxing power that has been expanded by the state law. It is the city of Columbus (and by extension, any other Ohio municipality that imposes an income tax) that is overreaching by claiming the right to impose this tax on the income of non-residents. Whether or not authorized by state law, the city does not have this right because it violates due process. From this perspective, Buckeye’s reliance on cases such as Hillenmeyer v. Cleveland Bd. of Rev., 144 Ohio St. 3d 165 (2015) and Willacy v. Cleveland Bd. of Income Tax Rev., 159 Ohio St.3d 383 (2020) does not appear to have been inapposite, as the court determined. The court viewed the holdings of these cases, in which an Ohio city’s power to tax non-residents was limited to income earned within the city, as applicable only in the context of interstate taxation, while Section 29 and Buckeye’s complaint dealt with intrastate taxation, a different animal in the court’s view. But the court appears to ignore the analogousness of a city’s taxation of city non-residents to a state’s taxation of state non-residents. Buckeye’s statement in its brief in opposition, that “from a due process standpoint, it made no difference whether Hillenmeyer played for the Chicago Bears or the Cincinnati Bengals” because in either case the city is taxing income earned outside the city’s borders, appears to be correct. The Hillenmeyer court had said that “Cleveland’s games-played method imposes an extraterritorial tax in violation of due process, because it foreseeably imposes Cleveland income tax on compensation earned while Hillenmeyer was working outside Cleveland.” Hillenmeyer at ¶ 49. While the state may regulate its internal taxation matters, as the court states in its decision, it is the city that gets to keep the money, despite the apparent lack of either in personam or in rem jurisdiction, which would normally be fulfilled by the non-resident’s presence working in the city or earning the money in the city, respectively. Do these requirements no longer matter because the state, rather than the city, passed the law that requires the withholding for the city? Put in terms of these two differing perspectives, the dispute may be seen as centering on whether Section 29 was a state law that allocates income among cities for taxation purposes (Columbus’ point of view, accepted by the court) or a state law that expands an individual city’s taxing authority beyond that which a city would have if it were relying on its own municipal code to tax non-residents (Buckeye’s point of view, rejected by the court). By ignoring the analogy between municipal taxation and state taxation and placing much emphasis on the presumption of constitutionality afforded to acts of the General Assembly, the court was able to adopt the former point of view and grant Columbus’ motion to dismiss with little serious discussion of the arguments contained in Buckeye’s brief in opposition to the motion. The dismissal was a victory for Columbus (and by extension, other big cities in Ohio) in round one of the battle. However, Buckeye has appealed to the Tenth District (Franklin County). Whichever way that court decides, we can hope that the decision will show serious consideration given to the arguments of both sides in the dispute. ZHF Observation:
Several Ohio municipalities have asserted that the HB 197 legislation (Section 29 of HB 197) deemed income to be taxed where it was not actually earned. It is ZHF's view that such municipalities are incorrect for two reasons: (1) such was not the General Assembly's intent as reflected in the words contained in Section 29; the wording expanded the 20-Day Safe Harbor for Employers by the use of the word "day" which only applies in the context of the 20-Day Safe Harbor; and, (2) even if it had been the General Assembly's intent to apply the municipal income tax of the Principal Place of Work city on wages not actually earned there, such extraterritorial taxation would not withstand scrutiny upon appeal—a wide range of legal decisions in Ohio clearly limit taxability to the jurisdiction where the income was actually earned.
ZHF General Observations about Buckeye:
Ohio cities have the power to impose local taxes, and the Ohio General Assembly can limit such taxation. The court in Buckeye implies that Section 29 was a taxing provision, when in fact it is merely an expansion of the 20-Day Safe Harbor for employers to use in the period of the public health emergency. The General Assembly does not have the power to expand municipal taxation, only to limit it. ZHF’s view is that Section 29 is not a taxing provision.
The court does not address R.C. 718.03 which is the default rule for withholding tax to the location in which it was earned. R.C. 718.03 requires withholding where the income was earned unless an exception applies. The 20-Day Safe Harbor is that elective exception to the default rule.
The court does not address whether the city where the Buckeye employees live and “worked from home” had enacted into their city ordinance the provision from Section 29 or whether that city would seek to tax the income of the employees for working from home, by denying a credit for tax paid to Columbus.
The Ohio Supreme Court’s decision in Gesler v. City of Worthington Income Tax Bd. of Appeals, 138 Ohio St.3d 76 (2013),suggests that each principal place of work (PPW) city must enact into its own local ordinance the Section 29 provision in order for that provision to become operable in the PPW city.
The court does not analyze the use of the word “day” in the Section 29 provision and ignores that the only relevance of the word “day” in the entire Chapter of 718 is for purposes of the 20-Day Safe Harbor status provision for employer withholding.
Next Steps: The Buckeye plaintiffs have filed an appeal to the Tenth District Court of Appeals. Hopefully, that court will provide a more thorough and thoughtful analysis of the case law on extra-territorial taxation in Ohio, the distinction between municipal income withholding and taxation (see Jones v. City of Massillon, Ohio B.T.A. No. 2018-2137 (2021)), as well as recognize that the General Assembly only has the ability to “limit,” not expand, municipal taxation.
If you would like to discuss municipal tax issues, please contact Derek Heyman, Tom Zaino, Steve Hall, or any other ZHF professional.