Hillenga v. Dept. of Rev. ( 2015 )

178 November 13, 2015 No. 44
IN THE SUPREME COURT OF THE
STATE OF OREGON
Marlin “Mike” E. HILLENGA
and Sheri C. Hillenga,
Respondents,
v.
DEPARTMENT OF REVENUE,
State of Oregon,
Appellant.
(TC-RD 5086; SC S062603)
En Banc
On appeal from the Oregon Tax Court.*
Henry C. Breithaupt, Judge.
Submitted on the record July 21, 2015.
Darren Weirnick, Assistant Attorney General, Salem,
filed the briefs for appellant. With him on the briefs was
Ellen F. Rosenblum, Attorney General.
Marlin “Mike” E. Hillenga and Sheri C. Hillenga, appear-
ing pro se, filed the brief for respondents.
LINDER, J.
The judgment of the Tax Court is affirmed in part and
reversed in part, and the case is remanded to the Tax Court
for further proceedings.
______________
*  21 OTR 396 (2014).
Cite as 358 Or 178 (2015) 179
Case Summary: On their 2006 tax return, taxpayers claimed a deduc-
tion based on a net operating loss carryover from their 2004 tax return. The
Department of Revenue challenged (among other things) the 2006 deduction,
contending that taxpayers did not actually have a net operating loss in 2004
that could be applied against their 2006 taxes. The Tax Court held (among
other things) that the department could not challenge the 2004 deductions that
resulted in the net operating loss carryover, because the 2004 tax year was closed
by the statute of limitations, ORS 314.410(1). The department appealed that part
of the Tax Court’s holding. Held: (1) By attempting to carry over their 2004 net
operating loss to apply against their 2006 tax liability, taxpayers put the validity
of their 2004 net operating loss at issue; and (2) because the department is not
trying to assess a deficiency (i.e., additional taxes owed) for 2004, the statute of
limitations does not apply.
The judgment of the Tax Court is affirmed in part and reversed in part, and
the case is remanded to the Tax Court for further proceedings.
180 Hillenga v. Dept. of Rev.
LINDER, J.
This is a direct appeal from a decision of the Tax
Court’s Regular Division. For the 2006 tax year, taxpayers
Mike and Sheri Hillenga claimed, among other things, a
deduction based on a net operating loss carryover from their
2004 tax return. The Department of Revenue challenged the
2006 deduction, contending that taxpayers did not actually
have a net operating loss in 2004 that could be applied against
their 2006 taxes. The Tax Court held that the department
could not challenge the 2004 deductions that resulted in
the net operating loss carryover, because the 2004 tax year
was closed by the statute of limitations. Hillenga v. Dept. of
Rev., 21 OTR 396, 419-21 (2014). The department appealed.
On appeal, we agree with the department: By attempting
to carry over their 2004 net operating loss to apply against
their 2006 tax liability, taxpayers put the validity of their
2004 net operating loss at issue. Because the department
was not trying to assess a deficiency (i.e., additional taxes
owed) for 2004, the statute of limitations did not apply. We
remand for the Tax Court to consider the evidence.1
BACKGROUND AND PROCEDURAL FACTS
We begin by discussing what a net operating loss is
and how it affects a taxpayer’s liability in current and other
tax years, which provides useful context to understand the
procedural background and the legal issue in this case. The
Internal Revenue Code and the Oregon Tax Code allow
taxpayers to claim a deduction for net operating losses.
See IRC § 172(a) (“There shall be allowed as a deduction
for the taxable year an amount equal to the aggregate of
(1) the net operating loss carryovers to such year, plus (2) the
net operating loss carrybacks to such year.”); former ORS
1
As a preliminary matter, we note that we discuss only a narrow range of
facts, because only a single issue is before us. The Tax Court’s opinion in this case
ruled on a large number of disputed issues arising from taxpayers’ 2006 returns.
In their respondent’s brief in this court, taxpayers take issue with several of
those other rulings and urge that they justify reversal of the Tax Court here.
Those other rulings, however, are not properly before us. Taxpayers did not file
a cross-appeal, and so we cannot modify those parts of the Tax Court’s decision
on appeal. See U.S. Bancorp v. Dept. of Rev., 337 Or 625, 642 n 10, 103 P3d 85
(2004), cert den, 546 US 813 (2005) (generally, party must cross-appeal to obtain
modification of Tax Court’s judgment).
