Petition for Writ of Certiorari — Pledger v. Bosnick

9 1 -_ 37 5 Supreme Court, us. |

\ ) FILED

No. SEP 3 991

on

IN THE :

SUPREME COURT OF THE UNITED STATES

OCTOBER TERM, 1991

Jim C. PLEDGER, DIRECTOR OF THE A&KKANSAS

DEPARTMENT OF FINANCE AND ADMINISTRATION,

TiM LEATHERS, COMMISSIONER OF REVENUES,

AND JIMMIE Lou FISHER, TREASURER OF THE

DENTE SE BS o.oo c0scasceneceeucuseauene Petstsoners

VS.

STANLEY BOSNICK AND WILLA S. LINDSEY,

GEORGE E. STEWART, DON LANE, JOHN SANDFORT,

WILLIAM DAWSON BARLOW AND HANK GAJDA,

ON BEHALF OF THEMSELVES AND ALL OTHER

SIMILARLY SITUATED TAXPAYERS .......... i vete Respondents

ON WRIT OF CERTIORARI

TO THE SUPREME COURT OF ARKANSAS

PETITION FOR WRIT OF CERTIORARI

TO THE SUPREME COURT OF ARKANSAS

WrtuiaM E. KEADLE, No. 83099 WINSTON BRYANT, No. 63005

Attorney, Revenue Legal Counsel Attorney General

ARKANSAS DEPARTMENT OF STATE OF ARKANSAS

FINANCE AND ADMINISTRATION 200 TOWER BUILDING

7TH AND WOLFE STREETS 323 CENTER STREET

P.O. Box 1272-L Lirtte Rock, AR 72201

LitTLe Rock, AR 72203 (501) 682-2007

31) 682-7030

Counsel of Record

ARKANSAS LEGISLATIVE DIGEST, INC

T (

i

QUESTIONS PRESENTED FOR REVIEW

I.

DOES THE DOCTRINE OF INTERGOVERNMENTAL

TAX IMMUNITY AND4 U.S.C. §111 PROHIBIT A STATE

FROM TAXING PENSIONS OF MILITARY RETIREES

AND RETIREES FROM EMPLOYMENT WITH OTHER

STATES AND THEIR POLITICAL SUBDIVISIONS

WHILE EXEMPTING FROM TAXATION THE

PENSIONS OF ITS OWN RETIRED EMPLOYEES?

Il.

MUST THIS COURT’S DECISION IN DAVIS V.

MICHIGAN DEPARTMENT OF TREASURY, 489 U.S. 803

(1989) BE APPLIED RETROACTIVELY TO GRANT

REFUNDS OF INCOME TAXES PAID ON RETIREMENT

INCOME BY FEDERAL RETIREES AND RETIREES

FROM EMPLOYMENT WITH OTHER STATES AND

THEIR POLITICAL SUBDIVISIONS?

il

LIST OF PARTIES

The parties to this proceeding are as follows: The

Petitioners are Jim C. Pledger, Director of the Arkansas

Department of Finance and Administration, Tim Leathers,

Arkansas Commissioner of Revenues; and Jimmie Lou Fisher,

the State Treasurer of Arkansas. The Respondents, all

residents and taxpayers of Arkansas, are Stanley Bosnick,

a retired employee of the United States Postal Service; Willa

S. Lindsey, a retired employee of the United States Agri-

cultural Stabilization and Conservation Service; George E.

Stewart, a retired employee of the United States internal

Revenue Service; Don Lane, a retired member of the United

States Air Force; John Sandfort, a retired member of the

United States Army; William Dawson Barlow, a retired

employee of the United States Veterans Administration; and

Hank Gajda, a retired employee of the Chicago, Illinois Police

Department. These Respondents, in a class action lawsuit,

represent all similarly situatea taxpayers.

TABLE OF CONTENTS

QUESTIONS PRESENTED FOR REVIEW.......

Pc cbwecccecssceecevessvesecs

GROUNDS UPON WHICH '

JURISDICTION IS INVOKED ...............

CONSTITUTIONAL PROVISIONS INVOLVED ..

STATUTORY PROVISIONS INVOLVED ........

DReRUMeee GP BONE CAGE... cc ccc ccccecs

ARGUMENT (Reasons for Allowance of the Writ) ....

I. A Conflict Exists Between the Decision of

the Arkansas Supreme Court in This Case

and Decisions of Federal Appellate Courts

and a State Court of Last Resort Regarding

the Extension of the Doctrine of Inter-

governmental Tax Immunity and 4 U.S.C.

§111 to Military Retirees and Retirees

from Employment with Other States and

Their Political Subdivisions................

Il. A Conflict Exists Between the Supreme

Court of Arkansas and Other State Courts

Iv

TABLE OF CONTENTS

Page

of Last Resort as to Whether This Court's

Decision in Davis v. Michigan Department

of Treasury, 489 U.S. 803 (1989) should be

Applied Retroactively or Prospectively ...... 15-24

COINNCLUGION 2 oc ccccccccccccsccsccccscccccccees 25

APPENDIX A: Opinion of Supreme Court

of Arkansas, June 10, 1991 ........e cece eee eees A-1

APPENDIX B: Findings of Fact and Con-

clusions of Law (Order) of Chancery Court

of Pulaski County, Arkansas, First Division,

Pees SCE ineb hance dei hs cba ewes ccceees B-1

APPENDIX C: Order for Certification as a Class

Action of Chancery Court of Pulaski County,

Arkansas, First Division, August 22, 1989 ......... C-1

APPENDIX D: Order of Chancery Court of

Pulaski County, Arkansas, First Division,

May 10, 1989 ...ccccccccccccccccccvvevcceees D-1

APPENDIX E: Portion of Abstract of Testimony

of Joseph LaFace, Former Research Admin-

istrator for the Arkansas Department of

Finance and Administration, October 18, 1989 ..... E-1

APPENDIX F: Portion of Abstract of Testimony

of David Foster, Manager, Individual Income

Tax Section, Arkansas Department of Finance

and Administration, October 18, 1989 ............ F-|

APPENDIX G: Statutory Provisions Involved ...... G-1l

v

TABLE OF AUTHORITIES

CASES: Page

American Trucking Assns. v. Scheiner, 483 U.S. 266,

97 L.Ed.2d 226, 107 S.Ct. 2829 (1987) ..........445- 23

American Trucking Assns., Inc. v. Smith, 495

U.S. _— , 110 L.Ed.2d 148,

SOP WG wiles GUN 444 Oca ON Rede ch eeennees 17, 19, 23

Askins v. Askins, 288 Ark. 333, 704 S.W.2d 632 (1986) ..13

Bacchus Imports, Led. v. Dias, 468 U.S. 263 (1984)...... 21

Barker v. Kansas, 60 U.S.L.W. 2072 (July 12, 1991) ..... 13

Bass v. South Carolina, 395 S.E.2d 171 (1990)....16, 20, 21

James B. Beam Distilling Co. v. Georgia,

501 U.S. __ , 115 L.Ed.2d 481, 111 S.Ce. ___

FF Waa, GEFe CIPS EP Wee cewvcccoesess 20, 21, 23, 24

Chambers v. Russell, 192 F.Supp. 425

Ge EL ad cKO Reh bércdéuceviauneeetes 10

Chevron O:l Co. v. Huson, 404 U.S. 97, 30 L.Ed.2d 296,

eee 2h ee 15, 16, 17, 19, 20, 21, 24

Cipriano v. City of Houma, 395 U.S. 701,

23 L.Ed.2d 647, 89 S.Ct. 1897 (1969) .........sceees 20

Cornetta v. United States, 851 F.2d 1372

te Serer ban och set sys00keeddneeneuses 8

Davis v. Michigan Department of Treasury,

489 U.S. 803, 103 L.Ed.2d 891,

109 S.Ct. 1500 (1989).......... 4,5, 7,9, 10, 11, 14, 15,

16, 17, 18, 19, 22, 23, 24

Great Northern Raslway Co. v. Sunburst Oil Refinery

Co., 287 US. 358, 77 L.Ed. 360, 53 S.Ct. 145 (1932) ...20

vi

TABLE OF AUTHORITIES

CASES: Page

Harper v. Virginia Dept. of Taxation,

401 S.E.2d 868 (1991) .........-.--- 16, 17, 18, 20, 21, 24

Hooper v. Hartman, 163 F.Supp. 437 (D.C. Cal. 1958)... .9

Hooper v. United States, 326 F.2d 982 (Ct. Cl. 1964) ..... x

Lemon v. Kurtzman, 411 U.S. 192, 36 L.Ed.2d 151,

93 S.Ce. 1463 (1973)... cccccccccccccccccccccccccce 20

Lewy v. Virginia Dept. of Taxation,

401 S.E.2d 868 (1991) ..... cee cece cece ee eee 16, 20, 21

McCarty v. McCarty, 453 U.S. 210, 69 L.Ed.2d 589,

101 S.Ce. 2728 (1981)... ccccccccvccccccccccccccccce 8

McKesson v. Division of Alcoholic Beverages &

Tobacco, 495 U.S. —— , 110 L.Ed.2d 17,

110 S.Ce. 2238 (1990)... cceccccccccccccccccoes A-1

Memphis Bank & Trust v. Garner, 459 US. 392,

74 L.Ed.2d 562, 103 S.Ct. 692 (1983) .......- ee eens 14

Phillips Chemical Co. v. Dumas Independent

School District, 361 U.S. 376, 4 L.Ed.2d 384,

ce ot ewececesccees 11

Streight v. Ragland, 280 Ark. 206,

eee se cbepccccccrcoceccees 18

Swanson, et al. v. North Carolina, et al.,

North Carolina Supreme Court,

Docket No. 64PA91 - Wake (August 14, 1991) ....16, 23

United States v. Mitchell, 271 US. 9,

ee Pe CUED oc ccccccsecsevecose 23

vii

TABLE OF AUTHORITIES

CASES: Page

United States v. Tafoya, 803 F.2d 140 (Sth Cir. 1986) ....8

United States v. L. A. Tucker Truck Lines, Inc.,

ek ” 23

United States v. Tyler, 105 U.S. 244 (1881)............. 8

Watson v. Watson, 424 F.Supp. 866 (E.D.N.C. 1976) ..... 9

Womack v. Womack, 16 Ark. App. 108,

Co ere 13

Young v. Young, 288 Ark. 33, 701 S.W.2d 369 (1986)... .13

STATUTORY PROVISIONS:

Ark. Code Ann. §26-18-306 (1987)............0000 G-l

Ark. Code Ann. §26-18-507 (1987)..........ceeeeee G-1

Ark. Code Ann. §26-51-306 (1987)..........0ececee G-2

Ark. Code Ann. §26-51-307 (1987)..........ccceee- G-2

Ark. Code Ann. §26-51-307 [As amended by

Act 27 of 196) (30d Ex. Sess.) «oc cccccccccccccs G-4

rk eA A aa RE TE pe G-4

COI bss oie vcvccctsveedcieceveek G-5

5 U.S.C. 88312 .. 0. cece ceeeccceceececcceceeceees G-5

WRI OID oii. o.ec i vvcvccccccacecevcsdeecsiads C6

10 US.C. 8772 ..cccccccceccccccccuucccccuuueces G6

10 U'S.C. §802(a)(4) .. 0... cee ce cee ceececeucevces G-6

viii

TABLE OF AUTHORITIES

STATUTORY PROVISIONS: Page

Se ee eee G-6

MI. cc - 9s goa taka tee cevacet ee G-6

I i en in uh eeu oe ealuaee G-7

PE iia aia aivadacdua casekadadth G-8

CONSTITUTIONAL PROVISIONS:

PE EE Swe ke c en tccadeuscecncencasws passim

Es La eee eee eee Re hOeh see eneee 2

Se EE 6 ov bvcdone ce eeawn ceebie deena 2

No.

IN THE

SUPREME COURT OF THE UNITED STATES

OCTOBER TERM, 1991

Jim C. PLEDGER, DIRECTOR OF THE ARKANSAS

DEPARTMENT OF FINANCE AND ADMINISTRATION,

Tim LEATHERS, COMMISSIONER OF REVENUES,

AND JIMMIE LOU FISHER, TREASURER OF THE

FT TCE eC TUTE TIT E Petstioners

VS.

STANLEY BOSNICK AND WILLA S. LINDSEY,

GgorGE E. STEWART, DON LANE, JOHN SANDFORT,

WILLIAM DAWSON BARLOW AND HANK GAJDA,

ON BEHALF OF THEMSELVES AND ALL OTHER

SIMILARLY SITUATED TAXPAYERS ........... Respondents

ON WRIT OF CERTIORARI

TO THE SUPREME COURT OF ARKANSAS

PETITION FOR WRIT OF CERTIORARI

TO THE SUPREME COURT OF ARKANSAS

OPINIONS DELIVERED BELOW

The opinion of the Supreme Court of Arkansas is

reported at 306 Ark. 45, __S.W.2d ___ (1991), and is printed

in its entirety at Appendix A hereto. The document entitled

Findings of Fact and Conclusions of Law (Order) of the

Chancery Court of Pulaski County, Arkansas, First Division, is

unreported and printed in its entirety at Appendix B hereto.

The Order for Certification as a Class Action of the Chancery

Court of Pulaski County, Arkansas, First Division, is

unreported and printed in its entirety at Appendix C hereto.

2

GROUNDS UPON WHICH

JURISDICTION IS INVOKED

The Opinion of the Supreme Court of Arkansas was

delivered on June 10, 1991 (see Appendix A). This Petition is

filed within the time allowed by law. The jurisdiction of this

Court is invoked pursuant to 28 U.S.C. § 1257(a).

CONSTITUTIONAL PROVISIONS INVOLVED

Article VI, Section 2 of the United States Constitution

provides in pertinent part:

“The constitution and the Laws of the United States

which shall be made in pursuance thereof. . . shall be the

supreme Law of the Land... .”

Amendment XIV of the United States Constitution

provides in pertinent part:

“|. .mor shall any State deprive any person of life, liberty,

or property, without due process of law... .”

3

STATUTORY PROVISIONS INVOLVED

[Pertinent text is set forth in Appendix G as provided

in Rule 14.1(f) of the Rules of the Supreme Court]

Page

Ark. Code Ann. §26-18-306 (1987)..........ceeee- G-1

Ark. Code Ann. §26-18-507 (1987).........eceee0. G-1

Ark. Code Ann. §26-5 1-306 EOS Sara aoe G-2

Ark. Code Ann. §26-51-307 (1987).......0000- soe G2

Ark. Code Ann. §26-51-307 [As amended by

At 27 OF ISGP (506 Ba. Seen.) oc cccccccvccsess G-4

CN ols us ceiienwesaascd ents G-4

ee a oe ee G-5

PEs Gta cicrandansswaudeevedaseees G-5

SRE ono shediccdasunanensenceasavedn G-6

GEE TIGE on icc ccc dncscuvacdeusccancesss G-6

IIE bu sc encuenccdcuxesesdeceen G-6

Pa a ee eTT G6

I 605i ccdentiunenieesacsecenviees G-6

UN i ohne ciao nccmsvecsoacadcce G7

LL Pe Tne eee i.) G-8

4

STATEMENT OF THE CASE

This case arises as a result of this Court's decision in

Davis v. Michigan Department of Treasury, 489 U.S. 803, 103

L.Ed.2d 891, 109 S.Ct. 1500 (1989), which invalidated

Michigan’s income tax scheme concerning taxation of

retirement income.

