Cellular Phone Companies Challenge Local Taxes in Maryland

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1 MARCH 23, 2005 Cellular Phone Companies Challenge Local Taxes in Maryland By Kenneth H. Silverberg and Todd Tidgewell Four fiercely competitive cellular telephone carriers have temporarily joined forces to fight a common battle on behalf of their subscribers against two local taxes in Maryland. Our clients, Cingular, Verizon Wireless, Sprint and T-Mobile, have begun simultaneous challenges against Montgomery County and the City of Baltimore taxes they claim unfairly target wireless subscribers. The carriers have also launched a determined public relations campaign to let localities around the country know that any similar taxes will be challenged at every opportunity. In July, 2003, Montgomery County amended its Telephone Tax ordinance, extending its coverage to include cellular telephone service. The tax was imposed at the rate of $2.00 per month on each wireless telephone line (i.e., each discrete telephone number) sold by a carrier. A year later, the City of Baltimore enacted a Wireless Telecommunications Tax that imposed a $3.50 per month tax on each line sold beginning August 1, These two local jurisdictions were taking advantage of their special status under Maryland law as a Charter Home Rule County and City respectively, which permits local government to impose certain taxes without specific authorization from the Maryland General Assembly. They had not counted on the resolve of the cellular industry to resist local taxes that seem to be targeted directly at wireless subscribers. The carriers had opposed each of these tax proposals during County Council and City Council hearings, claiming that the tax revenue was dedicated to funding the general obligations of local government, despite the fact that it was only being imposed on a select group of taxpayers, namely those who purchased cellular phone service. Local government representatives defended their proposals by noting that the same rate of tax was being imposed on land-line telephones, so there was no improper discrimination against the users of this particular technology. The carriers countered that the 1 of 5

2 State of Maryland had designed a system that imposed state taxation on wireless phones, while reserving for local government the power to tax public utilities, including land lines. Wireless subscribers are already subject to state taxation. Therefore, they argued, these local taxes impose a higher overall burden on cellular subscribers than on wire-line customers. The carriers lost the legislative battle in both jurisdictions. Even though the taxes had been styled as taxes on the carriers rather than their subscribers, it was clear from the outset that because of their magnitude, no carrier could afford to bear the tax internally each of them had to pass it along to their subscribers. On a typical $10- per-month additional cellular line, these local taxes amounted to an extra 20 per cent tax burden in Montgomery County and an extra 35 per cent tax burden in the City of Baltimore. Montgomery County, with a population of 873,000, was collecting these taxes at the rate of roughly $1.0 million per month from these four carriers combined during late The City of Baltimore, whose population was 651,000, was collecting roughly $500,000 per month. Legal Arguments Advanced By The Carriers The Wireless Taxes Are Prohibited Local Sales Taxes The carriers are claiming that the localities lack the power under Maryland law to impose these taxes. Maryland law explicitly states that localities may not impose sales or use taxes, except on utilities, and it is clear that cellular telephone carriers are not utilities as the term is used in the statute. They claim that under Maryland law, a sales tax is identified by looking at three factors: 1. the label given to the tax by the legislative body (This is entitled to considerable weight; ) 2. the subject matter of the tax; and 3. the manner of assessment and measure of the tax. The event that triggers the wireless taxation is the sale of a wireless telecommunications subscription to a subscriber. This triggering is characteristic of a sales tax. As one court noted in determining that a tax collected on beverage containers was indeed a sales tax, despite the assertion by the defendant, Montgomery County, Maryland, that it was not: The triggering device requiring payment of the tax is the sale. If there is no sale there is no tax. No other event requires payment, not possession, storage, manufacture or transmission. Only a sale produces the tax. By imposing the tax only on each successful sale of a wireless account (i.e., $2.00 or $3.50 per wireless telephone line per month), the tax is being triggered by successful sales, rather than attempted sales or other occurrences. This indicates that the true object of the tax is the sale and not the exercise of any other action or privilege. The tax is not a tax on the privilege of attempting to sell wireless service, nor is it a tax on cellular equipment. Because the tax is triggered only by a successful sale of wireless service, the tax is properly characterized as a sales tax. 2 of 5

