Court Hears Challenge to State Business Tax

A successful challenge to the state's primary business tax would throw lawmakers into special session to try to find enough money to pay for public schools, a lawyer for the state told the Texas Supreme Court today. 

Allcat Claims Service and John Weakly are suing the state over the franchise tax, saying it violates a constitutional ban on personal income taxes in Texas because it taxes the business income of business partners as well as corporations.

The state's argument is that the tax doesn't tax the partners themselves — individuals who are protected from state income taxes — but the partnerships to which they belong. The state also says the tax isn't based on net income, but on a company or partnership's gross receipts.

The lawyers agreed, under questioning from the justices in an hour-long hearing Monday morning, that a ruling against the state would cost money. Neither the state nor its challengers had an estimate of how much money was in question, but Danica Milios, who represented the state, said such a ruling "would obviously send the Legislature back into a special session."

That would represent a big headache for Gov. Rick Perry, who is in the midst of a presidential campaign. The Texas governor has the sole authority to call a special session.

The tax took its current form in a special legislative session in 2006 when lawmakers — facing legal claims against its school finance system — lowered local property taxes and replaced that money with revenue from new taxes and fees, including the revised franchise tax.

The tax has been problematic, raising less money than estimated and leaving the state short of what it needed to make the 2006 package balance. And now, because lawmakers didn't ask voters for approval, this lawsuit says the tax violates a constitutional provision that permits personal income taxes only if voters allow it.

The justices are also deciding whether the case should have come directly to the state's highest civil court or should have been filed in district court.

A ruling is expected within about a month.