RECOMMENDED DECISION

Statement of the Case

 

 

This case arises under the Federal Unemployment Tax Act(FUTA), 26 U.S.C. 3301-3311. The statute imposes on employers an excise tax baxed upon the wages paid to employees. Credits are given for contributions to State unemployment funds which are certified for each 12 month period ending on October 31 of such year.

State participation in the Federal-State unemployment compensation program is voluntary, but States choosing to participate must enact unemployment compensation laws consistent with federal requirement. The Secretary of Labor must annually certify to the Secretary of the Treasury the law of each State where he finds reduced State unemployment tax rates were allowable.

On June 23, 1982 the Acting Regional Administrator, Employment and Training Administration, U.S. Department of Labor advised the Commissioner, Minnesota Department of Economic Security (MDES) that H.F. No. 1, a bill signed into law by the Governor on March 31, 1982, raised numerous questions of conformity with Federal law. After an exchange of correspondence, MDES in a letter on January 14, 1983 indicated that, while they continued to disagree on the question of conformity, they would seek remedial legislation. When no such legislation had materialized after almost a year had passed, the Secretary of Labor advised the MDES and the Governor of Minnesota of the commencement of conformity proceedings. The MDES requested a hearing and, on March 6, 1984, the Notice of Rearing wan published in the Federal Register, setting April 17, 1984 as the hearing date. By agreement of the parties the hearing was canceled and submission of the case on briefs was ordered. The Minnesota Association of Commerce and Industry was allowed to file an amicus curiae brief by Order dated May 22, 1984.

The parties and the Assoeiation have submitted briefs and reply briefs.

ISSUES PRESENTED

I.  Whether, with respect to certification of State Iowa on October 31, 1984, under section 3303(b)(1) of the Internal Revenue Code of 1954, 26 U.S.C. 3303(b)(1), subdivision 2 of section 268.06 of the unemployment compensation law of the State of Minnesota (the Minnesota Employment Services Law, Chapter 268, Minnesota Statutes 1980) has been amended so that, with respect to the 12-month period ending on each October 31, the Minnesota Law no longer contains the provisions specified in section 3303(a)(1) of the Internal Revenue Code of 1984, 26 U.S.C. 3303(a)(1) or the State has, with respect to such 12-month period, failed to comply substantially with any such provision.

II.  Whether, with respect to certification of State laws on October 31, 1984, under section 3303(b) (1) of the Internal Revenue Code of 1964, 26 U.S.C. 3303(b) (1), subdivision 8 of section 268.06 of the unemployment compensation law of the State of Minnesota, supra, has been amended so that, with respect to the 12 month period ending on such October 31, the Minnesota law no longer contains the provisions specified in section 3303 (a) (1) of the Internal Revenue Code of 1954, 26 U.S.C. 3303(a)(1), or the State has, with respect to such 12-month period, failed to comply substantially with any such provision.

Agreed Facts

The parties agreed to the following facts:

General Assembly, the Minnesota legislature passed H.F. No. 1.

7.  Mr. Singer responded in a September 30, 1982 letter to Mr. Middleton. This letter expressed ETA's disagreement with MDES's position on the conformity issues raised by section 268.06, subdivisions 2 and 8. Mr. Singer attached a memorandum further elaborating on the conformity problems raised by those subdivisions.

8.  In a January 14, 1983 letter to Mr. Singer, Ms. Barbara Beerhalter, the new Commissioner of MDES, stated that MDES continued to disagree with ETA on the question of conformity issues but stated that the State agency would seek remedial legislation that would remove the provisions at issue. Nearly a year later, no such legislation had materialized.

9.  On December 29, 1983, Raymond J. Donovan, Secretary of Labor, wrote to Ms. Beerhalter to notify MDES of the commencement of conformity proceedings against the State of Minnesota under section 3303(b)(3) of the Federal Unemployment Tax Act ("FUTA"). This notice identified the specific issues in question and offered the State agency an opportunity for a hearing on the questions raised.

Findings and Conclusions

Section 3303(a)(1) of Title 26, United States Code, provides in pertinent parts:

(a)  State Standards.  A taxpayer shall be allowed an additional credit under section 3302(b) with respect to any reduced rate of contributions permitted by a State law, only if the Secretary of Labor finds that under such law -

(1)  no reduced rate of contributions . . . is permitted to a person . . . having individuals in his . . . employ except on the basis of his . . . experience with respect to unemployment or other factors bearing a direct relation to unemployment risk during not less than 3 consecutive years immediately preceding the computation date. . .