Cite as 358 Or 178 (2015) 181
316.014(1) (2005), renumbered as ORS 316.028(1) (for pur-
poses of state taxation, net operating losses and net operat-
ing loss carryovers are treated the same as in the Internal
Revenue Code). The term “net operating loss,” in simple
terms, describes the situation when a taxpayer has more
deductions than he or she has gross income. IRC § 172(c)
(“For purposes of this section, the term ‘net operating loss’
means the excess of the deductions allowed by this chapter
over the gross income.”). To the extent that those deductions
exceed gross income in a current tax year, the taxpayer gets
no tax benefit from them—the taxpayer has no income to
offset for tax purposes. A net operating loss can, however, be
used to offset taxable income in other taxable years, either
by being carried forward to a future tax year or carried
back to an earlier year. See IRC § 172(b)(1)(A), (2); Michael
L. Schultz, Section 382 and the Pursuit of Neutrality in the
Treatment of Net Operating Loss Carryovers, 39 U Kan
L Rev 59, 59 (1990).2
The purpose behind a net operating loss carryover
or carryback is to address an inequity that can arise from
taxing taxpayers on an annual basis. Annual taxes unfairly
burden a taxpayer whose business generates profits in some
years and losses in others; such a taxpayer would pay more
in taxes than a taxpayer who earned the same amount of
income on a stable basis. See Christian v. Dept. of Rev., 269
Or 469, 471, 526 P2d 538 (1974) (so noting); State Farming
Co. v. Commissioner, 40 TC 774, 782 (1963) (same; discussing
and quoting federal legislative history); Schultz, 39 U Kan
L Rev at 59 (same).3 The net operating loss carryover allows
2
Strictly speaking, a “carryover” and a “carryforward” mean the same thing:
a deduction or credit carried from one tax year into a later tax year. See West’s Tax
Law Dictionary 148-49 (2015) (definitions of “carryover” and “carryforward”). A
“carryback” is a deduction or credit carried from one tax year into a prior tax
year. Id. at 148.
3
Schultz offers the following example:
“Assume, for example, that over a three-year period, business A has earnings
of $200 in year one, earnings of $400 in year two, and a loss of $300 in year
three, while business B has earnings of $100 each year. Each business thus
earns $300 over the three-year period. Assuming a 34% tax rate, under a
strict application of the annual accounting principle, business A would pay
tax of $204, and the loss in year three would simply be ignored. Business B,
in contrast, would pay only $102 of tax.”
39 U Kan L Rev at 59 (footnotes omitted).
182 Hillenga v. Dept. of Rev.
the taxpayer with irregular income to carry a loss from one
year to another year that was profitable. Schultz, 39 U Kan
L Rev at 59. The net operating loss carryover thus helps
such a taxpayer average out the irregular income over time,
at least for tax purposes. Libson Shops, Inc. v. Koehler, 353
US 382, 386, 77 S Ct 990, 993, 1 L Ed 2d 924, reh’g den, 354
US 943 (1957) (net operating loss carryovers and carrybacks
“were designed to permit a taxpayer to set off its lean years
against its lush years, and to strike something like an aver-
age taxable income computed over a period longer than one
year” (footnote omitted)).
In this case, taxpayers claimed several business
deductions in their 2004 tax return. Those deductions, when
otherwise factored into their income, caused them to claim a
net operating loss of $11,714. Three years later, the 2004 tax
year became “closed” by the relevant statute of limitations.
See ORS 314.410(1) (“At any time within three years after
the return was filed, the Department of Revenue may give
notice of deficiency as prescribed in ORS 305.265.”).
Beginning in 2009, the department commenced an
audit of taxpayers’ 2006 tax return. That audit culminated
in a notice of deficiency for that tax year, 2006—a notice
that taxpayers owed additional unpaid taxes. It is undis-
puted that the notice of deficiency was given while the 2006
return was “open”: that is, the department gave notice of
the deficiency within the three-year statute of limitations
in ORS 314.410(1) as it applied to the 2006 return. It also
is undisputed that that notice of deficiency issued after the
2004 tax year had closed. In seeking the deficiency as to the
2006 return, the department disallowed many of taxpayers’
deductions and assessed a deficiency. Taxpayers challenged
that deficiency assessment in the Tax Court. The Tax Court
agreed with the department in many respects, disallowing
many of the claimed deductions because taxpayers had not
adequately documented them. See, e.g., 21 OTR at 412-13
(taxpayers did not substantiate business-expense deduction
for vehicles); id. at 413-14 (taxpayers did not substantiate
business-expense deductions for depreciation of vehicles
and computers); id. at 414 (taxpayers did not substantiate
business-expense deductions for insurance premiums); id.
at 415 (taxpayers did not substantiate business-expense
Cite as 358 Or 178 (2015) 183
deductions for business supplies); id. at 416 (taxpayers did
not substantiate business-expense deductions for meals and
entertainment expenses).