Petitioners Jim C. Pledger, Director of the Arkansas

Department of Finance and Administration, and Tim

Leathers, Commissioner of Revenues, were charged with the

enforcement of the Arkansas Income Tax. Respondents

consist of a certified class of Arkansas residents who have

retired from employment with various United States civil

service agencies, with the various branches of the United

States Armed Services, and with other states’ agencies and

political subdivisions. Respondents filed suit in the Chancery

Court of Pulaski County, Arkansas, First Division, against

Petitioners Pledger and Leathers in their respective capaci-

ties, along with Petitioner Jimmie Lou Fisher, in her capacity

as Treasurer of the State of Arkansas. Respondents contended

that the provisions of Ark. Code Ann. §26-51-307 (1987),

which provided a full exemption from Arkansas Income Tax

for the retirement income received from the Arkansas Public

Employees, Teachers, State Highway Police, and State

Highway Employees Retirement Systems, while allowing an

exemption for only the first $6,000.00 of Respondents’ and all

other retirees’ retirement income, was in violation of

the principles of intergovernmental tax immunity and

4 U.S.C. §111 by favoring retired employees of the Strate

of Arkansas and local government employees over

Respondents. Petitioners argued that military retirees and

retirees from employment with other states and their sub-

divisions were not properly members of the class and, in

5

any event, refunds were not due to the Respondents. The

Chancellor, citing this Court's decision in Davis, supra, agreed

with Respondents’ contentions, and on November 1, 1989,

ordered Petitioners to refund to Respondents all such income

tax collected on their retirement income since 1985, and

awarding Respondents’ counsel an attorney's fee from a

portion of this refund. Petitioners appealed this decision to

the Arkansas Supreme Court.

On November 6, 1989, the Arkansas General Assembly

enacted Act 27 of 1989 (3rd Ex. Sess.), which amended Ark.

Code Ann. §26-51-307, removing the full exemption

for Arkansas state retirees, and applying the $6,000.00

exemption to all public and private retirees, effective for tax

year 1989.

On June 10, 1991, the Arkansas Supreme Court issued a

decision affirming the decision of the Chancery Court.

6

ARGUMENT

(REASONS FOR ALLOWANCE OF THE WRIT)

I.

A CONFLICT EXISTS BETWEEN THE DECISION OF |

THE ARKANSAS SUPREME COURT IN THIS CASE

AND DECISIONS OF FEDERAL APPELLATE COURTS

AND A STATE COURT OF LAST RESORT REGARDING

THE EXTENSION OF THE DOCTRINE OF INTER-

GOVERNMENTAL TAX IMMUNITY AND4 U.S.C. § 111

TO MILITARY RETIREES AND RETIREES FROM

EMPLOYMENT WITH OTHER STATES AND THEIR

POLITICAL SUBDIVISIONS.

The Petitioners submit that there is a real conflict

between the decision of the Supreme Court of Arkansas and

decisions of federal and state appellate courts regarding the

extension of the doctrine of intergovernmental tax immunity

and 4 U.S.C. § 111 to military retirees and retirees from

employment with other states and their political subdivisions.

In its decision, the Arkansas Supreme Court stated:

In other words, the tax discriminates based upon the

source of the payment, since the source of one payment is

the State of Arkansas and the source of the military pay is

the federal government, and the source of the pay to a

retiree from the civil service of another state is that other

state's government, and therefore such tax violates

4 US.C. § 111 and the Doctrine of Intergovernmental

Tax Immunity. (P. App. A-9)

The following discussion will show that this Court

should grant this Petition in order to resolve this conflict in

favor of the Petitioners.

7

Military Retirees

As authority for its findings in this case, the Arkansas

Supreme Court cited this Court’s decision in Davis v.

Michigan Department of Treasury, 489 U.S. 803, 109 S.Ct.

1500, 103 L.Ed.2d 891 (1989). (P. App. A-2) In this case,

a resident of Michigan and retired federal civil servant

claimed Michigan's treatment of state retirement income

discriminated against federal retirees not afforded a similar

treatment under Michigan law. The Michigan income tax law

allowed retired employees of the state or any of its political

subdivisions to deduct retirement or pension income to the

extent it is included in adjusted gross income. A similar

deduction was allowed for retired employees of another state

or its political subdivisions on a reciprocal! basis. Taxpayers

receiving retirement or pension income from any other

retirement or pension systems, including the federal retire-

ment system, could deduct up to $7,500 on a single return and

up to $10,000 on a joint return.

This Court held that Michigan's tax scheme violated

principles of intergovernmental tax immunity by favoring

retired state and local government employees over retired

federal employees. However, Davis does not adequately

address the differences between its Plaintiff, a retired federal

civil servant, and military retirees. Davis held that to violate

4U.S.C. § 111, the tax must discriminate against the employee

because of the source of the pay or compensation. This is

consistent with the language of 4 U.S.C. § 111 and principles

of intergovernmental tax immunity. Davis, supra, 109 S.Ct.

at 1504-1506.

The differing tax treatment of state retirees and the

federal military retirees is justified by the differing nature of

the compensation. State retirees receive retirement benefits,

8

which are deferred compensation for past services. However,

military retirees receive reduced pay for reduced current

services as a matter of law. Such pay is subject to income tax as

is all current pay for current services, including the salaries of

state employees.

Military retirement pay is actually not a pension or

deferred compensation, but constitutes reduced pay for

reduced service. Cornetta v. Unsted States, 851 F.2d 1372 (Fed.

Cir. 1988); McCarty v. McCarty, 453 U.S. 210, 221-222, 69

L.Ed.2d 589, 599, 101 S.Ct. 2728 (1981); Unsted States v.

Tyler, 105 U.S. 244 (1881).

In Unsted States v. Tafoya, 803 F.2d 140, 142 (5th Cir.

1986), the Court sustained the view of the defendant that his

retired pay was not subject to garnishment without specific

statutory authority, since it was not really “retirement pay,

but “current pay.”

In Hooper v. United States, 326 F.2d 982 (Ct. Cl. 1964),

a retired Admiral was tried under the Uniform Code of

Military Justice for conduct at a private residence, resulting in

dismissal from the service and forfeiture of his retired pay.

Plaintiff contended that Art. 2(4) of the Uniform Code of

Military Justice which applied the U.C.M_J. to retired military,

was unconstitutional. The Court rejected this argument, citing

Tyler:

...[W]e hold that the exercise of jurisdiction by the

military tribunal over this Plaintiff was corstitutionally

valid, since we believe that this Plaintiff was part of the

land or naval forces. We say this because the salary he

received was not solely recompense for past services, but

a means devised by congress to assure his availability and

preparedness in future contingencies. (326 F.2d at 987)

~ vewE 7

eE ~

9

The federal district Court dismissed Admiral Hooper's

claim in Hooper v. Hartman, 163 F. Supp. 437 (D.C. Cal.

1958):

Retired officers of the regular components of the

Armed Forces of the United States, entitled to receive

pay, are officers of the United States, and the pay is not

a pension or annuity, but is a.: emolument of and

dependent upon the office so held.

Upon ceasing to hold the office, the right to pay,

being an emolument thereof and dependent thereon,

likewise ceases.

(163 F.Supp. at 441) (citations omitted).

The facts showed that Admiral Hooper had retired after

twenty years of active duty, which points out another

significant difference between retired military and civil

service retirees. The system allows ‘retirement’ before the

age of 40. Therefore, it naturally follows that many military

“retirees” will obtain jobs or open a business upon military

retirement, since they may have 25 or more years left before

they actually retire. This difference alone justifies different

taxation under Davis since it is based on a significant

difference between classes of retirees, not the source of the

benefit.

In a garnishment case, the federal district court has held

that retired pay is remuneration for employment, and subject

to garnishment the same as active duty pay. Watson v.

Watson, 424 F. Supp. 866, 868 (E.D.N.C. 1976). In reaching

this conclusion, the Court pointed out that (1) Retired officers

are subject to reduction in pay if they receive other

employment (5 U.S.C. § 5532); (2) Retired pay is subject to

10

forfeiture on conviction of certain crimes (5 U.S.C. § 8312);

(3) Retired officers are restricted from working for private

defense firms within 3 years after retirement from the Armed

Services (37 U.S.C. § 801); and (4) The United States

Constitution prevents retired officers from working for a

foreign government. (Art. 1, Sec. 9, Clause 8). Watson, supra,

424 F. Supp. at 869.

Chambers v. Russell, 192 F. Supp. 425 (N.D. Cal. 1961)

involved facts similar to the Hooper case, supra. In reaching

a similar result, the Court pointed out some additional factors

that indicated that retired pay is not a pension, but

compensation for present duties: (1) A retired officer may

wear his uniform on appropriate occasions (10 U.S.C. § 772);

(2) He may obtain medical treatment for the family at armed

forces medical facilities (10 U.S.C. § 1074, 1076); (3) He

is subject to the Uniform Code of Military Justice [10 U.S.C. §

802 (4)]; and (4) He may be recalled to active duty (formerly

10 U.S.C. § 6481, now 10 U.S.C. § 688). Military regulations

issued by the Secretary of the various branches to implement a

recall to active duty of retired personnel state retirees may be

ordered to active duty at any time. Air Force Regulation 35-7,

§ 2-10 (1 Oct. 87).

The Court reiterated the historical rule in reaching

its conclusion that “. . . Their commissions are not expired,

but are merely dormant, pending call.” Chambers, supra, 192

F. Supp. at 428.

Davis, supra, 109 S.Ct. at 1504, found that federal civil

service retirement benefits were “deferred compensation”

and that the tax on such benefits discriminated on the basis of

the source of the funds. Military retirement pay is not deferred

compensation, but reduced pay for reduced duty. The taxation

a a ©

11

of such pay is based on the fundamentally different nature of

military retired pay, which is not prohibited by Davis.

There is another reason that justified a different tax

treatment of retirement income of retired members of the

military. In Davis, (103 L.Ed.2d, at 905) this Court, citing

Phillips Chemical Co. v. Dumas Independent School Dsstrict,

361 US., at 383, 4 L.Ed.2d 384, 80 S.Ct. 474, restated the test

to be utilized in determining whether the tax treatment

is improper as “... the relevant inquiry is whether the

inconsistent tax treatment is directly related to and justified

by ‘significant differences between the two classes’.” (103

L.Ed.2d, at 905) |

Applying this test to the military retirees, the tax

treatment of this group was related to prior treatment of

military income while on active duty, justifying a different

treatment of military retirement income.

Under Ark. Code Ann. § 26-51-306 (1987), active duty

members of the Army, Navy, Marine Corps, Coast Guard, Air

Force or members drawing military pay as Reservist or

National Guard, were exempt from Arkansas income tax on

the first $6,000 of military income. For these persons, 20 years

of Federal service toward which retirement is computed can

equal at least $120,000 in exempted income for Arkansas

income tax purposes. For those who stay longer in Federal

service, the exemption for a member of the armed services is

obviously greater.

In Davis, (103 L.Ed.2d, at 899) this Court was confronted

with a homogenous class of federal retirees consisting only of

those individuals drawing retirement benefits under the Civil

Service Retirement Act, 5 U.S.C. § 8331 et seq. Davis did not

rule with regard to the differing tax treatment of retired

12

employees of the military or of other states and political

subdivisions thereof. The Chancellor, by his certification of

the class, brought before the Court a diverse group including

other states’ governmental retirees and military retirees

drawing a military pension under 10 U.S.C. § 1461 et seq. Each

subgroup within the class must be compared separately to the

class of state retirees. Unlike Paul S. Davis, who as a Michigan

resident, paid taxes on income as he earned it, this case must

address whether the exclusion of prior income during which a

retirement was being earned and thereby being granted an

economic benefit would justify different treatment of that

group's retirement income relative to other retirement

pensions. Certainly, retired military members gained a

significant economic advantage during the years they were

earning their pension. Such economic benefit cannot be

viewed as inconsequential and would constitute a basis for

different treatment of this group.

Applying the test to whether military retirees should be

treated differently than state retirees, the answer must be in

the affirmative. First, the tax treatment of the two classes of

military and state retirees while inconsistent is permissible.

The inconsistent tax treatment is directly related to the

economic benefit conferred upon them by exempting income

while earning their pension. Second, state employees while

earning their pension were never exempted on any part of

their income, thereby shouldering the burden of taxation only

more lightly borne by those on active military service.

Consequently, there exists justification to afford state retirees

more favorable treatment by exempting retirement income

while only partially exempting military retirement income.

In its decision, the Arkansas Supreme Court stated:

We disagree with the appellants’ argument that military

pay is reduced pay for reduced service, and believe that

es ey

13

those cases which held that military pay is actually

deferred compensation or in the nature of a pension

represent the better reasoned application law. See Young

v. Young, 288 Ark. 33, 701 S.W.2d 369 (1986); Askins v.

Askins, 288 Ark. 333, 704 S.W.2d 632 (1986), Womack v.

Womack, 16 Ark. App. 108, 697 S.W.2d 930 (1985). (P.

App. A-9)

The Young, Askins and Womack cases, which deal with

the disposition of marital property, are not helpful in

resolving this question because they do not consider Peti-

tioners’ full arguments on the issue.

This decision of the Arkansas Supreme Court with

regard to military retirees is in direct conflict with a recent

decision of the Kansas Supreme Court, Barker v. Kansas, 60

U.S.L.W. 2072 (decided July 12, 1991). In this case, the Kansas

Supreme Court was also called on to decide the issue of

whether the inconsistent tax treatment between federal

military retirement benefits and state and local benefits

violated the doctrine of intergovernmental tax immunity. The

Kansas Supreme Court held that there was no violation,

adopting the reasoning that military retirement pay is in fact

current compensation for reduced, but currently rendered

services, and noting the differences in funding of the military

retirement system and state and local retirement systems.

The Kansas Supreme Court also distinguished the marital

property issue.

Other States’ Retirees

The Supreme Court of Arkansas has also extended the

doctrine of intergovernmental tax immunity to retirees from

employment with other states and their political subdivisions.

14

First, it is clear that 4 U.S.C. § 111 does not provide any

authority for such an extension. This section sets out that the

United States consents to taxation of pay or compensation for

personal service as an officer or employee of the United States

by another taxing authority if the taxation does not

discriminate because of the source of the compensation.

Clearly, there is no mention of prohibited tax treatment

between one state and another.