26 U.S.C. 3303(a)(1) affords tho taxpayer a credit against the Federal tax for any reduced rate of contributions permitted by State law. Morever, the reduced rate must be bared on factors bearing a direct relationship to unemployment risk.

The State of Minnesota allows for a reduced rate of contribution based on the employer's "experience ratio," (1) which the Department of Labor concedes is a factor "bearing a direct relation to unemployment risk".

Minn. Stat. § 268.06, subd. 2 (Supp. 1983) provides:

Each employer shall pay contributions equal to two and seven-tenths percent for each calendar year prior to 1985 and 5-4/10 percent for 1985 and each subsequent calendar year wages paid and wages overdue and delayed the usual time of payment from him with respect to employment occurring during each calendar year, except as may be otherwise prescribed in subdivision 3a and 4.Each employer who has experience ratio of less than one-tenth of one percent shall pay contributions on only the first $8,000 in wages paid and wages overdue and delayed beyond the usual time of payment to each employee with respect to employment occurring during each calendar year. (Emphasis added.)

The Department contends that the last sentence of this subdivision violates section 3303(a)(l) of FUTA, for the following reasons. Two classes of employer's are created, those with experience ratios of less than 0.1% and those with experience ratios of 0.1% or more. The classification determines which taxable wage base is applicable to a particular employer. Since the lower taxable wage base is not a factor "bearing a direct relation to unemployment risk", the subdivision is inconsistent with section 3303(a)(1) of FUTA, according to the Department.

The Department is in error. The Minnesota system classifies employer's by their experience ratio, which is a factor bearing a direct relation to unemployment risk. The employers particular classification next determines which wage base is applicable. The applicable wage base is directly related to the employer's experience ratio and thus is directly related to the employer's unemployment risk.

The use of a two level taxable wage base is not a factor in determining low risk or high risk employers, rather, it is a means of rewarding employer's who have already been determined to be low risk employers.

The reward system bears a direct relationship to unemployment risk. Those employers with an experience ratio of less than O.1% use the $8,000 wage base; those with an experience of O.1% or more use a flexible wage base. The major thrust of the Department a argument is the dramatic results that occur for two similarly situated employers, one falling just below the 0.1% line and the other, just above tho line. The results are further enhanced because of Minnesota's practice of rounding off the experience ratio calculation to the nearest one tenth of one percent. The Department's argument is irrelevant. Section 3303(a), in substance, allows an employer to be rewarded by reduced rate of contribution if the reduction is tied to unemployment risk. However, the amount and the exact nature of the reward is not stated in section 3303(a)(1). A state is permitted to name its own reward. In the instant case, Minnesota has chosen to confer a substantial benefit for those employer's falling below the 0.1% line. It is, in fact, a significant motivation to employers to reduce their experience ratios.

In any instance of line drawing, those cases falling near the line can produce dramatic results, as the Department's example in its brief demonstrates. However, "horrible example" cases are an inevitable consequence of legislative line drawing under any circumstance. If more exacting parameters of a tax benefit are needed, they must be set by Federa1 legislation. Therefore, subdivision 2 of section 268.06 of the Minnesota Unemployment Compensation Law is found to comply with 3303(a)(l) of FUTA.

Subdivision 8 of section 268.06 of the Minnesota law provides, in part, as follows:

For each calendar-year the commissioner shall determine the contribution rate of each employer by adding the minimum rate to the experience ratio, except that if the ratio for the current calendar year increases or decreases the experience ratio for the preceding calendar year by more than one and one-half percentage points for 1982 and 2 1/2 percentage points for 1983 and each year thereafter, the increase or decrease for the current year shall be limited to one and one-half percentage points for 1982; and 2 1/2 percentage points for 1983 and each year thereafter, provided that a small business employer shall be eligible, upon application, for a reduction in the limitation to 1 1/2 percentage points for 1983 and each year thereafter. "Small business employer" for the purpose of thin subdivision means an employer with an annual covered payroll S250, 000 or less, or fewer than 20 employees in three of the four quarters ending June 30, of the previous calendar year.