As to the deduction for net operating loss carryover
from 2004, however, the Tax Court ruled against the depart-
ment. In their 2006 tax return, taxpayers had sought to apply
$9,547 of the 2004 net operating loss against their 2006 tax-
able income. When taxpayers appealed to the Tax Court, the
department asserted by counterclaim that taxpayers were
not entitled to apply that net operating loss to their 2006 tax
liability. More specifically, the department maintained that
taxpayers’ 2004 tax return had claimed more than $9,547
in deductions that were not allowable, because taxpayers
could not substantiate them. During discovery in this case,
taxpayers did not produce any records to substantiate those
claimed deductions from 2004. Accordingly, the department
argued, taxpayers’ 2004 deductions did not generate any net
operating loss that could be carried over to the 2006 tax
year.
In rejecting the department’s argument, the Tax
Court held that the three-year statute of limitations under
ORS 314.410(1) prohibited the department from contest-
ing any aspect of the 2004 tax return. “If the department
questioned the accuracy of taxpayers’ 2004 return, the time
to raise those questions was within the limits set by ORS
314.410.” 21 OTR at 420.
The department sought reconsideration. It argued
that it was not seeking any deficiency for 2004, so the stat-
ute of limitations did not apply. Rather, the department
emphasized, it was challenging taxpayers’ 2006 return only,
and specifically taxpayers’ 2006 claim for a net operating
loss carryover. It noted that federal cases, as well as the Tax
Court itself, had concluded that both taxpayers and taxing
authorities alike could recalculate taxes for closed years
when that recalculation affected a carryover to an open year.
The Tax Court denied reconsideration without discussion.
ANALYSIS
Against that procedural backdrop, we turn to the
legal issue presented by the department’s appeal. There is
184 Hillenga v. Dept. of Rev.
no doubt that taxpayers’ 2006 tax liability depends in part
on the validity of their 2004 tax calculations that showed a
net operating loss. The issue is whether the statute of lim-
itations of ORS 314.410(1) has cut off the department’s abil-
ity to now challenge those 2004 calculations for the limited
purpose of determining taxpayers’ 2006 tax liability.
The department has no general authority to take
issue with every deduction claimed by a taxpayer on a par-
ticular tax year’s return. Rather, that authority arises only
if the deduction affects the amount of tax owed by a tax-
payer for a given tax year. Specifically, after a taxpayer files
a tax return for a given year, the department is charged with
examining the return as soon as practicable, computing the
tax owed for the period covered by the return, and notifying
the taxpayer if the department discovers a “deficiency.” ORS
305.265(2).4 A deficiency, for that purpose, basically means
4
ORS 305.265(2) provides, in part:
“* * * If the department discovers from an examination or an audit of a
report or return or otherwise that a deficiency exists, it shall compute the
tax and give notice to the person filing the return of the deficiency and of the
department’s intention to assess the deficiency, plus interest and any appro-
priate penalty. * * *
“(3)  When the notice of deficiency described in subsection (2) of this sec-
tion results from the correction of a mathematical or clerical error and states
what would have been the correct tax but for the mathematical or clerical
error, such notice need state only the reason for each adjustment to the report
or return.
“(4)  With respect to any tax return filed under ORS chapter 314, 316, 317
or 318, deficiencies shall include but not be limited to the assertion of addi-
tional tax arising from:
“(a)  The failure to report properly items or amounts of income subject to
or which are the measure of the tax;
“(b)  The deduction of items or amounts not permitted by law;
“(c)  Mathematical errors in the return or the amount of tax shown due in
the records of the department; or
“(d)  Improper credits or offsets against the tax claimed in the return.
“(5)(a)  * * *
“(b)  Within 30 days from the date of the notice of deficiency, the person
given notice shall pay the deficiency with interest computed to the date of
payment and any penalty proposed. Or within that time the person shall
advise the department in writing of objections to the deficiency, and may
request a conference with the department * * *.