Neither does the constitutional doctrine of inter-

governmental tax immunity, on which 4 U.S.C. § 111 is based,

lend itself to extending the doctrine to other states’ retirees.

This doctrine has historically only been applied to situations

where there has been differential tax treatment by the state or

federal government of the other's employees. In Davis, supra,

this Court examined this doctrine in conjunction with the

establishment of 4 U.S.C. § 111 and stated:

Hence, we conclude that the retention of immunity in

§ 111 is coextensive with the prohibition against

discriminatory taxes embodied in the modern consti-

tutional doctrine of intergovernmental tax immunity.

Cf. Memphis Bank & Trust, supra, at 396-397, 74 L.Ed.2d

562, 103 S.Ct. 692 (construing 31 U.S.C. § 742 [31

U.S.C.S. § 742], which permits only “nondiscriminatory”

state taxation of interest on federal obligations, as

“principally a restatement of the constitutional rule’).

(103 L.Ed.2d at 903-904)

In its extension of this doctrine to other states’ retirees,

the Supreme Court of Arkansas cited no dire:t authority for

the proposition of such extension, nor does this Court's

examination of the doctrine provide such authority. On the

contrary, this doctrine has only been applied to the state or

nt

15

federal government's tax treatment of the other's employees.

Therefore, such an extension presents another conflict

between the state court and federal decisions that justifies the

granting of this Petition.

Il.

A CONFLICT EXISTS BETWEEN THE SUPREME

COURT OF ARKANSAS AND OTHER STATE COURTS

OF LAST RESORT AS TO WHETHER THIS COURT'S

DECISION IN DAVIS V. MICHIGAN DEPARTMENT OF

TREASURY, 489 U.S. 803 (1989) SHOULD BE APPLIED

RETROACTIVELY OR PROSPECTIVELY.

In this case, the Supreme Court of Arkansas held that the

members of the certified class were entitled to refunds

of Arkansas income tax collected on their pensions or

retirement income. In other words, the Arkansas Court held

that the case of Davis v. Michigan Dept. of Treasury, 489 U.S.

803 (1989) should be applied retroactively. To reach this

conclusion, the Court considered the three-factor test estab-

lished by this Court in Chevron Oil Co. v. Huson, 404 U.S.97,

30 L.Ed.2d 296, 92 S.Ct. 349 (1971). These factors are:

(1) to be applied nonretroactively, a judicial decision

must establish a new principle of law, either by over-

ruling clear past precedent on which litigants may have

relied, or by deciding an issue of first impression whose

resolution was not clearly foreshadowed;

(2) in determining whether a decision should be given

nonretroactive application, the Court must weigh the

merits and demerits in each case by looking to the prior

history of the rule in question, its purpose and effect, and

16

whether retrospective operation will further or retard its

operation;

(3) where a decision of the court could produce sub-

stantial inequitable results if applied retroactively, there

is ample basis for avoiding the injustice or hardship by

a holding of nonretroactivity. (30 L.Ed.2d at 306)

First, the Arkansas Supreme Court held that Davss did

not establish a new principle of law. As to the second Chevron

factor, the Court stated that a refusal to apply the inter-

governmental tax immunity doctrine in this case “may retard

the recognition of it in other matters which come before the

Arkansas legislature which might fall under the scope of the

doctrine.” (P. App. A-12) Finally, as to the third Chevron

factor, the Court held that any inequitable results which might

fall upon the State of Arkansas as a result of retroactive

application did not justify a refusal to make such an

application.

The Petitioners respectfully submit that the Arkansas

Supreme Court misapplied the Chevron test, and that the

Davis case should be given prospective application. In fact,

this app!.cation by the Arkansas Supreme Court is in direct

conflict with the application of Chevron by the South Carolina

Supreme Court in Bass v. South Carolina, 395 S.E.2d 171

(1990); by the Virginia Supreme Court in the companion

cases of Harper v. Virginia Dept. of Taxation and Lewy v.

Virginia Dept. of Taxation, 401 S.E.2d 868 (1991); and by the

North Carolina Supreme Court in Swanson, et al. v. North

Carolina, et al., Docket No. 64PA91-Wake (August 14, 1991).

In these cases, the Supreme Courts of South Carolina,

Virginia, and North Carolina denied refunds to federal

pensioners in lawsuits similar to the present case filed in

17

Arkansas, holding that an analysis under Chevron should be

read to apply the ruling in Davis prospectively. It is clear that

the Arkansas Supreme Court was aware of this conflict,

because it made the following reference to the Harper case:

The Supreme Court of Virginia has held that Davis need

not be applied retroactively. See Harper v. Virginsa

Dept. of Taxation, 401 S.E.2d 868 (Va. 1991). The

Virginia Court looked to American Trucking Asso-

citations, Inc. v. Smith, __ U.S. —_ , 110 S.Ct. 2323, 110

L.Ed.2d 148, 58 U.S.L.W. 4704 (1990), and determined

that the Chevron test must be used. After an analysis of

Chevron the Virginia Court held that retroactivity was

mot necessary. We respectfully disagree with that

holding. (P. App. A-10, 11)

A more detailed examination of the Chevron factors

shows that the prospective application of Davis by the

Supreme Courts of South Carolina and Virginia provide the

more proper reading of Chevron.

As to the first Chevron factor, it is clear that Davis

established a new principle of law. That the result in Davis

was not clearly foreshadowed is an understatement, as

evidenced by the following quote from the Virginia Supreme

Court in Harper:

When Davis was decided, 23 states had statutes similar to

the Michigan statute. Virginia's statute had been in effect

for almost half a century. See Acts 1942, c. 325. As far as

the record shows, the federal pensioners had paid the tax

without protest. Not a single federal pensioner had

brought an action during that period in a Virginia court

seeking a refund of taxes on the basis of the intergovern-

mental tax immunity doctrine. (401 S.E.2d at 871)

18

Similarly, although the disparate treatment between

federal and state retirees existed in Arkansas prior to the

decision in Davis, no similar lawsuit was filed in Arkansas

until after Davis was decided. In fact, the Arkansas Supreme

Court upheld the Arkansas income tax on retirement income

in the case of Streight v. Ragland, 280 Ark. 206, 655 S.W.2d

459 (1983). In this case, private retired taxpayers brought an

action challenging the constitutionality of state income tax

exemptions on retirement income of state and federal

pensioners. The law provided a full exemption for some

Arkansas state government retired employees, and an

exemption on the first $6,000.00 of retirement income of

other Arkansas state government retirees and federal retirees,

while providing no similar exemptions for private retirees.

The Arkansas Supreme Court held that this classification

scheme did not violate equal protection clauses of the State or

Federal Constitutions. The ruling in Stresght has not been

successfully challenged to this date. The restructuring of the

Arkansas income tax provisions in 1985 to more equalize

treatment of public and private retirees went beyond the

treatment mandated by Stresght, evidencing an alignment

with clear past precedent by the Arkansas General Assembly.

The Virginia Supreme Court in Harper also recognized

that the intergovernmental tax immunity doctrine was used

prior to Davis to invalidate tax statutes on the proposition

that these taxes had a foreseeable and direct effect on some

operation of the federal government. Noting the new ground

broken by Davis, the Court stated:

In the present case, therefore, it is difficult to discern how

the General Assembly of Virginia should have been

expected to perceive that a statutory scheme, exempting

state pensioners from state taxation, would have placed

any foreseeable and direct burden on some federal

operation. (401 S.E.2d at 872)

19

Neither should the Arkansas General Assembly have

been expected to perceive such a ruling. Clearly, the Davss case

established a new principle of law.

With regard to the second Chevron factor, it must be

determined whether the intergovernmental tax immunity

doctrine will be retarded or furthered by retroactive appli-

cation of Davis. As recognized in Harper, the purpose of

intergovernmental tax immunity is not to prevent legitimate

state taxation [401 S.E.2d at 872, citing American Trucking

Assns., Inc. v. Smith, 110 S.Ct. 2323 (1990), at 2332]. Until the

ruling in Davis, the Arkansas statute was presumed to be a

legitimate exercise of legislative taxing authority. However,

the Arkansas General Assembly acted promptly after the

ruling in Davis and the filing of this lawsuit to enact Act 27 of

1989 (3rd Ex. Sess.), which equalized tax treatment of a/l/

retirees. The doctrine of intergovernmental tax immunity has

thus been fully served, and retroactive application of Davis

would not further operation of the doctrine.

As to the third Chevron factor, Petitioners presented

evidence at trial showing that a retroactive application of

Davis would create difficult hardships for the State

of Arkansas, its political subdivisions and taxpayers. For

example, it has been estimated that the State of Arkansas

collected approximately $7.7 million per year in income taxes

on the retirement income of retired federal employees

(P. App. B-6). Therefore, if refunds were ultimately ordered

in this case, the State would be responsible for the payment of

over $30 million to these retirees alone. In addition, the State

has only recently begun to compile data on the amounts of

retirenient income reported as taxable income by retirees

from employment with other states and their political

subdivisions (P. App. B-7). This could result in a considerable

20

increase in the potential refund to be issued. The State

presented evidence at trial that fifty percent of net available

revenues goes toward public education, so the effect of such a

refund on the State would be tremendous (P. App. E-2). In

addition, the State presented evidence of the need for

increased staffing to process such refunds to avoid a severe

backlog due to the sheer number of such refund claims

(P. App. F-1).

This Court, recognizing the reality of such hardships, has

often held civil legislation unconstitutional, yet given only

prospective effect to its holdings in order to avoid imposing

undue administrative or financial burdens on agencies or local

governments. See, e.g., Lemon v. Kurtzman, 411 US. 192, 36

L.Ed.2d 151,93 S.Ct. 1463 (1973); Cipriano v. City of Houma,

395 U.S. 701, 23 L.Ed.2d 647, 89 S.Ct. 1897 (1969); cf. Great

Northern Raslway Co. v. Sunburst Osl Refinery Co., 287 US.

358, 77 L.Ed. 360, 53 S.Ct. 145 (1932). The Courts in Bass,

Harper, and Lewy have recognized such hardships, and have

thus ruled the third Chevron factor satisfied.

This Court, on June 28, 1991, granted petitions for Writ

of Certiorari in the Bass, Harper, and Lewy cases, vacating the

judgments and remanding the cases to the State Supreme

Courts for further consideration in light of James B. Beam

Distslling Co. v. Georgia (Docket No. 89-680, 59 U.S.L.W.

4735). However, this Court did not reverse these cases on the

merits, and an examination of Beam leads to the conclusion

that the South Carolina and Virginia cases should be upheld.

In Beam, a challenge was made to a Georgia statute

imposing an excise tax on imported liquor at a rate double

that imposed on liquor manufactured from Georgia-grown

products. This statute was similar to a Hawaii statute struck

vee «

21

down by this Court in Bacchus Imports, Ltd. v. Dias, 468 U.S.

263 (1984). The Hawaii statute was held to have violated the

Commerce Clause of the U.S. Constitution. The Georgia

Supreme Court affirmed the lower court decision ruling the

tax unconstitutional, but applying the decision only prospec-

tively under Chevron. This Court, in a plurality decision,

reversed that judgment, holding that the Bacchus rule should

be applied retroactively in the Georgia case.

The Beam case resulted in the issuance of five opinions

from this Court. Basically, Justices Souter, Stevens and White

found that Bacchus should be applied retroactively because the

rule of the decision was applied to the litigants at bar and

should, therefore, also be applied to other similarly situated

parties. Justices Scalia, Blackmun and Marshall found that

Bacchus should be applied retroactively because the U.S.

Constitution does not permit prospective application of a

decision of the Court. However, Justice O'Connor, Justice

Kennedy and Chief Justice Rehnquist dissented from the

plurality opinion, finding that a Chevron analysis called for a

prospective application of Bacchus.

The Beam case is readily distinguishable from Bass,

Harper, Lewy, and the present case. As previously stated, in

Beam, Justice Souter basically found that Bacchus should be

applied retroactively because the decision was applied to the

litigants at bar and should, therefore, also be applied to other

similarly situated parties. He stated:

Once retroactive application is chosen for any assertedly

new rule, it is chosen for all others who might seek its

prospective application. The applicability of rules of law

are not to be switched on and off according to individual

hardship; allowing relitigation of choice-of-law issues

22

would only compound the challenge to the stabilizing

purpose of precedent posed in the first instance by

the very development of “new” rules. Of course, the

generalized enquiry permits litigants to assert, and the

courts to consider, the equitable and reliance interests of

parties absent but similarly situated. Conversely, nothing

we say here precludes consideration of individual equities

when deciding remedial issues in particular cases.

(S50 U.S.L.W. at 4739)

Therefore, it appears that, according to this view, if

the Court does not rule on whether its decision applies

prospectively or retroactively at the time the decision is

announced, but the rule of the decision is applied to the

litigants at bar, it should be assumed by the Court's silence that

the decision should be applied retroactively to litigants in

other cases. However, this Court's treatment of the retro-

activity issue in Davss cannot be viewed under this rule.

In Davis, this Court recognized that the state of Michigan

conceded that a refund would be appropriate if its statute were

found to be unconstitutional. (103 L.Ed.2d at 906) This

concession was made because Michigan's tax code contained a

provision allowing a refund for taxpayers for taxes paid under

a statute later found to be unconstitutional. Thus, this Court

did not apply Davss retroactively to its litigants; it simply

allowed state law to govern the issue. Even the Arkansas

Supreme Court noted this distinguishing feature of Davss

when it stated:

The issue here is whether we are to apply retroactively

our finding that the Arkansas tax is unconstitutional.

Davis is of no value here since there the state of Michigan

admitted that under their laws a refund was due. (P. App.

A-10)

23

Unlike Michigan, Arkansas has no specific statute pro-

viding for a refund in the case a ste ¢ tax statute is found to be

unconstitutional. Therefore, this Court's decision in the Beam

case should not be read to prohibit a prospective application

of Davis.

In Swanson, supra, the Supreme Court of North Carolina

had the opportunity to examine its case in light of this Court's

decision in Beam, supra. The Court stated:

This case is distinguishable from Beam in that

the Court in Davis did not pass on the question of

retroactivity. Michigan conceded that a refund was

appropriate and the United States Supreme Court was

not faced with the question of the retroactivity of the

rule. In order for a case to be precedent for another case

the court in the first case must pass on the issue

presented in the second case. Unsted States v. L. A.

Tucker Truck Lines, Inc., 344 U.S. 33,97 L.Ed. 54 (1952);

United States v. Mstchell, 271 U.S.9, 70 L.Ed. 799 (1926).

The question of retroactivity was not determined in

Davis and it may be determined in this case.

American Trucking dealt with the constitutionality

of taxes imposed on trucks by the State of Arkansas. In a

plurality opinion the United States Supreme Court held

that pursuant to the rule of Chevron, American Trucking

Assns. v. Scheiner, 483 U.S. 266,97 L.Ed.2d 226 (1987),

which held unconstitutional a similar tax by the State of

Pennsylvania should not be given retroactive effect. Four

justices dissented. In the dissenting opinion it was said

that the Arkansas taxpayers were entitled to have the

statute imposing the tax held to be unconstitutional.