3 The carriers believe that the localities were aware of the sales tax prohibition, and that they enacted the wireless taxes as a flat rate imposed on the vendors rather than the subscribers in an unsuccessful attempt to characterize the wireless tax as a lawful excise tax. They argue, however, that this effort was unsuccessful, because it is only the sale of service that triggers the tax, and under Maryland law, this makes it a sales tax. Merely stating that it is imposed on the vendor rather than the purchaser fails to change the triggering event of the tax, which is the sale. The Localities Cannot Impose Taxes Outside of Their Jurisdictions The carriers assert that the wireless tax ordinances contain another fatal flaw. They claim the tax ordinances must also be declared invalid because Maryland law permits the localities to impose taxes only within their local taxing jurisdiction. The localities, as Charter Home Rule localities, are permitted by the General Assembly to impose certain other types of taxes within the limits of the County or the City. There is neither case law nor any other authority interpreting the phrase within the limits of the County or within the limits of the City. This could present an interesting question of first impression to the courts. The carriers claim that a wireless telecommunications line can be used anywhere, either inside or outside the County or City limits. In fact, during many months of the year, many taxable wireless phones are never used within the County or City limits, notwithstanding the fact that the residential or business address of the subscriber is within such limits. They claim that the imposition of a flat, unapportioned charge for any month on such a line necessarily taxes activity and value outside the localities limits, and therefore exceeds their taxing authority. Progress of the Cases The carriers filed refund claims with the administrative authorities of both localities in December, Maryland law requires taxpayers challenging local taxes first to exhaust their administrative remedies, after which they are permitted to pursue their claims in Maryland Tax Court. The Montgomery County refund claims totaled $12.8 million, for taxes paid from July 2003 through November The City of Baltimore claims totaled another $2.0 million, for taxes paid from August through November The carriers are seeking refunds for all the taxes they paid through the date of filing. Montgomery County continues to collect another $1.0 million per month from the four carriers, and the City of Baltimore collects an additional $500,000 per month. The carriers plan to supplement their refund requests as required to protect their statutes of limitations. Each of the carriers has passed the tax through to the affected subscriber accounts, and each carrier is keeping records that will permit it to refund the taxes to their subscribers if and when they finally prevail. To date, no details have been announced regarding how and when the refunds would be paid to subscribers, but each carrier has pledged that it will do so. 3 of 5

4 Both localities have issued final decisions rejecting the refund claims, and the carriers have each filed suit in Maryland Tax Court. The carriers have also requested the consolidation of all eight cases by the Tax Court. It is not yet known what arguments will be cited by the localities to defend the legality of the wireless taxes. Trial will probably take place in the Tax Court later this year. Decisions of the Maryland Tax Court in these cases could be appealed by the losing party to the Circuit Courts for Montgomery County and the City of Baltimore, respectively. Sending a Message to Other Localities The carriers are united in their desire to achieve the broadest possible publicity for these cases. They believe their subscribers will appreciate the carriers advocacy on their behalf, and feel they have a duty to seek these refunds and return them to the subscribers. Further, they want to send a message to other states and localities that might be considering enacting new or additional taxes on wireless telephone service. They don t think it s fair to charge special taxes to cellular subscribers that are used to support general government services provided for all citizens. The carriers have pledged to scrutinize any and all new taxes on wireless service, and to challenge the taxes wherever possible, using all legal means available. 4 of 5

5 If you have any questions or require further information, please call your regular Nixon Peabody contact or feel free to contact one of the attorneys listed below: In our San Francisco office, Mark M. Foster ( ) or In our Washington, D.C. office, Kenneth H. Silverberg ( ) or In our Washington, D.C. office, Christian McBurney ( ) or In our Rochester office, Scott F. Cristman ( ) or In our Boston, MA. office, Nicholas J. Guttilla ( ) or If you are not currently on our mailing list and would like to receive future publications of our State and Local Tax Advisor, please send your contact information, including address, to 5 of 5