“* * * * *
“(7)  If neither payment nor written objection to the deficiency is received
by the department within 30 days after the notice of deficiency has been
Cite as 358 Or 178 (2015) 185
taxes owed but unpaid. OAR 150-305.265(2)-(A) (defining
“deficiency” as “the amount by which the tax as correctly
computed exceeds the tax, if any, reported by the taxpayer”);
see also Renville v. Dept. of Rev., 5 OTR 202, 206-07 (1973)
(relying on federal definitions to support conclusion that
“deficiency” means “an amount of tax due” (emphasis, inter-
nal quotation marks, and citation omitted)).
For the department to issue a notice of deficiency,
there must be some tax owed. Accordingly, there can be
no deficiency if the taxpayer has no taxable income. That
point becomes significant when one considers that the tax-
payer’s taxable income may be less than zero, as is true
when the taxpayer has a net operating loss. If a taxpayer
incorrectly claims deductions leading to a net operating
loss of $400,000, but the department concludes that the
taxpayer’s actual net operating loss was only $40,000, the
department has no ability to issue a deficiency. Whether
the true loss is $40,000 or $400,000, it is still a loss, the
taxpayer still owes no taxes, and the department cannot
issue a deficiency.
If the department does issue a notice of deficiency,
the taxpayer has 30 days from the date of notice of the defi-
ciency to pay the deficiency with interest and any proposed
penalty, or to pursue remedies to challenge the assessed
deficiency, including taking an appeal to the Tax Court.
See generally ORS 305.265(5)(b) (setting time for payment);
ORS 305.265(7)-(15) (describing administrative remedies
and right to appeal to Tax Court).
When a taxpayer does appeal the assessment of a
deficiency, ORS 305.575 gives the Tax Court jurisdiction to
determine the correct amount of that deficiency on grounds
different from or other than those asserted by the depart-
ment, and in an amount either less than or greater than the
deficiency assessed by the department. In particular, ORS
305.575 provides, in part:
“In an appeal to the Oregon Tax Court from an assess-
ment made under ORS 305.265, the tax court has jurisdiction
mailed, the department shall assess the deficiency, plus interest and pen-
alties, if any, and shall send the person a notice of assessment, stating the
amount so assessed, and interest and penalties. * * *”
186 Hillenga v. Dept. of Rev.
to determine the correct amount of deficiency, even if the
amount so determined is greater or less than the amount of
the assessment determined by the Department of Revenue,
and even if determined upon grounds other or different
from those asserted by the department, provided that
claim for such additional tax on other or different grounds
is asserted by the department before or at the hearing or
any rehearing of the case before the tax court.”
In this case, the department relied on ORS 305.575
to urge that the Tax Court had jurisdiction to determine the
correct amount of taxpayers’ 2006 deficiency, which in turn
authorized the Tax Court to examine the 2004 net operating
loss carryover that taxpayers used in calculating their 2006
tax liability. The Tax Court, however, concluded that ORS
314.410(1) barred it from doing so. That statute states:
“At any time within three years after the return was
filed, the [department] may give notice of deficiency as pre-
scribed in ORS 305.265.”5
The Tax Court held that the three-year statute of limita-
tions under ORS 314.410(1) prohibited the department from
contesting any aspect of the 2004 tax return. The Tax Court
reasoned: “If the department questioned the accuracy of tax-
payers’ 2004 return, the time to raise those questions was
within the limits set by ORS 314.410.” 21 OTR at 420. The
Tax Court agreed with the department that ORS 305.575
allowed it to calculate the correct amount of taxes regard-
less of the arguments made by the parties, but it held that
that statute “does not declare open season to revisit closed
tax years that are not at issue in the present appeal.” 21
OTR at 421.
There is a textual disconnect between the Tax
Court’s conclusion and the statute on which it relied. ORS
314.410(1) is specific: It prohibits the department from
giving notice of “deficiency as prescribed in ORS 305.265”
after three years. As already described, a deficiency under
ORS 305.265 is an assessment of owed but unpaid taxes
for a particular tax return period. Consistently with that
limited meaning of “deficiency,” this court has explained
5
Other sections of ORS 314.410 provide for certain exceptions, none of which
is relevant here. See generally ORS 314.410(2)-(4) (listing exceptions).