They said that the remedies to be granted depended on

24

state law which had to comply with the United States

Constitution. One justice concurred in an opinion which

was not favorable to the application of the Chevron rule.

We might conclude from American Trucking that a

majority of the Supreme Court is moving away from the

nonretroactive application of constitutional decisions.

We do not believe we should so conclude. In Beam the

Court had an opportunity to say that the rule of Chevron

should no longer be applied in civil cases and declined to

do so. We do not believe we should anticipate a change in

the law by the United States Supreme Court, but should

adhere to the opinions as they are now written. We

believe we have done so.

We are aware that the United States Supreme Court

has vacated the judgments in the Virginia and South

Carolina cases of Harper and Bass and remanded for

further consideration in light of Beam. We believe Beam

is clearly distinguishable from this case.

(N.C. Sup. Ct. No. 64PA91-Wake, p. 12-13)

It is abundantly clear that the decision of the Arkansas

Supreme Court with regard to the application of Davis v.

Michigan Department of Treasury decides federal questions

in a way that conflicts with the decisions of state courts of last

resort and federal appellate courts. Therefore, it is imperative

that this Court grant this Petition so that a clear resclution of

the conflict can be made.

25

CONCLUSION

For the foregoing reasons, certiorari should issue to the

Supreme Court of Arkansas so that this honorable Court may

review and correct the decision below.

Respectfully submitted,

WILtiaM E. K&ADLE, No. 83099

Attorney, Revenue Legal Counsel

ARKANSAS DEPARTMENT OF

FINANCE AND ADMINISTRATION

7TH AND WOLFE STREETS

P.O. Box 1272-L

LirrLe Rock, ARKANSAS 72203

(501) 682-7030

Counsel of Record

WINSTON BRYANT, No. 63005

Attorney General

STATE OF ARKANSAS

200 TOWER BUILDING

323 CENTER STREET

LITTLE ROCK, ARKANSAS 72201

(501) 682-2007

Al}PENDIX A

A-1

SUPREME COURT OF ARKANSAS

No. 90-39

Jim C. Pledger, et al., *

Faces Appellants, *

* Appeal from Pulaski County

v. * Chancery Court, No. 89-1451,

* Hon. Lee A. Munson, Judge

Stanley Bosnick, et al., *

‘gana Appellees * Affirmed

Filed June 10, 1991

ALLEN W. BIRD II, Special Chief Justice.

Appellants, Jim C. Pledger, Director of the Arkansas

Department of Finance and Administration, and Tim

Leathers, Commissioner of Revenues, were charged with the

enforcement of the Arkansas Income Tax. Appellees consist

of a certified class of Arkansas residents who have retired

from employment with various United States civil service

agencies, with the various branches of the United States

Armed Services, and with other states’ agencies and political

subdivisions.

Appellees filed suit in the Chancery Court of Pulaski

County, Arkansas, against appellants Pledger and Leathers in

their respective capacities, along with Jimmie Lou Fisher, in

her capacity as Treasurer of the State of Arkansas. Appellees

contended that the provisions of Ark. Code Ann. § 26-51-307

(1987), which provided a full exemption from Arkansas

Income Tax for the retirement income received by retirees

from the Arkansas Public Employees, Teachers, State High-

way Police, and State Highway Employees Retirement

Systems, while allowing an exemption for only the first

$6,000 of appellees’ and all other retirees’ retirement income,

A-2

was in violation of the principles of intergovernmental tax

immunity by favoring retired employees of the State of

Arkansas and local government employees over retired

federal employees and retired employees of other states and

political subdivisions thereof. The Chancellor, citing the

United States Supreme Court case of Davis v. Michigan Dep't

of Treasury, 489 U.S. 803 (1989), agreed with appellees’

contention, and on November 1, 1989, ordered the appellants

to refund to all members of the class all such income tax

collected on their retirement income since 1985 and awarded

appellees’ counsel an attorney's fee from a portion of

this refund. From this decision and decree entered by the

Chancellor appellants have perfected this appeal. We affirm

the lower court.

Initially we must determine whether the appeal herein is

final for the purposes of Rule 2 of the Arkansas Rules

of Appellate Procedure. Neither the appellants nor the

appellees have raised this issue; however, we addressed the

issue during oral argument of the case. Even though the

parties to an appeal do not raise the issue of the appealability

of an order, it is the duty of this court to do so, as a

determination that the order appealed from is not final would

deprive this court of jurisdiction to hear the appeal. Assocsates

Fin. Serv. Co. of Okla., Inc. v. Crawford County Memorial

Hosp., Inc., 297 Ark. 14, 759 S.W.2d 210 (1988). The

existence of a final order is a jurisdictional requirement for

bringing an appeal, which this court is obliged to raise even

though the parties do not. 3- W Lumber Co. v. Housing Auth.,

287 Ark. 70, 696 S.W.2d 725 (1985); John Cheeseman

Trucking Inc. v. Dougan, 305 Ark. 49, 805 S.W.2d 69 (1991).

The Arkansas Rules of Appellate Procedure state at

Rule 2:

(a) An appeal may be taken from a circuit,

A-3

chancery, or probate court to the Arkansas Supreme

Court from:

1. A final judgment or decree entered by the trial

court;...

9. An order certifying a case as a class action in

accordance with ARCP Rule 23... .

This action was filed as a class action, and the complaint

and its amendments specifically prayed that a class be certified

pursuant to Arkansas Rule of Civil Procedure 23. The

Chancellor entered his order on August 22, 1989, finding that

class certification was proper under Rule 23.

In addition, the complaint asked the lower court to:

(i) find that the Arkansas Income Tax unconstitutionally

discriminates against retired federal employees and retired

employees of other states who receive or have received

retirement benefits in excess of $6,000; (ii) enjoin the

defendants from appropriating and expending any of the

funds collected pursuant to a levy of the illegal income taxes

and account for the amounts so collected to date; (iii) refund to

the class the illegally collected income taxes, together with

interest; and (iv) award reasonable attorney's fees and

reimbursement of costs under Ark. Code Ann. § 26-35-902

(1987).

On November 1, 1990, the Chancellor entered his order

and (i) found that the Arkansas income tax laws violated

the principles of intergovernmental tax immunity and 4

U.S.C. § 111; (ii) enjoined the defendants from collecting the

income tax found to be unconstitutional; (iii) ordered an

accounting for and refund of the income taxes to all taxpayers

represented by the class to the extent such taxes were collected

in excess of the lawful taxes as determined by the court; and

(iv) stated an intention to allow a reasonable part of the taxes

to be refunded as attorney's fees.

A-4

The class certification order entered on August 22, 1989,

was an appealable order pursuant to Arkansas Rule of

Appellate Procedure 2(a)(9). International Union of Elec.,

Radio and Mach. Workers v. Hudson, 295 Ark. 107, 747

S.W.2d 81 (1988). Although the appellees have not raised the

issue of timeliness of appeal of the class certification issue,

timeliness of the appeal is also jurisdictional for this court.

LaRue v. LaRue, 268 Ark. 86, 593 S.W.2d 185 (1980).

However, whether the appellants failed to appeal that order

in a timely manner is moot because we affirm for the reasons

set forth below. The remaining issue on appealability is

whether the balance of the appeal is properly before this court

as a final order.

The test of finality and appealability of an order is

whether the order puts the court's directive into execution,

ending the litigation or a separable branch of it. Mueller v.

Killam, 295 Ark. 270, 748 S.W.2d 141 (1988). We have often

held that in order for an order to be appealable it must be such

a final determination of the issues as may be enforced by some

appropriate manner. Estate of Hastings v. Planters and

Stockmen Bank, 296 Ark. 409, 757 S.W.2d 546 (1988); Cigna

Ins. Co. v. Brisson, 294 Ark. 504, 744 S.W.2d 716 (1988). The

members of the class, in the court below, asked for relief

common to the class, including a declaration that certain

provisions of the income tax laws of the state are un-

constitutional, an injunction against using the funds illegally

collected, a refund to the class, and attorney's fees for the

attorney. The order of the Chancellor granted the prayer in

favor of the members of the class on all of those issues. There

appears to be no question that the Chancellor's rulings are

final as to those issues which are common to the class. The

only real issue as to appealability before this Court is whether

the final rulings on those issues are rendered nonappealable

when coupled with the ruling awarding attorney's fees in an

unliquidated amount, and a requirement that the appellants

A-5

submit a plan for providing notice to the class of their rights

to a refund and establishing the procedures for such refunds.

We view the action left to be taken after the entry of the

order appealed from, relating to notice to the members of the

class (1) to be remote and collateral to the main issues before

the court, (2) to require an examination of factors beyond the

issues needed to be decided with the merits of the original

complaint, and (3) to be a largely ministerial task similar to

assessing the traditional items of cost. Collateral action, such

as this, is action that does not make any direct step toward

final disposition of the merits of a case, will not be merged in

the final judgment, is not an ingredient of the cause of action,

and does not require consideration with the main cause of

action. Such collateral and ministerial orders need not be final

for purposes of Arkansas Rule of Civil Procedure 54 nor

Arkansas Rule of Appellate Procedure 2. In Farm Bureau

Mutual Ins. Co. v. Southall, 281 Ark. 141, 661 S.W.2d 383

(1983) we were faced with a property insurer who was faced

with a second action based upon a policy. The insurer had

confessed judgment and tendered the policy limits, plus

penalty and interest into the registry of the court in an action

in Hot Spring County. The matter of attorney's fees was still

pending in the Hot Spring County action when the insured

filed a second action in Pulaski County. We said in that action,

“The only part of the Hot Spring County case still pending is

that of determining the amount of the attorney's fees to

be assessed against [the insurer]. For all practical purposes

the original action is not pending.” 281 Ark. at 145, 662

S.W.2d at 386.

The same is true in the case at bar. The order appealed

from in this matter otherwise terminates the action as it was

requested by the moving parties in the complaint on the issue

of the constitutionality of the tax, the injunction and the

refund. We view the matter of the details of notice and

A-6

attorney's fees to be primarily collateral and ministerial and in

furtherance of the enforcement of the court's decision. It is not

required under our interpretation of Rule 2 that such

collateral ministerial matters be final. The order appealed

from granted all the relief prayed for in the complaint and was

thus final. See Terket v. Lund, 623 F.2d 29 (7th Cir. 1980).

Upon questioning during oral argument, counsel for the

appellees was asked whether he was seeking additional

attorney's fees for which additional orders of the chancery

court might be necessary. Counsel indicated that he reserved

his rights to seek fees pursuant to 48 U.S.C. §§ 1986 and 1988.

Does such a stated intention prevent the order from which

appeal is taken from being final for the purposes of Rule 2?

We think not. Such actions under 48 U.S.C. §§ 1986 and 1988

may in some cases even be by separate action. See Johnson v.

Snyder, 639 F.2d 316 (6th Cir. 1981). Such a claim for

attorney's fees raises a collateral and independent claim for

determination by the lower court, and thus a judgment on the

merits on the other issues raised in the complaint is final as to

the relief prayed of that court. See Obin v. Dist. No. 9 of the

Int’l Ass'n of Machinists and Aerospace Workers, 651 F.2d

574 (8th Cir. 1981). It would be fruitless, and, under our

interpretation of the rule, we are not required to anticipate all

of the relief the parties may ask in the future when making

determinations as to finality under Rule 2.

We thus hold that the lower court's order on the issues of

class certification, constitutionality of the tax, the injunction,

the refund and the right to attorney's fees to be final for

purposes of appeal.

DID THE CHANCELLOR ERR IN INCLUDING

WITH THE CERTIFIED CLASS

MILITARY RETIREES AND RETIREES FROM

OTHER STATES’ GOVERNMENTAL AGENCIES?

For its first ground for reversal, the appellants argue that

A-7

the Chancellor erred in including within the certified class

military retirees and retirees from other states’ governmental

agencies. In order to understand the basis for the argument by

the appellees, we must consider the United States Supreme

Court case upon which the appellants’ case is based, Davis v.

Michigan Dept. of Treasury.

Paul S. Davis is a former federal employee. He brought

suit in Michigan seeking a refund of state taxes paid on his

federal retirement benefits. He argued that the constitutional

Doctrine of Intergovernmental Tax Immunity as codified at

4 U.S.C. § 111 prohibited discrimination against him, when

compared with an employee retired from the employment of

the State of Michigan. Section 111 allows states to tax pay or

compensation for personal services as a federal officer or

employee if the taxation does not discriminate against the

federal employee because of the source of the pay or

compensation. Michigan claimed that its laws did not violate

section 111 because Mr. Davis was an “annuitant” rather than

an employee and therefore section 111 did not protect him

from discrimination. All of the courts in Michigan agreed

with the state. Davis v. Dep't of Treasury, 160 Mich. App. 98,

408 N.W.2d 433 (1987).

Mr. Davis asked the Supreme Court to review the matter.

The Supreme Court found that section 111 did protect

Mr. Davis because section 111 protected current federal

employees as well as retirees. The Supreme Court reasoned

that retirement pay, though not actually disbursed during the

time an individual is working, is based and computed upon the

individual's salary and years of service, and was thus deferred

compensation for past service. The Supreme Court reviewed

the constitutional Doctrine of Intergovernmental Tax Im-

munity which bars those taxes that discriminate against a

sovereign or those with whom it deals. In Davis v. Michigan

Department of Treasury, the United States Supreme Court

pointed out that section 111 constitutes an affirmative

A-8

statutory grant of immunity from discriminatory state

taxation equal to the constitutional Doctrine of Inter-

governmental Tax Immunity, which applies between the

states and the federal government and among the states

themselves. Thus, if we find in this case that the Arkansas tax

scheme discriminates against retirees from the federal

government or other states when compared to the treatment

given retirees from the State of Arkansas, we must find that

the tax is in violation of the Constitutional Doctrine of

Intergovernmental Tax Immunity. Phillips Chemical Co. v.

Dumas Indep. School Dist., 361 U.S. 376.

The appellants argue that in light of our decision in

Streight v. Ragland, 280 Ark. 206, 655 S.W.2d 459 (1983), the

Arkansas statutory tax scheme is presumptively valid, which

is true. However, that presumption is not conclusive. The

appellees argue that Davis did not involve military retirees,

which is also true. But again, the fact that the taxpayer in

Davis was not a military retiree is not determinative of how

this Court should rule.

The crux of this first point is whether the tax levied by

the State of Arkansas discriminates against the taxpayers

because of the source of the pay or compensation. If the source

is the basis for the discrimination, then the state tax cannot

withstand the Constitutional prohibition found in the

Doctrine of Intergovernmental Tax Immunity which forbids

such discrimination. If the discrimination is based upon the

nature of the compensation then the Doctrine does not forbid

discrimination. The appellants argue that military pay is not a

pension or deferred compensation, but actually represents

reduced pay for reduced service, and thus the Arkansas tax is

discriminatory only as to the nature of the compensation, #.e.,

compensation for military service rather than compensation

for state civil service. We disagree with the appellants’

argument that military pay is reduced pay for reduced service,

A-9

and believe that those cases which hold that military pay is

actually deferred compensation or in the nature of a pension

represent the better reasoned application law. See Young v.