* * *

No employer first assigned an experience ratio in accordance with subdivision 6, shall have his contribution rate increased or decreased by more than one and one-half percentage points for 1982; and 2 1/2 percentage points for 1983 and each year thereafter over the contribution rate assigned for the preceding calendar year in accordance with subdivision 3a, provided that a small business employer shall be eligible, upon application, for a reduction in the limitation to 1 1/2 percentage points for 1983 and each year thereafter.

Subdivision 8 places fixed percentage limitations on annual employer contribution rate increases and decreases. The State "notes" that a rate increase limitation has been in effect since 1975. It has failed to indicate the legal significance of that fact. There has been no showing that the State relied on a representation or changed its position to its detriment because the Department failed to act earlier. There is no reason the Department should now be estopped from questioning the state procedure.

States are permitted to establish maximum and minimum contribution rates. Minnesota argues that those limitations are the same as limitations on annual increases and decreases and the latter should therefore be permitted. Its analogy is incorrect. A State may set a maximum rate of contribution and the maximum rate is, in effect, a standard rate of contribution.

Once a standard rate is set, section 3303(a)(1) of FUTA requires that any procedure for reducing that rate below the standard, be based on unemployment risk factors. Thus section 3303(a)(1) does not speak to setting a maximum or standard rate of contribution, the section only has application after a maximum rate has been set.

Likewise, section 3303(a)(1) does not apply to establishing a minimum rate of contributlon. Section 3303 applies only if a reduction in contribution rates exists. A minimum rate of contribution prohibit. a reduction rate from existing below the cutoff line.

Section 3303 has clear application to limiting increases and decreases in contribution rates. Two employers with identical experience ratios in 1984 should pay the same rate of contribution. However, under the State law, the contribution rate of one of the employers may be artificially limited because that experience ratio had substantially increased from 1983. While both employers have been rated equal as to unemployment risk in the current year, under the State provision, one employer would pay a reduced rate of contribution, apart from any factor bearing on unemployment risk, in contravention of section 3303.

Minnesota asserts that the limitation on an increase in rate for one employer is offset by a corresponding limitation on rate decrease for another employer. Thus "the overall effect is to accurately reflect the experience of all Minnesota employers because the limitations offset and cancel each other." Section 3303 does not address employer's as a whole, it applies to the individual taxpayer. Each taxpayer or employer must be viewed independently in analyzing compliance with the Section. Thus, the State argument fails.

Subdivision 8 also creates a special fixed percentage rate limitation for "small business employers". As the above discussion illustrates fixed increase and decrease limitations are, in general, improper. The exception for small business employers merely adds another improper factor to determining contribution rates. There has been no showing that the size of an employer's business is a factor bearing a relationship to unemployment risk. Minnesota's argument that any economic benefit to small businesses aid their chances of survival and thus has a direct bearing on unemployment, is tenuous and flies in the face of the clear mandate of Section 3303. Accordingly the small business employee limitation is also found to violate section 3303 of FUTA.

Recommended Order

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Dated: 24 AUG 1984

Washington, D.C.

JWE:kat

SERVICE SHEET

Case Name: STATE OF MINNESOTA DEPARTMENT 0F ECONOMIC SECURITY .

Case No.: 84-CCP-1

Title of Document: RECOMMENDED DECISION

I hereby certify that a copy of the above document was mailed to the following parties on 24 AUG 1984

William B. DuRoss, III

Associate Solicitor for Employment

and Training Legal Services

U.S. Department of Labor

Room N-2101

200 Constitution Avenue, N.W.

Washington, D.C. 20210

William B. Walker, Esq.

Office of the Solicitor

U.S. Department of Labor

Room N-2101

200 Constitution Avenue, N.W.

Washington, D.C. 20210

Peter C. Andrews

Assistant Attorney General

1100 Bremer Tower

7th Place and Minnesota Street

St. Paul, Minnesota 55101

Winston W. Borden

President

Minnesota Association of Commerce

and Industry

480 Cedar Street

300 Hanover Building

St. Paul, Minnesota 55101

Hubert H. Humphrey, III

Attorney General

State of Minnesota

1100 Bremer Tower

7th Place and Minnesota Street

St. Paul, Minnesota 55101

1. Minn. Stat. §268.06, sub. 6(b)(1982).