Cite as 358 Or 178 (2015) 187
that the legislative intent behind ORS 314.410 was “to
terminate the liability of the taxpayer unless he was noti-
fied by the [department] of a deficiency assessment within
three years of the filing of his return.” Simpson Timber Co.
v. Tax Commission, 250 Or 434, 440, 443 P2d 162 (1968)
(footnote omitted; emphasis added); see generally Evans v.
Finley, 166 Or 227, 233, 111 P2d 833 (1941) (“Statutes of
limitation affect only the remedy, and do not extinguish the
right.”).
The department here did not assert that taxpayers
owed any taxes for 2004, or otherwise seek to recover a defi-
ciency for that year. The department questioned only how
much loss taxpayers had correctly claimed in that year, if
any, and it did so only for the purpose of determining if tax-
payers could use that loss to offset income on their 2006 tax
returns. For the department to challenge the accuracy of the
loss that taxpayers claimed in 2004 as it bears on taxpayers’
2006 tax liability is not to seek to recover a deficiency or to
issue a notice of deficiency for the 2004 tax year. The Tax
Court stretched a specific statute of limitations—no notices
of deficiency after the three-year period—into a broader and
more general prohibition against any review of the contents
of a tax return that is older than three years. By its plain
text, ORS 314.410(1) contains no such prohibition, and the
Tax Court identified no text, context, or legislative history
to support that expansion. See generally State v. Gaines, 346
Or 160, 171-72, 206 P3d 1042 (2009) (statutory interpreta-
tion requires consideration of text, context, and legislative
history).
Context confirms our conclusion. ORS 305.265 sets
out how the department gives notice of a deficiency, while
ORS 314.410(1) gives the department three years to do so.
Our construction recognizes that the two statutes operate in
parallel. The Tax Court’s construction, by contrast, breaks
that parallel. While ORS 305.265 still is directed to the cir-
cumstances in which the department may issue a deficiency,
ORS 314.410(1), as interpreted by the Tax Court, would
impose a three-year statute of limitations, not just on the
department issuing a deficiency notice under ORS 305.265,
but also on the department taking actions beyond issuing
a deficiency notice. As we have already noted, even if the
188 Hillenga v. Dept. of Rev.
department knows that a taxpayer has grossly overstated
its net operating loss, it may be unable to seek a deficiency
because the taxpayer did, in fact, have some net operating
loss that year. It is not plausible that the legislature intended
to foreclose the department from acting after a particular
period when the legislature gave the department no author-
ity to act within that period.
In arguing that the Tax Court erred, the depart-
ment also relies on federal authority, claiming that the legis-
lature has made federal law binding on this issue. See ORS
316.048 (generally, taxable income is as defined by federal
law); 6 ORS 316.032(2) (directing department to “apply and
follow the administrative and judicial interpretations of the
federal income tax law”);7 former ORS 316.014(1) (2005),
renumbered as ORS 316.028(1) (specifically directing that
net operating loss and net operating loss carryovers “shall
be the same as that contained in the Internal Revenue
Code”).8 We need not decide whether we are directly bound
by the federal cases on the statute of limitations question
that this case presents. Even if the federal cases are not
binding, their reasoning is persuasive.
Federal court cases have long concluded that the
taxes in a closed year may be recalculated to determine the
6
ORS 316.048 provides, in part:
“The entire taxable income of a resident of this state is the federal tax-
able income of the resident as defined in the laws of the United States, with
the modifications, additions and subtractions provided in this chapter and
other laws of this state applicable to personal income taxation.”
7
ORS 316.032(2) provides:
“Insofar as is practicable in the administration of this chapter, the
department shall apply and follow the administrative and judicial inter-
pretations of the federal income tax law. When a provision of the federal
income tax law is the subject of conflicting opinions by two or more federal
courts, the department shall follow the rule observed by the United States
Commissioner of Internal Revenue until the conflict is resolved. Nothing
contained in this section limits the right or duty of the department to audit
the return of any taxpayer or to determine any fact relating to the tax liabil-
ity of any taxpayer.”
8
Former ORS 316.014(1) (2005) provides:
“In the computation of state taxable income the net operating loss, net
operating loss carryback and net operating loss carryforward shall be the
same as that contained in the Internal Revenue Code as it applies to the tax
year for which the return is filed and shall not be adjusted for any changes or
modifications contained in this chapter or by the case law of this state.”