Young, 288 Ark. 33, 701 S.W.2d 369 (1986); Askins v. Askins,

288 Ark. 333, 704 S.W.2d 632 (1986), Womack v. Womack, 16

Ark. App. 108, 697 S.W.2d 930 (1985).

Appellants also argue that retirees from another state

were not discriminated against under the Arkansas tax laws.

Obviously that other state's retirees’ pay is in the nature of a

pension, just like the Arkansas state retirees. Thus the

discrimination between the retired Arkansas civil service

employee and the retiree from the civil service of another

state is even more clear than in the case of the military retiree.

The Arkansas tax levied upon the compensation of the

military retirees and retirees from the civil service of other

states is discriminatory when compared with the tax levied

upon the compensation of the Arkansas civil service retirees.

In other words, the tax discriminates based upon the source of

the payment, since the source of one payment is the State of

Arkansas and the source of the military pay is the federal

government, and the source of the pay to a retiree from the

civil service of another state is that other state’s government,

and therefore such tax violates 4 U.S.C. § 111 and the Doctrine

of Intergovernmental Tax Immunity. Finally, since the

retirees of the governments of other states and the military

retirees are part of the same class of plaintiffs here, and are

discriminated against on the same basis, they are properly in

the same class. Ross v. Arkansas Communities, Inc., 258 Ark.

925, 529 S.W.2d 876 (1975). The Chancellor is given wide

latitude in certifying classes, and we find the certification in

this case to be correct. International Union of Elec., Radto &

Mach. Workers v. Hudson.

A-10

DID THE CHANCELLOR ERR IN AWARDING

REFUNDS OF THE ARKANSAS INCOME TAX

COLLECTED ON RETIREMENT INCOME

OF THE CERTIFIED CLASS?

Next the appellants argue that the Chancellor erred in

awarding refunds of the Arkansas income tax collected on

retirement income of the certified class. The issue here is

whether we are to apply retroactively our finding that the

Arkansas tax is unconstitutional. Davis is of no value here

since there the state of Michigan admitted that under their

laws a refund was due. However there is other guidance.

Chevron Osl Co. v. Huson, 404 U.S. 97 (1971) sets forth three

factors which must be considered in determining the

retrospective application of Davss. As made applicable to this

case, they are first if the Davis decision establishes a new

principle of law, either by overruling clear past precedent on

which litigants have relied, or by deciding issues of first

impression not clearly foreshadowed, then the decision need

not be applied retroactively, otherwise it must. Hanover Shoe

v. United Shoe Machinery Corp., 392 U.S. 481. Second, this

court must weigh the merits and demerits of retroactive

application based upon the prior history of the doctrine, the

purpose and effect and whether retroactive application will

further or retard its operation. Linkletter v. Walker, 381 U.S.

618. Third, if the retroactive application of Davis produces

substantial-inequitable results, and such hardship may be

avoided, the rule need not be applied retroactively. Cipriano v.

City of Houma, 395 U.S. 701 (1969).

The Supreme Court of Virginia has held that Davis need

not be-applied retroactively. See Harper v. Virginia Dept. of

Taxation, 401 S.E.2d 868 (Va. 1991). The Virginia Court

looked to American Trucking Assoctations, Inc. v. Smith, ——

U.S. _— , 110 S.Ct. 2323, 110 L.Ed. 2d 148, 58 U.S.L.W. 4704

(1990), and determined that the Chevron test must be used.

A-11

After an analysis of Chevron the Virginia court held that

retroactivity was not necessary. We respectfully disagree with

that holding.

The appellees argue that regardless of the three Chevron

factors, our ruling here must be applied retroactively, citing

McKesson Corporation v. Division of Alcoholic Beverages

and Tobacco, 110 S.Ct. 2238 (1990), Dep’t of Business

Regulation, 110 L.Ed.2d 17 (1990), American Trucking

Associations, Inc. v. Smith, USS. : Ashland Oil, Inc. v.

Caryl, Tax Commissioner, __ U.S. —— , 110 S.Ct. 3202, 111

L.Ed.2d 734 (1990) and National Mines Corporation v. Caryl,

Tax Commissioner, US. , 110S.Ct. 3205, 111 L.Ed.2d

740 (1990). Under either theory, we hold that Davis, 489 U.S.

803, must be applied retroactively.

In support of the satisfaction of the first Chevron prong,

the appellants argue that Davis and thus presumably our

holding here, would be a new principle of law and a case of

first impression, and therefore need not apply retroactively.

We disagree. We believe that neither Davis nor our opinion

here establishes a new principle of law. A review of the

extensive historical discussion in Davis will clearly show that

the Doctrine of Intergovernmental Tax Immunity has been

applied for decades. The fact that this issue has never been

before this Court, or the Supreme Court, on these facts does

not make this a new principle of law or a case of first

impression, just a fresh statement of the applicability of a long

standing doctrine.

In support of the applicability of the second Chevron

prong, the appellants argue that since the General Assembly

immediately changed the law to comply with Davss retro-

activity would not advance the Doctrine of Intergovernmental

Tax Immunity. Again, we disagree. Obviously retroactive

application will advance the doctrine for the members of this

A-12

class. Also, a refusal to apply the doctrine in this case may

retard the recognition of it in other matters which come

before the Arkansas legislature which might fall under the

scope of the doctrine.

As to the third prong, the appellants argue that evidence

presented at trial showed that the retroactive application of

this decision would create hardships for the State of Arkansas,

its political subdivisions, and taxpayers. No doubt the State of

Arkansas will suffer financial loss by making a refund to the

members of this class who follow the procedures for such

refund. However, the third prong of Chevron requires that

the decision be applied retroactively unless a substantial

inequitable result will occur as a result of the decision. If

inequitable results occur whether retroactivity is applied or

not, we must make the ruling retroactive. Our decision in this

case itself does not create the hardship. It will exist regardless

of the outcome of this case. Clearly if the members of this class

are not given the relief they have prayed for, they wili be

treated inequitably in that they will have paid an unconsti-

tutional tax. Someone here will suffer, either the state or the

taxpayers. We are not simply picking the class for refund

based on need, nor are we penalizing the state. We are

determining that since one of two inequitable results must

occur, we are required to apply the ruling retroactively.

DID THE CHANCELLOR ERR IN ALLOWING

REFUNDS TO MEMBERS OF THE CLASS

WHO HAD NOT FILED AMENDED INCOME TAX

RETURNS FOR 1985?

Next the appellants urge for reversal the proposition

that the Chancellor erred in allowing refunds to members of

the class who had not filed amended income tax returns for

1985. Appellants point to Ark. Code Ann. § 26-18-507 (1987)

as the authority for its proposition. That statute sets forth the

procedure for making a claim for a refund. The appellees

A-13

argue that requiring strict compliance with § 26-18-507 by

every member of the class would ignore one of the basis for

class actions suits, i.e. to deal with these types of issues in a

single action rather than requiring all members of a class to

bring suit. Although this court has not ruled on this precise

issue as applicable to tax refunds, there is ample authority for

the appellees’ position and we adopt that reasoning. See Santa

Barbara Optical Co. v. State Bd. of Equalization, 47 Cal.

App.3d 244, 120 Cal. Rptr. 609 (1975); Ware v. Idaho State

Tax Commission, 98 Idaho 477, 567 P.2d 423 (1977); Clark v.

Lee, 273 Ind. 572, 406 N.E.2d 646 (1980); Thorn v. Jefferson

County, 375 So.2d 780 (Ala. 1979); and Florsto v. Jones, 39 Ill.

2d 531, 236 N.E.2d 698 (1968).

Our decision in International Union of Elec., Radio

& Mach. Workers discusses the issues presented here as

applicable to class actions generally, and we believe supports

the Chancellor in his application of the rules to this class.

DID THE CHANCELLOR ERR IN

AWARDING ATTORNEY'S FEES?

Finally, the appellants argue that the Chancellor erred in

awarding attorney's fees in this case. This assignment of error

is based upon an argument that only when the attorneys for

the class establish or preserve a fund for the class are they

entitled to attorney's fees. The appellants maintain that the

fund here is established by the legislature as the Income Tax

Refund Account for the payment of refunds to all taxpayers.

The appellees maintain that the appellants have no standing

to argue that attorney's fees should be awarded under the

common fund doctrine, citing Boeing Co. v. Van Gemert, 444

U.S. 472 (1980).

An order of the Chancellor, obtained through the efforts

of the attorneys for the appellees, required the Income Tax

A-14

Refund Account to be maintained at an amount not less than

$8,000,000. Presumably this account would have been

depleted or returned to the state treasury if not needed for

other refunds if the order had not been entered. The attorneys

for the class obtained the order which kept the fund at a

minimum of $8,000,000 and thus we hold that the common

fund was preserved by the attorneys for the class, and thus an

award from that fund was proper.

Affirmed.

Holt, C.J., and Glaze and Corbin, JJ., not participating.

Dudley, Hays, and Newbern, JJ., dissent.

Special Justices Ray Baxter and Carolyn Clegg join in this

opinion.

DISSENTING OPINION

DAVID NEWBERN, Assoctate Justice, dissenting. There is

no final, appealable order in this case. See Ark. R. Ap. P. 2(a).

We, therefore, lack jurisdiction to hear the appeal. Wilburn v.

Keenan Companies, Inc., 297 Ark. 74, 759 S.W.2d 554 (1988);

Kslgore v. Viner, 293 Ark. 187, 736 S.W.2d 1 (1987).

The Trial Court's order establishes that the state taxes

paid on retirement income received by the appellee class

members were unlawfully collected and that the members are

entitled, individually, to refunds for a period governed by the

statute of limitations. The order then speaks of a “common

fund” from which counsel representing the class will be

entitled to be paid a fee. The amount of the “common fund” is

undecided. We do not know how much money will be returned

to the class or to any member. The amount they will receive

will depend upon the amount of the attorney's fees to be paid

from the fund. A dissatisfied class or class member may wish

to appeal with respect to that determination once it has been

made.

\

A-15

In Estate of Hastings v. Planters and Stockmen Bank,

296 Ark. 409, 757 S.W.2d 546 (1988), and in Thomas v.

McElroy, 243 Ark. 465, 420 S.W.2d 530 (1967), we deter-

mined that an order for a money recovery which is not reduced

to a specific dollars and cents amount is not a final order. We

said it must be such a final determination as may be enforced

by execution or in some other appropriate manner. In this

case, it is obvious that neither the class nor any claimant can

proceed to execute the judgment. While it may be that “some

other appropriate manner” would include presentations of

individual tax return claims, if indeed there is a “common

fund” from which recovery is to be claimed by individuals, the

amount of that fund has not been ascertained.

If the question in this case were simply the amount a

party was to pay his or her attorney, having nothing to do with

the recovery to be awarded ultimately to the party, I might

agree with the majority's characterization of the issue as a

“collateral” or “ministerial” one. The question here, however,

is much more fundamental as it will determine the actual

recovery to be had by the class and its individual members.

I predict there will be additional questions, such as pre-

judgment and post-judgment interest, which may, along with

the attorney's fee question, also give rise to questions for

appeal in this matter. The reason for our finality rule is

to discourage piecemeal appeals. Wilburn v. Keenan Com-

pansies, Inc., supra; Mueller v. Kslliam, 295 Ark. 270, 748

S.W.2d 141 (1988). It should be applied in this case.

I respectfully dissent.

DUDLEY and Hays, JJ., join in this dissent.

APPENDIX B

B-1

CHANCERY COURT OF PULASKI COUNTY, ARKANSAS

FIRST DIVISION

No. 87-2401

Stanley Bosnick and Willa S. Lindsey,

George E. Stewart, Don Lane, John

Sandfort, William Dawson Barlow

and Hank Gajda, on behalf of

Themselves and All Other Similarly

Situated Taxpayers ..... Plaintiffs

Findings of Fact

and

Conclusions of Law

vs.

Jim C. Pledger, Director of the

Arkansas Department of Finance and

Administration; Tim Leathers, Com-

missioner of Revenues, and Jimmie

Lou Fisher, Treasurer of the State

of Arkansas ......... Defendants

*eeee eee eet + + + H

Filed November 1, 1989

FINDINGS OF FACT

AND CONCLUSIONS OF LAW

From the pleadings, stipulations, evidence adduced at

trial, and briefs of the parties, the Court being well and

sufficiently advised as to the facts and law in this case makes

the following Findings of Fact and Conclusions of Law:

1. The parties have executed Stipulations of Fact which

were filed with the Court on May 10, 1989 and on October 9,

1989. The Court does hereby accept those facts as stipulated.

The Court also incorporates into its findings of fact

Defendant Jim C. Pledger’s responses to Plaintiffs’ Requests

for Admissions and Interrogatories which were filed with the

Court on October 19, 1989.

B-2

2. Defendant Jim C. Pledger is the duly appointed and

acting Director of the Arkansas Department of Finance and

Administration (hereinafter referred to as the “Director’’).

Defendant Tim Leathers is the duly appointed and acting

Commissioner of Revenues for the State of Arkansas (here-

inafter referred to as the “Commissioner’’). Defendant

Jimmie Lou Fisher is the duly elected and acting Treasurer of

the State of Arkansas (hereinafter referred to as the

“Treasurer ).

3. Plaintiff Stanley Bosnick is a resident of Lee County,

Arkansas. Mr. Bosnick retired from employment with the

United States Postal Service in June of 1986 and thereafter

began receiving retirement income under the Civil Service

Retirement System. Mr. Bosnick filed state income tax

returns (Form AR1000) with the State of Arkansas for the

1987 and 1988 calendar tax years which reported having

received the following amounts of civil service retirement

income:

1987 — $9,432.00

1988 — $9,829.00

Such amounts were included in Mr. Bosnick’s total taxable

income for each tax year to the extent his retirement income

exceeded the allowable $6,000.00 exemption. Mr. Bosnick

paid the Arkansas income tax as reported on such returns.

4. Plaintiff Willa S. Lindsey is a resident of Lee County,

Arkansas. Ms. Lindsey retired from employment with the

Agricultural Stabilization and Conservation Service in July of

1987 and thereafter began receiving retirement income under

the Civil Service Retirement System. Ms. Lindsey filed state

income tax returns (Form AR1000) with the State of

Arkansas for the 1987 and 1988 calendar tax years which

reported having received the following amounts of civil

service retirement income:

1987 — $7,434.00

1988 — $8,496.00

B-3

Such amounts were included in Ms. Lindsey's total taxable

income for each tax year to the extent her retirement income

exceeded the allowable $6,000.00 exemption. Ms. Lindsey

paid the Arkansas income tax as reported on such returns.