Cite as 358 Or 178 (2015) 189
correct amount of a carryover that is available in an open
year. Perhaps the most succinct explanation for the hold-
ings in those cases is set out in Phoenix Electronics v. United
States, 164 F Supp 614 (D Mass 1958). The facts of that case
are similar to those here. In Phoenix Electronics, the tax-
payer had reported a net operating loss in 1947, but that net
operating loss was based on some deductions taken by the
taxpayer that were, in fact, not authorized. The taxpayer
later sought to recover allegedly overpaid taxes for 1949
and 1950, based in part on carrying forward the 1947 net
operating loss to those years. The Commissioner of Internal
Revenue sought to recalculate the taxpayer’s 1947 tax liabil-
ity solely to determine the correct amount of the carryover
to 1949 and 1950.
The federal district court agreed that the Commis-
sioner had authority to recalculate the 1947 liability for that
limited purpose. In so holding, the court first noted that the
text of the statute of limitations barred the Commissioner
only from assessing or collecting taxes for 1947. The court
reasoned that the Commissioner was not, in fact, trying to
assess or collect any taxes for 1947; consequently, the statu-
tory bar did not apply. Id. at 615.
The court rejected the taxpayer’s argument that
the spirit of the statute of limitations should apply, based
on the taxpayer’s interest in finality and in being able to
dispose of its records. As the court explained, the taxpayer
itself had placed the closed year in issue by relying on the
carryover:
“The taxpayer here was free to dispose of his records, and
leave his financial position unscrutinized, unless it chose
itself to make events in 1947 pertinent. After the three
years there was nothing the government could initiate. * * *
The taxpayer, in seeking affirmative relief in later years
from a tax otherwise then due, itself brought up the ques-
tion of its 1947 financial position, and then sought the addi-
tional advantage that the government must take its word
for it.”
Id.
The court added that generally a statute of limita-
tions bars only a remedy; it does not bar the debt. Id. Thus,
190 Hillenga v. Dept. of Rev.
while the statute of limitations did prohibit any attempt to
recover taxes for 1947, it “[did] not make a three-year-old
return [an] indisputable verity for all purposes.” Id. The
statute barred the government from assessing taxes after
three years, but that is not the same as saying that the gov-
ernment must accept a three-year-old tax return as true
when a taxpayer later uses it. Id.
Finally, the court noted that the taxpayer’s position
had the potential to lock in overstated losses, no matter how
obvious the error. If a taxpayer overstated its loss for a par-
ticular year, but nevertheless had some loss that year, the
Commissioner could not assess a deficiency. Id. at 615-16.
Once the three-year statute of limitations had expired, under
the taxpayer’s argument, the Commissioner could not do any-
thing to recalculate the original losses. The Commissioner
would, in short, have no remedy at all. Id. at 616.
In Commissioner of Internal Revenue v. Van Bergh,
209 F2d 23 (2d Cir 1954), a somewhat similar case, Judge
Learned Hand explained that the net operating loss carry-
over functionally made two tax years into one, at least for
purposes of calculating the carryover. The issue in that case
was whether taxes for a closed year could be recalculated
to offset a net operating loss that was being carried back to
that year. The taxpayer sought to carry back the net oper-
ating loss from 1946 to 1945, which would have entitled the
taxpayer to a refund for 1945. Although 1945 was a closed
year, the Commissioner determined that the taxpayer had
underpaid taxes in 1945. The Commissioner ultimately con-
ceded that he could not seek a deficiency for 1945, but he
argued that the 1945 taxes could be recalculated and the
amounts used to offset the net operating loss carryback
from 1946.
The court agreed with the Commissioner. It held
that the net operating loss carryover effectively treats
income from two different tax years as if it was earned in
a single year, and the taxpayer should accordingly be in
the same position as if both the loss and the income had
occurred in the same year:
“The purpose of the ‘carry-back,’ or ‘carry-over,’ privilege is
to allow a taxpayer some equivalent for the fact that he has
Cite as 358 Or 178 (2015) 191
not been able to reduce his tax by a loss, because he has had
no income in that year against which to credit it; and the
only practicable equivalent is by a fiction to treat the loss as
a deduction from his income in an earlier, or a later, year.
There are two possible ways in which this might be done:
(1) to allow the loss as a deduction from the net income as
returned in the earlier, or the later, year; (2) to recompute
the whole income for the earlier, or later, year, using the
loss as a credit. While there is nothing in the statute that
expressly adopts the second method, we can see no reason
to suppose that, when Congress decided to allow the loss to
be treated as though it had in fact occurred in the earlier,
or later, year, it did not mean it to be so treated for all pur-
poses. If this is not true, it will result that the taxpayer will
be put in a better position, when the loss occurs in a later,
or an earlier, year, than when it occurs in the year when it
is allowed as a deduction. That obviously cannot have been
the intention.”