5. Plaintiff George E. Stewart is a resident of Pulaski

County, Arkansas. Mr. Stewart retired from employment with

the Internal Revenue Service in 1984 and thereafter began

receiving retirement benefits under the Civil Service Retire-

ment System. Mr. Stewart filed state income tax returns

(Form AR1000) with the State of Arkansas for the 1985,

1986, 1987, and 1988 calendar tax years which reported

having received the following amounts of civil service

retirement income:

1985 — $30,371.00

1986 — $31,132.00

1987-— $33,552.00

1988 — $34,956.00

Such amounts were included in Mr. Stewart's total taxable

income for each tax year to the extent his retirement income

exceeded the allowable $6,000.00 exemption. Mr. Stewart

paid the Arkansas income tax as reported on such returns.

6. Plaintiff Don Lane is a resident of Pulaski County,

Arkansas. Mr. Lane retired from employment with the

United States Air Force in 1965 and thereafter began

receiving retirement benefits under the military retirement

system. Mr. Lane filed state income tax returns (Form

AR1000) with the State of Arkansas for the 1985, 1986, 1987,

and 1988 calendar tax years which reported having received

the following amounts of military retirement income:

1985 — $15,949.00

1986 — $15,749.00

1987 — $16,145.00

1988 — $16,815.00

Such amounts were included in Mr. Lane's total taxable

oh

B-4

income for each tax year to the extent his retirement income

exceeded the allowable $6,000.00 exemption. Mr. Lane paid

the Arkansas income tax as reported on such returns.

7. Plaintiff John Sandfort is a resident of Benton County,

Arkansas. Mr. Sandfort retired from employment with the

United States Army in 1974 and thereafter began receiving

retirement income under the military retirement system.

Mr. Sandfort filed state income tax returns (Form AR1000)

with the State of Arkansas for the 1985, 1986, 1987, and 1988

calendar tax years which reported having received the

following amounts of military retirement income:

1985 — $ 9,612.00

1986 — $ 9,612.00

1987 — $ 9,732.00

1988 — $10,140.00

Such amounts were included in Mr. Sandfort’s total taxable

income for each tax year to the extent his retirement income

exceeded the allowable $6,000.00 exemption. Mr. Sandfort

paid the Arkansas income tax as reported on such returns.

8. Plaintiff William Dawson Barlow is a resident of

Nevada County, Arkansas. Mr. Barlow retired from employ-

ment with the United States Veterans Administration in 1976

and thereafter began receiving retirement benefits under the

Civil Service Retirement System. Mr. Barlow filed state

income tax returns (Form ARI1000) with the State of

Arkansas for the 1985, 1986, 1987, and 1988 calendar tax

years which reported having received the following amounts

of civil service retirement income:

1985 — $18,126.00

1986 — $19,812.00

1987 — $20,064.00

1988 — $20,904.00

Such amounts were included in Mr. Barlow's total taxable

income for each tax year to the extent his retirement income

he Se inanticten tes toed

B-5

exceeded the allowable $6,000.00 exemption. Mr. Barlow paid

the Arkansas income tax as reported on such returns.

9. Plaintiff Hank Gajda is a resident of Baxter County,

Arkansas. Mr. Gajda retired from employment with the

Chicago, Illinois Police Department in 1986 and thereafter

began receiving retirement benefits under a retirement plan

sponsored by the City of Chicago. Mr. Gajda filed state income

tax returns (Form AR1000) with the State of Arkansas for the

1986, 1987, and 1988 calendar tax years which reported

having received the following amounts of retirement income:

1986 — $15,939.00

1987 — $26,127.00

1988 — $27,123.00

Such amounts were included in Mr. Gajda’s total taxable

income for each tax year to the extent his retirement income

exceeded the allowable $6,000.00 exemption. Mr. Gajda paid

the Arkansas income tax as reported on such returns.

10. Each of the Plaintiffs have filed amended income tax

returns, and/or claim for refund on the form which was

approved by an Order executed by the Court on April 19, 1989

seeking a refund of the income taxes paid with respect to their

retirement income. Plaintiffs George E. Stewart, Don Lane,

John Sandfort, and William Dawson Barlow filed amended

state income tax returns for the 1985 tax year on or before

May 15, 1989. Plaintiffs George E. Stewart, Don Lane, John

Sandfort, and William Dawson Barlow also executed and filed

a Claim for Refund on the form which was approved by the

Court on April 19, 1989. The Department of Finance and

Administration has notified each of the Plaintiffs in writing

of its decision to refuse to refund the income taxes claimed by

them on their amended income tax returns and/or the Claim

for Refund Form.

11. The Department has in its possession all of the

B-6

original income tax returns and related computer records for

the calendar tax year 1985 and all subsequent tax years. The

Department has agreed to preserve such returns and

computer records until a final decision is rendered in this case

regarding the issue of whether the Plaintiff-taxpayers are

entitled to tax refunds as claimed.

12. The Arkansas Department of Finance and Admin-

istration (“the Department’) has determined that there are

approximately 18,185 retired persons who are currently

receiving retirement benefits from the Arkansas Public

Employees Retirement System, the Arkansas Teacher Retire-

ment System, the Arkansas State Police Retirement System,

the Arkansas State Highway Employees Retirement System.

13. The Department has estimated that approximately

$7,700,000.00 in Arkansas income taxes are collected from

retired federal employees each tax year. This estimate was

determined by using historical data obtained from the actual

Arkansas income tax returns filed for the 1987 calendar tax

year along with other pertinent data obtained by the Depart-

ment from the Office of Personnel Management (“OPM”) in

Washington, D.C.

14. Beginning with the 1987 calendar tax year, retired

military persons reported their “U.S. Armed Services

Retirement Pay” separately on lines 18A and 18B of their

Arkansas income tax returns (Form AR1000). The Depart-

ment’s records reflect that a total of $81,783,670.00 was

reported by taxpayers for the 1987 calendar tax year as “U.S.

Armed Services Retirement Pay” on 13,306 individual income

tax returns. The Department multiplied this amount of

taxable income times a 3.9% average effective tax rate for the

1987 calendar tax year to arrive at an estimated $3,189,561.00

in Arkansas income taxes which was paid with respect to such

military retirement income.

S5-ca arn Paenaly

B-7

15. All retirement income, other than “U.S. Armed

Services Retirement Pay,” is required to be reported on lines

17A and 17B of the Arkansas individual income tax return

(Form AR1000). The information reported to the Depart-

‘ment on Arkansas individual income tax returns is insuffi-

cient to enable the Department to identify the amount of

retirement income which is reported by retired federal

employees, except for the “U.S. Armed Services Retirement

Pay” which is reported separately. The Department has

obtained data from the OPM which reflects that 20,303 civil

service retirees resided in Arkansas during the 1986 calendar

tax year and received a total of $237,827,964.00 in civil service

retirement benefits. The Department has reduced this

amount by the $6,000.00 exemption amount available to each

retiree under Ark. Code Ann. § 26-51-507(a) totaling

$121,816,622.00 to arrive at an estimated $116,011,342.00 in

taxable civil service retirement income which was received by

such retired federal employees. The Department has multi-

plied this estimated amount of taxable income times a 3.9%

average effective tax rate for the 1987 calendar tax year to

arrive at an estimated $4,524,442.00 in annual Arkansas

income taxes collected with respect to the civil service

retirement income of such retired federal employees.

16. The Department does not have any reasonable

methods available to estimate the amounts of retirement

income reported as taxable income to the State of Arkansas by

retirees of other states and political subdivisions of other

states. Therefore, the Department has been unable to prepare

any estimate of the amount of Arkansas income taxes paid by

such retirees to the State of Arkansas.

17. Section 1 of Act 579 of 1989 appropriated $150

million for each fiscal year in the 1989-1991 biennium for

making refunds of state income taxes and homestead property

tax relief refunds. Presently, and as projected for future use,

B-8

only approximately two percent (2%) of the appropriated

funds are expended for homestead property tax relief. All of

the remainder, in an amount of at least $146 million per year,

is for the express purpose of making refunds of income taxes.

Those funds cannot be used for any other purposes. The funds

are maintained and accounted for by the State Treasurer in the

Office of Accounting, Department of Finance and Admin-

istration. The Department of Finance and Administration has

estimated that approximately $7,700,000.00 in Arkansas

income taxes are collected from retired federal employees

each tax year with respect to their retirement income. The

methods used by the Department in arriving at these

estimates were set forth in paragraphs 2 and 3 of the Joint

Stipulation of Facts executed and filed of record in this case on

May 10, 1989. The Department has determined that the funds

appropriated by § 1 of Act 579 of 1989 will be available and

sufficient to pay refunds of such taxes plus statutory interest

thereon at the rate of 10% per annum if the State is ordered by

a final Court decision to refund such taxes paid with respect to

the 1985, 1986, 1987, 1988, and 1989 tax years.

18. Approximately 2,200 taxpayers have filed claims for

refund on the Court approved form but did not file amended

income tax returns.

CONCLUSIONS OF LAW

19. In Davis v. Michigan Dept. of Treasury, _—_ US.

—— , 109 S.Ct. 1500, 103 L.Ed.2d 891 (1989) the Supreme

Court held that Michigan’s Income Tax Act violated the

“principles of intergovernmental tax immunity by favoring

retired state and local government employees over retired

federal employees.” 109 S.Ct., at 1508. Michigan had allowed

retired government employees of the State of Michigan to

claim an income tax deduction equal to the amount of

retirement or pension benefits they received from any public

retirement system created by the State of Michigan or a

el tt hy Sah ANY sn dd mea AD

B-9

political subdivision thereof. All other taxpayers were

permitted to deduct an amount equal to their retirement

benefits but were limited to a $7,500.00 deduction on a single

income tax return and a $10,000.00 deduction on a joint

income tax return.

20. Arkansas’ income tax laws allow retired employees

of the State of Arkansas to claim an income tax exemption

equal to the full amount of retirement benefits they receive

from the Arkansas Public Employees Retirement System, the

Arkansas Teacher Retirement System, the Arkansas State

Police Retirement System, or the Arkansas State Highway

Employees Retirement System. [Ark. Code Ann. § 26-51-

307(b)]. All other taxpayers are allowed to claim an

exemption equa! to the amount of their retirement benefits,

however, the amount which may be exempted is generally

limited to $6,000.00 per person. [Ark. Code Ann. § 26-51-

307(a)]. Retired military personnel who received both

military retirement pay and other retirement benefits prior to

January 1, 1985 are permitted to claim a separate $6,000.00

exemption each year for their military retirement pay in

addition to any exemption allowed by § 26-5 1-307 (Ark. Code

Ann. § 26-51-309).

21. Arkansas’ income tax laws are virtually identical to

Michigan's income tax laws which were held unconstitutional

in Davis. Michigan used tax deductions and Arkansas uses

exemptions, however, the result is the same.

22. The Supreme Court's decision in Davis dictates that

this Court reach the conclusion that Arkansas’ income tax

laws violate the principles of intergovernmental tax im-

munity by favoring retired State government employees over

retired federal employees, including both civil service and

military retirees.

23. The doctrine of “intergovernmental tax immunity

B-10

bar[s] those taxes that [are] imposed directly on one

sovereign by the other or that discriminate ... against a

sovereign or those with whom it [has] dealt.” Davis v.

Michigan Dept. of Treasury, supra, 109 S.Ct., at 1505. The

doctrine of “intergovernmental tax immunity is based on the

need to protect each sovereign’s governmental operations

from undue interference by the other.” Davis v. Michigan

Dept. of Treasury, 109 S.Ct., at 1507; Graves v. New York, 306

U.S., at 481, 59S.Ct., at 598; McCulluch v. Maryland, 4 Wheat,

at 435-436. “[T]he imposition of a heavier tax burden on

[those who deal with one sovereign] than is imposed on

{those who deal with the other] must be justified by

significant differences between the two classes.” Davis v.

Michigan Dept. of Treasury, 109 S.Ct., at 1508, citing Phallsps

Chemical Co. v. Dumas Independent School Dist., 361 U.S., at

383, 80 S.Cr., at 479.

24. Separate Defendants Jim C. Pledger and Tim Lea-

thers have made the following arguments to the effect that

the Supreme Court's ruling in Davis does not prohibit

Arkanses from taxing military retirement income differently

than it taxes the retirement income which it pays to retired

state government employees:

The differing tax treatment of state retirees and the

federal military retirees is justified by the differing

nature of the compensation. State retirees receive

retirement benefits, which are deferred compensation

for past services. However, military retirees receive

reduced pay for reduced current services as a matter of

law. Such pay is subject to income tax as is all current pay

for current services, including the salaries of state

employees.

Military retirement pay is actually not a pension or

deferred compensation, but constitutes reduced pay for

Papen

B-11

reduced service. Cornetta v. United States, 851 F.2d 1372

(Fed. Cir. 1988); McCarty v. McCarty, 453 U.S. 210,

221-222, 69 L.Ed.2d 589, 599 101 S.Ct. 2728 (1981)

(military retired pay is reduced compensation for

reduced current services); Unsted States v. Tyler, 105

U.S. 244 (1881).

These arguments are inconsistent with the Arkansas

Supreme Court's decisions which have held that prospective

military retirement income benefits which are accrued as the

result of military service performed during the term of a

marriage constitute marital property. Young v. Young, 288

Ark. 33, 701 S.W.2d 33 (1986); Askins v. Askins, 288 Ark.

335, 704 S.W.2d 632 (1986). The differences between military

retirement income and the retirement income paid to state

retirees are not ‘significant differences” that would justify the

State of Arkansas discriminatorily taxing the federal military

retirement income.

25. The doctrine of intergovernmental tax immunity

requires that States provide equal tax treatment for retired

employees of all sovereignties including other States and

political subdivisions thereof. The Court holds that the

doctrine of intergovernmental tax immunity also prohibits

the State of Arkansas from discriminatorily taxing retired

employees of other States and political subdivisions thereof.

26. The Supreme Court made the following comments

in Davis, regarding the remedy issue:

[We conclude that the Michigan Income Tax Act

violates principles of intergovernmental tax immunity

by favoring retired state and local government em-

ployees over retired federal employees. The State having

conceded that a refund is appropriate in these cir-

cumstances, ...to the extent appellant has paid taxes

B-12

pursuant to this invalid tax scheme, he is entitled to a

refund. See lowa-Des Moines Bank v. Bennett, 284 U.S.

239, 247, 52 S.Ct. 133, 136, 76 L.Ed. 265 (1931).

(emphasis added)

Appellant also seeks prospective relief from dis-

criminatory taxation. With respect to this claim, how-

ever, we are not in the best position to ascertain the

appropriate remedy. While invalidation of Michigan's

income tax law in its entirety obviously would eliminate

the constitutional violation, the Constitution does not

require such a drastic solution. We have recognized, in

cases involving invalid classifications in the distribution

of government benefits, that the appropriate remedy “is

a mandate of equal treatment, a result that can be

accomplished by withdrawal of benefits from the favored

class as well as by extension of benefits to the excluded

class.” Heckler v. Mathews, 465 U.S. 728, 740, 104 S.Ct.