209 F2d at 25; see also State Farming Co., 40 TC at 782 (net
operating loss carryover “was not intended * * * to place a
taxpayer in a better position than he would have been had
losses and subsequent income occurred in a single year”).
The rule that the federal courts have announced is
not one-sided; it does not favor only the taxing authority. In
Springfield Street Railway Co. v. United States, 312 F2d 754
(Ct Cl 1963), the taxpayer sought to carry back a net oper-
ating loss from 1955 to 1953 and 1954. The taxpayer had
failed to take an allowable deduction in 1953, a year that
was closed by the statute of limitations. The question was
whether the court could correctly calculate the taxpayer’s
taxes for 1953, or whether it had to rely on the figures shown
on the return. If the court could recalculate the taxes, then
less of the net operating loss would have been used in 1953,
leaving more for the taxpayer to use in the open year of 1954.
The United States Court of Claims ruled in the tax-
payer’s favor, holding that the taxpayer’s taxes for 1953 could
be recalculated. After extensively reviewing Van Bergh,
Phoenix Electronics, and other cases, the court concluded
that any party could recalculate taxes in a closed year when
doing so would affect the tax burden in an open year:
“If, in the instant case, the facts were reversed and the
plaintiff had understated its reported 1953 taxable income,
192 Hillenga v. Dept. of Rev.
it is undisputable, according to the cases cited in this opin-
ion, that the Government would be permitted to recompute
the plaintiff’s greater correct 1953 income. This would
then increase the amount of plaintiff’s 1955 carryback
loss which would have to be applied against 1953 income.
Consequently, the remaining carryback loss to be applied
against 1954 income would be decreased and thereby result
in a smaller refund. Therefore, we do not understand why
recomputation of income for a closed year should only be
allowed when it will benefit the Government, and not under
similar circumstances when it will benefit the taxpayer.”
Id. at 759.
Other federal cases have reached the same gen-
eral conclusion: The correct tax burden for a closed year
may be recalculated when, because of a carryover or carry-
back, doing so would affect the taxes due for an open year.
See, e.g., Phoenix Coal Co. v. Commissioner of Internal
Revenue, 231 F2d 420, 421-22 (2d Cir 1956) (taxes for closed
year could be recalculated when taxpayer sought refund
based on net operating loss carried back to that year);
Mennuto v. Commissioner, 56 TC 910, 923 (1971) (holding
that “the Commissioner can recompute the amount of an
unused investment credit carryover from a barred year
(1966) in order to determine the tax due for an open year
(1967)”); State Farming Co., 40 TC at 783 (holding that “the
Commissioner was not barred by the statute of limitations
from redetermining the taxable income of State Farming for
1952 in order to compute the proper net operating loss carry-
over to 1955”).
The reasoning of Phoenix Electronics and the other
federal authorities that we have cited is sound and should
apply here. Interpreting ORS 314.410 to prohibit the recal-
culation of a net operating loss in a closed year, even though
it is being carried over to an open year, risks leaving the
department with no remedy. See 164 F Supp at 615-16. The
underlying concept of a net operating loss carryover itself
implies that the calculations that support the loss should
be reviewable when it affects a taxpayer’s tax liability for
an open year. If the statute of limitations applied to the ear-
lier tax year, the carryover itself would significantly benefit
Cite as 358 Or 178 (2015) 193
taxpayers with irregular incomes by giving them access to
the statute of limitations—an advantage not held by those
taxpayers whose profits and losses all occurred in the same
year. That result would be inconsistent with the purpose of
a net operating loss carryover, which is intended to equal-
ize treatment between those two types of taxpayers. That
result would also be inconsistent with the means by which a
net operating loss carryover works, which is by treating the
income from two separate years as if it had occurred in the
same year. See Christian, 269 Or at 476 (“The general rule
with regard to the availability of loss carryback and carry-
over is that the loss is to be treated as though it occurred in
the year to which it is to be carried.”).
The Tax Court here appears to have been concerned
about finality. In that respect, we again agree with Phoenix
Electronics: A taxpayer who seeks to apply a carryover from
a closed year against the income from an open one actively
puts the carryover from the closed year in issue. See 164
F Supp at 615. The taxpayer can avoid having the carryover
scrutinized by not claiming the carryover in a later tax year.
What the taxpayer cannot do is claim the carryover while
precluding any review of its merit. We emphasize in that
regard that claiming a net loss carryover from a closed tax
year does not open that tax year for purposes of assessing a
deficiency. The Tax Court may revisit the calculation of the
carryover credit from the closed year only for the purpose of
determining the tax liability for the open year.
The Tax Court itself had previously held that it
could recalculate matters from a closed year that affect the
tax liability in an open year. In Intl. Health & Life Ins. Co. v.
Dept. of Rev., 5 OTR 320 (1973), aff’d on other grounds, 269
Or 23, 523 P2d 223 (1974), the court accepted the depart-
ment’s argument that, although the 1964 return was closed
under the statute of limitations, “the records [for 1964] are
open to examination and to the necessary tax accounting
required to develop mathematical calculations for the suc-
ceeding year, 1965.” Id. at 329 (citing, inter alia, Springfield
Street Railway). More recently, the Magistrate Division of
the Tax Court held that the department “may examine a
closed year to adjust [the taxpayers’] depreciation deduc-
tions in open years.” Pearce v. Dept. of Rev., TC-MD 100892C,
194 Hillenga v. Dept. of Rev.
2011 WL 5148599, *4 (Or Tax M Div, Oct 31, 2011). This
court did reverse a Tax Court opinion that had held (among
other things) that “either the government or the taxpayer
may recompute the tax for the closed year to affect a carry-
over item to open years.” Smurfit Newsprint Corp. v. Dept.
of Rev., 14 OTR 434, 438 (1998). This court did not address
that aspect of the Tax Court’s holding, however; the reversal
was on other grounds. Smurfit Newsprint Corp. v. Dept. of
Rev., 329 Or 591, 997 P2d 185 (2000).9
Accordingly, we reverse the decision of the Tax
Court. In doing so, we address only the Tax Court’s legal
conclusion that the statute of limitations of ORS 314.410(1)
barred that court from considering the amount of taxpayers’
net operating loss in 2004. We do not decide whether tax-
payers are in fact entitled to all, some, or none of the net
operating loss that they claimed for 2004. For that purpose,
we remand for the Tax Court.
9
Smurfit had involved the carryover of a particular tax credit. The depart-
ment sought to recalculate the taxpayer’s taxes for 1986. While 1986 was closed
by the statute of limitations under ORS 314.410, the correctly calculated taxes
for that year would have been higher, and—the department argued—thus would
have consumed more of the tax credit, leaving less to be carried forward and used
in the open years of 1987 and 1988. See 14 OTR at 435-36. The Tax Court agreed
with the department and granted summary judgment accordingly.
In reversing, this court did not address the Tax Court’s conclusion that the
department could recalculate taxes for a closed year when a carryover would
affect the tax in open years. Instead, this court rejected only the department’s
assertion that the correctly calculated taxes for 1986 would have consumed
more of this particular tax credit. See 329 Or at 597 (explaining that the court
“address[ed] only the department’s argument that it was authorized to reallocate
taxpayer’s use of its PCF [pollution control facility] tax credits in the 1986, 1987,
and 1988 tax years,” because “[t]he department’s argument [incorrectly] assumes
that * * * the department is entitled to determine how much PCF tax credit a tax-
payer must use in any given year” (emphasis in original)). This court explained
that the relevant statute gave the taxpayer, not the department, the right to
decide how much of that particular tax credit to apply to any particular tax year.
Id. (“[t]he statute gives the taxpayer, not the department, authority to determine
how a taxpayer will use its PCF tax credit”); id. at 598 (“the department is not
authorized to determine how much PCF tax credit a taxpayer is entitled to use in
any given year”). Thus, even if the taxpayer had in fact owed more in 1986 taxes,
the department could not force the taxpayer to use the tax credit to offset that
obligation.
In other words, Smurfit was about a taxpayer using a carryover in a closed
year, and this court decided that case based only the particular statutory text
for that particular carryover. This case involves the creation of a carryover in a
closed year, when a taxpayer seeks to use it in an open one.
Cite as 358 Or 178 (2015) 195
The judgment of the Tax Court is affirmed in part
and reversed in part, and the case is remanded to the Tax
Court for further proceedings.