1387, 1395, 79 L.Ed.2d 646 (1984). See lowa-Des Mosnes

Bank, supra, 284 U.S., at 247, 52 S.Ct., at 136; see also

Welsh v. United States, 398 U.S. 333, 361, 90 S.Ct. 1792,

1807, 26 L.Ed.2d 308 (1970) (Harlan, J., concurring in

judgment).

In this case, appellant's claim could be resolved

either by extending the tax exemption to retired federal

employees (or to all retired employees), or by elimi-

nating the exemption for retired state and local govern-

ment employees. The latter approach, of course, could be

construed as the direct imposition of a state tax, a remedy

beyond the power of a federal court. See Moses Lake

Homes, Inc. v. Grant County, 365 U.S., at 752, 81S.Ct., at

874 (“Federal courts may not-assess or levy taxes”). The

~ permissibility of either approach, moreover, depends in

part on the severability of a portion of § 206.30(1)(f)

from the remainder of the Michigan Income Tax Act, a

question of state law within the special expertise of the

B-13

Michigan courts. See Louis K. Liggett Co. v. Lee, 288 US.

517, 540-541, 53 S.Ct. 481, 486-487, 77 L.Ed. 929 (1933).

It follows that the Michigan courts are in the best

position to determine how to comply with the mandate

of equal treatment. Davis v. Michigan Dept. of Treasury,

109 S.Ct. 1508-1509. (emphasis added)

On remand, the Michigan Court of Appeals held that “federal

employees must receive the same tax treatment afforded state

and local employees”. Davis v. Department of Treasury, ——

N.W.2d —_ , 1989 WL 98935 (Mich. App., August 21, 1989)

(No. 117204). The Michigan Court of Appeals specifically

decided not to eliminate (strike) the exemption for state and

local employees noting that the Michigan Legislature was free

to extend the income tax exemption to retired state and local

employees if it so desired.

27. Declaring the exemption contained in § 26-51-

307(b) invalid prospectively would result in the imposition of

the State income tax on the retirement income of retired state

government employees which the Arkansas Legislature has

specifically expressed its intent not to tax. Such judicial action

would violate the separation of powers required by Art. IV,

§§ 1 and 2 of the Arkansas State Constitution by invading the

exclusive province of the legislative branch of government.

28. The Court adopts the reasoning of the Michigan

Court of Appeals by holding that federal retirees and

employees of other states and subdivisions thereof must

receive the same income tax treatment that is afforded

to retired employees of the State of Arkansas under

§ 26-51-307(b).

29. In addition to declaratory relief, Plaintiffs seek

refunds of the income taxes which they have paid with respect

to their government retirement benefits. Ark. Code Ann.

§ 26-18-507(a) provides:

B-14

Any taxpayer who has paid any State tax to the State of

Arkansas, through error of fact, computation, or mistake

of law, in excess of the taxes lawfully due shall, subject to

the requirements of this chapter, be refunded the

overpayment of the tax determined by the director to be

erroneously paid upon the filing of an amended return or

a verified claim for refund.

The taxpayers represented by this class action suit have paid

income taxes to the State of Arkansas “in excess of taxes

lawfully due” and are entitled to a refund of such taxes, plus

interest thereon pursuant to § 26-18-508, provided that the

statute of limitations contained in § 26-18-306(i) had not

barred their rights to a refund prior to the filing of this suit on

March 31, 1989.

30. Taxpayers are required to file individual state

income tax returns for each calendar tax year on or before May

15 of the succeeding year unless they obtain an extension to

file. (Ark. Code Ann. § 26-51-806). The normal statute of

limitations period for any taxpayer to claim a refund of taxes

reported on income tax returns for the 1985 calendar year tax

and any subsequent tax years would not have expired until

after May 15, 1989. Thus, the taxpayers represented by this

class action suit are entitled to refunds of the income taxes

they reported on individual income tax returns for the 1985

calendar tax year and any subsequent tax years.

WHEREFORE, IT IS ORDERED, ADJUDGED AND

DECREED by the Court as follows:

(1) Arkansas’ income tax laws violate the principles of

intergovernmental tax immunity and 4 U.S.C. § 111 by

favoring retired State government employees over retired

federal employees and employees of other States and political

subdivisions thereof.

ORO la il: 5 aT le A) eet he Hh ot da rita ie ee eles

ee a Ore

B-15

(2) Defendant Jim C. Pledger, Director of the Arkansas

Department of Finance and Administration, and Defendant

Tim Leathers, Commissioner of Revenues, are hereby

enjoined from collecting the Arkansas income tax with

respect to the retirement income received by retired federal

employees! and employees of other States and political

subdivisions to the extent that such taxes have been

determined to be unconstitutional as set forth hereinabove.

(3) The Defendants are hereby ordered to account for

and refund the income taxes to all taxpayers represented by

this class action suit to the extent such taxes have been

collected in excess of that lawfully due as determined

hereinabove. Furthermore, the Defendants are ordered to

submit to the Court within thirty (30) days a plan for

providing notice to the taxpayers represented by this class

action suit of their rights to a refund and establishing

procedures, forms, and instructions to be used in implement-

ing such refunds in an orderly fashion.

(4) “[W]hen a class action results in the recovery of a

‘common fund’ it is proper to allow attorneys’ fees to be paid

from the fund.” American Trucking Association v. Gray, 295

Ark. 43, 47 (1988); Powell v. Henry, 267 Ark. 484 (1980); and

Marlin v. Marsh, 189 Ark. 1157 (1934). Counsel for the

Plaintiffs shall be apportioned and awarded a reasonable part

of the common fund held subject to refund as compensation

for professional services performed and for reimbursement of

costs expended.

(5) The Court retains jurisdiction of this cause for the

purpose of ascertaining and enforcing all rights and obliga-

tions of the parties under this Order, and for other proper

relief.

DATED this Ist day of November, 1989.

/s/ Lee A. Munson, Chancellor

APPENDIX C

li, RH ee . <a =

C-1

CHANCERY COURT OF PULASKI COUNTY, ARKANSAS

FIRST DIVISION

No. 87-2401

Stanley Bosnick and Willa S. Lindsey, *

George E. Stewart, Don Lane, John

Sandfort, William Dawson Barlow

and Hank Gajda, on behalf of

Themselves and Ali Other Similarly

Situated Taxpayers ..... Plaintiffs

Order for Certification

vs. As a Class Action

Jim C. Pledger, Director of the

Arkansas Department of Finance and

Administration; Tim Leathers, Com-

missioner of Revenues, and Jirnmie

Lou Fisher, Treasurer of the State

of Arkansas ......... Defendants

+e eee e+ ++ + He + HH

Filed August 22, 1989

ORDER FOR CERTIFICATION

AS A CLASS ACTION

Plaintiffs filed a Motion for Certification as a Class

Action on August 21, 1989. The Defendant, Jim C. Pledger,

Commissioner of Revenues, and the Defendant, Jimmie Lou

Fisher, Treasurer of the State of Arkansas, filed a Response

therv.o and a hearing was held before the Court on August 22,

1989. From said Motion and the Defendants’ Response and

other things and matters before it, the Court finds and

ORDERS as follows:

1. Plaintiffs filed their Complaint herein on March 31,

1989 on behalf of themselves and that class of all other

taxpayers who are similarly situated seeking to enjoin the

C-2

collection of the Arkansas income tax from the Plaintiffs and

all other similarly situated taxpayers, as an illegal exaction to

the extent it is levied upon certain retirement and disability

income; to enjoin the appropriation and expenditure of such

taxes illegally exacted; and to order an accounting and a refund

to Plaintiffs and alli other similarly situated taxpayers of the

amount of Arkansas income taxes illegally exacted and

collected to date.

2. The Court's jurisdiction is founded upon Article 16,

Section 13 of the Constitution of the State of Arkansas, Ark.

Code Ann. § 26-18-507 and 42 U.S.C. § 1983. Illegal exaction

suits such as this which challenge the legality of a tax are as a

matter of law class action suits. Csty of Little Rock v. Cash, 227

Ark. 494, 511 (1982). “Every citizen is regarded as a party to

the proceedings, and is bound by the judgment entered” by

this Court. Jd. at 511. “In such cases the people are regared as

the real parties.” Id. at 511.

3. The class sought to be represented by the named

Plaintiffs is that class of all taxpayers who have been or will be

forced to pay the Arkansas income tax with respect to

retirement income or disability benefits received as compen-

sation for services rendered as an employee of the United

States Government or an agency thereof or as an employee of

other states or political subdivisions and agencies of other

states. This class specifically includes former military and

civilian employees.

4. Certifying the above-styled cause as a class action will

provide a fair and efficient method for adjudication of this

controversy in a single forum in which all parties with an

interest in the subject matter will have an opportunity to be

heard. Further, a class action will resolve the legality and

constitutionality of the income taxes in question for all of the

class members at one time, and will also spare the State the

C-3

burden of having to participate in multiple lawsuits brought

by or against individual taxpayers in which the same issues are

raised.

5. The class of taxpayers described in paragraph 3 above

includes more than 30,000 taxpayers and is so large that it is

impractical to bring them all before this Court within a

reasonable time. As such, the named Plaintiffs should,

pursuant to Article 16, Section 13 of the Arkansas State

Constitution, be allowed to sue for the benefit of all members

of the class.

6. The questions of fact and law in this case aré common

to all members of the class described in paragraph 3 above and

the questions of fact and law which are common to the

members of the above-styled class predominate over any

possible questions affecting only individual members of the

class. As such, a class action is superior to other available

methods for the fair and efficient adjudication of the issues

and controversy raised by this suit.

7. The Plaintiffs that have instituted this suit represent

a cross section of the various types of taxpayers who have

been, and will be, subjected to the payment of the taxes in

question. Their claims are typical of the claims of all members

of the similarly situated class. The Plaintiffs will fairly and

adequately protect the interests of the class of similarly

situated taxpayers and they are ably qualified to prosecute this

action to a conclusion.

8. Subject to verification of the facts set forth by the

Plaintiffs in their pleadings filed with this Court, pursuant to

Ark. R. Civ. Proc. 23, this suit is hereby certified as a class

action suit, the named Plaintiffs are hereby certified as class

representatives of the class of taxpayers described above

in paragraph 3, and Plaintiffs’ attorney, Carrold E. Ray is

C-4

hereby appointed as counsel for the class of taxpayers.

9. Notice of the maintenance of this action as a class

action need not be given by any formal means of publication,

since a cause of action brought pursuant to Article 16, Section

13 of the Arkansas State Constitution is, by’ its very nature, a

taxpayers’ “class action” suit. City of Little Rock v. Cash, 227

Ark. 494 (1982).

WHEREFORE, this Order for Class Certification is

executed this 22nd day of August, 1989.

/s/ Lee A. Munson

Chancellor

APPENDIX D

i

D-1

CHANCERY COURT OF PULASKI COUNTY, ARKANSAS

FIRST DIVISION

No. 89-1451

Stanley Bosnick and Willa S. Lindsey, *

On Behalf of Themselves and

, All Other Similarly Situated

TORGIED oc vccccessess Plaintiffs

vs. Order

Jim C. Pledger, Commissioner of

: Revenues, and Jimmie Lou Fisher,

d Treasurer of the State of

:

+e eee + e+ + + F

Filed May 10, 1989

: ORDER

Plaintiffs have filed a Motion for Preliminary Injnction

requesting that the Court order the Defendants to place the

challenged Arkansas income taxes into an interest-bearing

escrow account and for other relief. From the representations

of counsel for Plaintiffs and Defendants, and other matters

presented to the Court, the Court finds:

1. The Defendant Commissioner of Revenues main-

tains that the funds which are held in the Income Tax Refund

Fund will be available for the purposes of satisfying any

refund of income taxes which a Court might eventually order

paid to the Plaintiff-taxpayers. In order to assure the Plaintiff-

taxpayers of 21 adequate remedy at law in the form of a

refund, the available funds in the Income Tax Refund Fund

: shall not be reduced during the pendency of this suit below the

amount of estimated Arkansas income taxes paid by the

Plaintiff-taxpayers.

D-2

2. The Defendants have agreed that in the event a Court

ultimately orders a refund of income taxes to the Plaintiff-

taxpayers they shall be entitled to receive interest on such

refunds as allowed by law, or such amount of interest which

would have accrued had this Court ordered the challenged

income taxes to be placed into an interest-bearing escrow

account on May 10, 1989, on which the parties agree that

interest at the rate of eight and one half percent (8 1/2%) per

annum would be earned.

3. The Court has determined that there is a likelihood

that the Plaintiff-taxpayers will succeed in their efforts to

challenge the legality of Arkansas income taxes which have

been imposed upon their retirement income. Based upon the

stipulations and verbal representations made by counsel for

the Defendant, Commissioner of Revenues, the Court has

determined that the Plaintiff-taxpayers will be assured of an

adequate remedy at law in the form of a refund if the

Defendants are ordered not to reduce the amount of funds

held in the Income Tax Refund Fund below certain minimum

levels and that such funds will remain available for purposes

of paying a refund to the taxpayers should a Court ultimately

order refunds to be made.

4. The Defendants are hereby ordered to maintain a

minimum balance of funds in the Income Tax Refund Fund

equal to the initial amount of $8,000,000.00. Defendant

Commissioner of Revenues shall advise Plaintiffs’ attorney

quarterly of the funds in the Income Tax Refund Fund which

remain available for refunding of income taxes. The Com-

missioner of Revenues shall prepare revised estimates of the

amount of income taxes paid by the Plaintiff-taxpayers with

respect to their federal retirement income for the 1988

calendar tax year by taking a random statistical sampling of

individual income tax returns which were filed by the

Plaintiff-taxpayers for the 1987 calendar tax year.

D-3

Such estimates shall be conducted in cooperation with and

under the supervision of Mr. Richard Sims of the Arkansas

Legislative Council who shall independently verify to the

Court the methods and procedures used in arriving at such

estimates. Such estimates shall be prepared on or before July

14, 1989 unless otherwise extended by the Court. In the e vent

such revised estimates shall exceed $8,000,000, then the

minimum balance of funds which the Defendants shall

maintain in the Income Tax Refund Fund pursuant to this

Order shall be increased to an amount equal to the revised

estimate of the income taxes paid by the Plaintiff-taxpayers

with respect to their federal retirement income.

5. The parties shall make every reasonable effort to

expedite the preparation of this case and submit it to the

Court for a decision on the constitutional issues raised by the

Plaintiff-taxpayers as soon as possible. In the event a final

nonappealable decision is not rendered by the end of this 1989

calendar tax year, the minimum amount which the Defend-

ants shall be required to retain in the Income Tax Refund

Fund shall be increased by an additional $8,000,000.00 or the

amount of estimated income taxes determined pursuant to the

provisions of paragraph four (4) above, if greater, for each

additional calendar tax year which shall expire during the

pendency of this case.

6. The Court hereby incorporates into this Order the

joint stipulation of facts entered into on May 10, 1989 by

counsel for Plaintiffs and Defendant Commissioner of

Revenues.

7. The Defendant Commissioner of Revenues shall

change the 1989 Individual Income Tax Return Forms (Form

AR1000 and AR1000NR) to provide for the following:

1. Boxes shall be inserted on the face of the Arkansas

D-4

Income Individual Income Tax Forms AR1000 and

AR1LOOONR to allow the Plaintiff-taxpayers to identify

themselves as federal retirees or retirees of other states

including political subdivisions thereof.

2. Instructions shall be added to the Individual Income

Tax Booklet to explain the reasons and purposes for

the boxes added to the face of forms AR1000 and

AR1000NR as required above.

3. The Defendant, Commissioner of Revenues, shall

maintain electronic data processing records of all Plain-

tiff-taxpayers who shall check the appropriate box or

boxes added to forms AR1000 and ARI1OOONR as

required hereinabove.

IT IS SO ORDERED.

Entered this 10th day of May, 1989.

/s/ Lee A. Munson

Chancellor

APPENDIX E

E-1

SUPREME COURT OF ARKANSAS

No. 90-39

Jim C. Pledger, et al., *

jane Appellants, *

* Appeal from the Chancery

v * Court of Pulaski County,

* Arkansas, First Division

Stanley Bosnick, et al., *

eae. Appellees. *

Filed April 12, 1990

PORTION OF ABSTRACT OF TESTIMONY

OF JOSEPH LAFACE, FORMER RESEARCH

ADMINISTRATOR FOR THE ARKANSAS

DEPARTMENT OF FINANCE AND ADMINISTRATION

PROCEEDINGS OF OCTOBER 18, 1989

Before the Honorable Lee A. Munson, Chancellor

“This analysis, Defendants’ Exhibit One, examines the

effects of a potential cut of Thirty-two Million Dollars, and

that figure was based on Twenty-five Million Dollars plus any

additional interest rate charges that might be incurred. So, I

examined simply who would bear the burden of a cut of

Thirty-two Million Dollars, and as far as state spending is

concerned, it’s a fairly straight forward piece of analysis. Fifty

percent of the general revenue, net available revenues from

the State of Arkansas, go toward public education, kinder-

garten through twelfth grade, and the next major category is

higher education, which gets approximately seventeen

percent, and then we have general education fund, which I

may go into a little bit of detail there, if I may. That concerns

the School for the Blind and Deaf. It concerns vocational

E-2

education. Contributions to the AETN television network,

and that’s another three percent. So approximately seventy

percent of the State's general revenue budget is allocated

toward education in the State. And, to examine the impact, we

simply took what the current State's contribution is per pupil

in the last year, which was the fiscal year 1989, and the State

currently for four hundred and fifty-eight thousand students

in grades “k” through twelve in Arkansas, the State

contributed One Thousand Eight Hundred and Sixty-three

Dollars per each student. (TR 443-444)

In 1988, the previous year, the State's contribution per

pupil amounted to One Thousand, Eight Hundred and Forty-

three Dollars. So, the increase in the fiscal year '89 compared

to the previous year was Twenty Dollars per pupil, or about

one percent. So given these figures, the impact of a cut of

Thirty-two Million Dollars on the public school fund since the

schools receive fifty percent of the net available revenues, the

loss to the public education fund would be Sixteen Million

Dollars, or Thirty-five Dollars per pupil, and that cut would

wipe the 1989 gain, and push funding levels back to what they

were in fiscal year 1987. At the present time, State con-

tributions to public education in Arkansas are increasing from

year to year. I made a note in the document that in 1965 the

State’s share of total school expenditures was forty-eight

percent. Today it is sixty-one percent.” (TR 444-445)

(Appellants Abstract, pp. 111-113)

APPENDIX F

0 NI

F-1

SUPREME COURT OF ARKANSAS

No. 90-39

Jim C. Pledger, et al., oe

eet Appellants, *

* Appeal from the Chancery

Vv * Court of Pulaski County,

* Arkansas; First Division

Stanley Bosnick, et al., *

cache Appellees. *

Filed April 12, 1990

PORTION OF ABSTRACT OF TESTIMONY

OF DAVID FOSTER, MANAGER, INDIVIDUAL

INCOME TAX SECTION, ARKANSAS

DEPARTMENT OF FINANCE AND ADMINISTRATION

PROCEEDINGS OF OCTOBER 18, 1989

Before the Honorable Lee A. Munson, Chancellor

“At the present level of staffing and with the present

number of returns on hand, we're looking at approximately

three years probably to process these amended returns if a

ruling of this Court requires us to process them. These are the

twenty-eight thousand that we have on hand at this time. We

reached that estimate based on the fact that we are able to

process approximately eight thousand amended claims for

refund each year. So if we have twenty-eight thousand, we

have approximately a three and a half year backlog if we have

no other documents — if we have no other amended

documents to process. I'm sure that a number of these

amended returns would have other basis for refund other than

just a specific Bosnick versus Pledger claim. I don’t think that

it would be possible to process that apart from what is claimed

F-2

as a result of this case because we have an incomplete record.

Those are being held also.

“I imagine that these amended returns are the first to be

filed. We potentially could have — we have some forty-three

thousand people included in the class times four years. So, we

have a hundred and seventy thousand possibly, potentially.

_ Based on our earlier estimates, we could see with current

- capabilities and staffing approximately eleven years as to

the time involved as to these additional amended returns.”

(TR 418-419) (Appellant's Abstract, p. 100-101)

APPENDIX G

ADR a6 ate

G-1l

STATUTORY PROVISIONS INVOLVED

Ark. Code Ann. § 26-18-306 (1987) provides in pertinent

“... (i) An amended return or verified claim for credit

or refund of an overpayment of any state tax for which

the taxpayer is required to file a return shall be filed by

the taxpayer within three (3) years from the time the

return was filed or two (2) years from the time the tax

was paid, whichever of the periods expires the later, or as

long as the statute of limitations for assessment is still

open to the director.”

Ark. Code Ann. § 26-18-507 (1987) provides in pertinent

“(a) Any taxpayer who has paid any state tax to the State

of Arkansas, through error of fact, computation, or

mistake of law, in excess of the taxes lawfully due shall,

subject to the requirements of this chapter, be refunded

the overpayment of the tax determined by the director to

be erroneously paid upon the filing of an amended return

or a verified claim for refund.

(b) The claim shall specify:

(1) The name of the taxpayer;

(2) The time when and the period for which the tax

was paid;

(3) The nature and kind of tax paid;

(4) The amount of the tax which the taxpayer

claimed was erroneously paid;

(5) The grounds upon which a refund is claimed;

and

(6) Any other information relative to the payment

as may be prescribed by the director. . . .”

G-2

Ark. Code Ann. § 26-5 1-306 (1987) provides in pertinent

part:

“(a)(1) No member of the armed services of the

United States shall be liable for or required to pay any

income tax on the first six thousand dollars ($6,000) of

service pay or allowances, nor shall any former member

of the armed services of the United States be required to

pay any income tax on any retirement pay or disability

benefits received as a retired service member.

(2) The compensation and benefits are declared

exempt, to the extent of the first six thousand dollars

($6,000) thereof, from the state income tax.

(3) All service pay or allowances and any retire-

ment pay and disability benefits of members or former

members of the armed services of the United States in

excess of six thousand dollars ($6,000) per year shall be

subject to the state income tax. However, all disability

benefits received by disabled veterans of the armed

services of the United States, regardless of the amount,

shall be exempt from the Arkansas income tax.

(b) Nothing in this section shall exempt from

taxation the income of these persons derived from other

sources than their service pay and ailowances.

(c) The term ‘armed services’ as used in this

section, means any and all members of the United States

Army, Navy, Marine Corps, Coast Guard, Air Force, and

any and all other branches of the military and naval

forces or auxiliaries.”

Ark. Code Ann. § 26-51-307 (1987) provides in pertinent

part:

(a) Except as provided by subsections (b) and (c)

Oi —e eo .

G-3

of this section, the first six thousand dollars ($6,000) of

retirement or disability benefits received after December

31, 1984, by any resident of this state from public or

private employment-related retirement systems, plans,

or programs, regardless of the method of funding for

such systems, plans, or programs, shall be exempt from

the state income tax.

(b) All retirement benefits, other than disability

benefits, received by any resident of this state shall be

exempt from the state income tax if:

(1) The recipient is entitled to receive the benefits

on or before December 31, 1989; and

(2) The benefits are received from the Arkansas

Public Employees Retirement System, The Arkansas

Teacher's Retirement System, the Arkansas State Police

Retirement System, or the Arkansas State Highway

Employees Retirement System, or any other retirement

system, the benefits of which were entirely exempt from

the state income tax immediately prior to the adoption of

this section.

(c) All disability retirement benefits received by

any resident of this state shall be exempt from Arkansas

tax if:

(1) The recipient is entitled to receive the benefits

on or before December 31, 1989; and

(2) The benefits are received by disabled veterans

of the armed services of the United States and benefits

received from the Arkansas Public Employees Retire-

ment System, the Arkansas Teacher's Retirement

System, the Arkansas State Police Retirement System,

the Arkansas State Highway Employees Retirement

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System and any other retirement system, the disability

benefits of which were entirely exempt from the state

income tax immediately prior to the adoption of this

section... .”

Ark. Code Ann. § 26-51-307 [as amended by Act 27 of

1989 (3rd Ex. Sess.)] provides in pertinent part:

“(a) The first six thousand dollars ($6,000) of

retirement or disability benefits received after December

31, 1988, by any resident of this state from public or

private employment-related retirement systems, plans,

or programs, regardless of the method of funding for

such systems, plans, or programs, shall be exempt from

the state income tax.

(b)(1) Except as provided in subdivision (3) of this

subsection, the exemption provided for in this section for

benefits received from a public or private employment-

related retirement or disability system, plan, or program

shall be the only exemption from state income taxes

allowed for retirement or disability benefits received

from any publicly or privately supported system, plan,

Or program, excepting only benefits received under

systems, plans, or programs which are by federal law

exempt from state income taxes.

(2) Any resident of this state who prior to January

1, 1989, received both military retirement or disability

pay and other retirement or disability benefits shall be

entitled to claim only one (1) six thousand dollar

deduction beginning with tax year 1989... .”

4 USC. § 111 provides:

“The United States consents to the taxation of pay

or compensation for personal service as an officer or

A fos 1S LR RS He

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employee of the United States, a territory or possession

or political subdivision thereof, the government of the

District of Columbia, or an agency or instrumentality of

one ox more of the foregoing, by a duly constituted taxing

authority having jurisdiction, if the taxation does not

discriminate against the officer or employee because of

the source of the pay or compensation.”

5 U.S.C. § 5532 provides in pertinent part:

"“.. .(b) A retired officer of a regular component of

a uniformed service who holds a position is entitled to

receive the full pay of the position, but during the period

for which he receives pay, his retired or retainer pay shall

be reduced to an annual rate equal to the first $2,000

of the retired or retainer pay plus one-half of the

remainder, if any... .”

5 U.S.C. § 8312 provides in pertinent part:

“(a) An individual, or his survivor or beneficiary,

may not be paid annuity or retired pay on the basis of the

service of the individual which is creditable toward the

annuity or retired pay, subject to the exceptions in

section 8311(2) and (3) of this title, if the individual —

(1) was convicted, before, on, or after Sep-

tember 1, 1954, of an offense named by subsection (b)

of this section, to the extent provided by that

subsection; or

(2) was convicted, before, on, or after Sep-

tember 26, 1961, of an offense named by subsection

(c) of this section, to the extent provided by that

subsection... .”

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10 U.S.C. § 688 provides in pertinent part:

“(a) Under regulations prescribed by the Secretary

of Defense, a retired member of the Regular Army,

Regular Navy, Regular Air Force, or Regular Marine

Corps, a member of the Retired Reserve who has

completed at least 20 years of active service, or a member

of the Fleet Reserve or Fleet Marine Corps Reserve may

be ordered to active duty by the gt of the military

department concerned at any time.

10 U.S.C. § 772 provides in pertinent part:

“(c) A retired officer of the Army, Navy, Air Force,

or Marine Corps may bear the title and wear the uniform

of his retired grade... .”

10 U.S.C. § 802(a)(4) provides:

“(a) The following persons are subject to this

chapter:

...(4) Retired members of a regular component of

the armed forces who are entitled to pay...”

10 U.S.C. § 1074 provides in pertinent part:

‘...(b) Under joint regulations to be prescribed

by the administering Secretaries, a member or former

member of a uniformed service who is entitled to retired

or retainer pay, or equivalent pay may, upon request, be

given medical and dental care in any facility of any

uniformed service, subject to the availability of space and

facilities and the capabilities of the medical and dental

staff. .

10 U.S.C. § 1076 provides in pertinent part:

‘.. .(b) Under regulations to be prescribed jointly

——————

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:

4

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by the Secretary of Defense and the Secretary of Health

and Human Services, a dependent of a member or former

member —

(1) who is, or (if deceased) was at the time of his

death, entitled to retired or retainer pay or equivalent

pay; or

(2) who died before attaining age 60 and at the

time of his death (A) would have been eligible for

retired pay under chapter 67 of this title but for the

fact that he was under 60 years of age, and (B) had

elected to participate in the Survivor Benefit Plan

established under subchapter II of chapter 73 of this

title;

may, upon request, be given the medical and dental care

prescribed by section 1077 of this title in facilities of the

uniformed services, subject to the availability of space

and facilities and the capabilities of the medical and

dental staff, except that a dependent of a member or

former member described in clause (2) may not be given

such medical or dental care until the date on which such

member or former member would have attained age

@....

10 U.S.C. § 1461 provides in pertinent part:

“(a) There is established on the books of the

Treasury a fund to be known as the Department of

Defense Military Retirement Fund (hereinafter in this

chapter referred to as the ‘Fund’), which shall be

administered by the Secretary of the Treasury. The Fund

shall be used for the accumulation of funds in order to

finance on an actuarially sound basis liabilities of the

Department of Defense under military and survivor

benefit programs... .”

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37 U.S.C. § 801 provides in pertinent part:

“(b) Payment may not be made from any appropri-

ation, for a period of three years after his name is placed

on that list to an officer on a retired list of the Regular

Army, the Regular Navy, the Regular Air Force, the

Regular Marine Corps, the Regular Coast Guard, the

National Oceanic and Atmospheric Administration, or

the Public Health Service, who is engaged for himself or

others in selling or contracting or negotiating to sell,

supplies or war materials to an agency of the Depart-

ment of Defense, the Coast Guard, the National Oceanic

and Atmospheric Administration, or the Public Health

Service... .”