Process Equip. & Serv. Co. v. N.M. Taxation Revenue Dep't

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PROCESS EQUIPMENT & SERVICE COMPANY, INC., Protestant-Appellee, v. NEW MEXICO TAXATION REVENUE DEPARTMENT, Respondent-Appellant,

IN THE MATTER OF THE PROTEST OF THE DENIAL OF REFUND ISSUED UNDER LETTER ID NO. L0040880432.

No. A-1-CA-38779

Court of Appeals of New Mexico

May 16, 2023

Appeal from the Administrative Hearing Office Brian Van Denzen Hearing Officer

Gallagher & Kennedy, P.A. Gene F. Creely, II Frank V Crociata Santa Fe, NM Spencer Fane, LLP Scott Woody Phoenix AZ for Appellee

Raúl Torrez, Attorney General David E. Mittle, Special Assistant Attorney General Santa Fe, NM for Appellant

OPINION

BACA, JUDGE

{¶1} Process Equipment &Service Company, Inc. (PESCO) sought a state tax credit for the 2014 and 2016 tax years under the Technology Jobs and Research and Development Tax Credit Act (the Act), NMSA 1978, §§ 7-9F-1 through 7-9F-13 (2000, as amended through 2019). The New Mexico Taxation and Revenue Department (TRD) denied PESCO's applications for these tax credits. PESCO protested TRD's denial, and an independent administrative hearing was held before Chief Hearing Officer (CHO) of the Administrative Hearing Office (AHO). Following the hearing, the CHO concluded that PESCO met the requirements for a tax credit under the Act for both years. On appeal, TRD argues that PESCO did not satisfy the statutory requirements for entitlement to the credit because PESCO failed to (1) use a cost accounting methodology to allocate wages, and (2) use the same cost accounting methodology in its other business activities. See § 7-9F-3(G) (requiring that "[i]f a 'qualified expenditure' is an allocation of an expenditure, the cost accounting methodology used for the allocation of the expenditure shall be the same cost accounting methodology used by the taxpayer in its other business activities"). For the reasons that follow, we affirm.

BACKGROUND

{¶2} PESCO designs and manufactures unique products for use in the oil and gas industry. It applied for a tax credit to recoup some of its research and development costs. PESCO applied for a credit of $88,014 for 2014 and $79,827 for 2016. TRD denied both applications, and PESCO protested these denials. TRD requested an independent hearing with the AHO, and the CHO presided over the hearing.

{¶3} PESCO retained CliftonLarsonAllen (CLA), an accounting firm, to assist it in its original application for the New Mexico tax credit and for a similar federal tax credit.^[1] CLA assisted PESCO in submitting a claim for a tax credit based on wages paid to draftsmen and engineers who were engaged in research and development of products. CLA also developed a methodology to quantify PESCO's time and wages related to its research and development activities. During normal operations, PESCO creates "drafting logs" when the work is performed to track how much work is committed to new research and development projects. CLA reviewed these drafting logs and interviewed PESCO's engineers to determine which of PESCO's projects qualified for the tax credit.

{¶4} At the hearing, several witnesses testified on behalf of PESCO: Mr. Marcus Mims, a Certified Public Accountant with CLA, Mr. Michael DePrima, a tax attorney employed by CLA, and Mr. Jim Rhodes, Vice President of Engineering at PESCO, and chair of its board. Mr. DePrima and Mr. Mims testified to their work in preparing PESCO's applications for the 2014 and 2016 tax credits. Mr. Rhodes testified that PESCO does not maintain a detailed project time-keeping system because implementing such a system is burdensome and expensive only for research and development tracking. Mr. Rhodes stated that he informally uses a method substantially similar to CLA's when deciding whether to let a project move forward. However, Mr. Rhodes does not have any written work product to show how he uses this informal cost accounting methodology.

{¶5} In resolving this case, the CHO stated that it was clear from Mr. Mims's and Mr. DePrima's testimony that "the methodology employed [by CLA] was a fair, true, and reasonable accounting [of PESCO's] labor costs for the research and development costs." Based on this testimony, the CHO found that PESCO (1) uses a cost accounting method as required by the Act, and (2) informally uses this same method in its other business activities. TRD appeals this decision by the CHO, arguing that the CHO erred in its findings. We reserve discussing additional facts where appropriate for our analysis.

DISCUSSION

{¶6} Under the Act, taxpayers must meet specific requirements to qualify for a tax credit. Section 7-9F-6(A) of the Act provides:

A taxpayer conducting qualified research at a qualified facility and making qualified expenditures is eligible to claim the basic credit pursuant to the . . . Act.

{¶7} Here, the parties do not dispute that PESCO is engaged in qualified research and that the research is being performed at a qualified facility. The parties disagree as to the third requirement of this section, that PESCO is making "qualified expenditures." More specifically, the parties disagree concerning the accounting method used by PESCO to determine whether an expenditure is a "qualified expenditure" under the Act. The Act defines a "qualified expenditure" as

an expenditure or an allocated portion of an expenditure by a taxpayer in connection with qualified research at a qualified facility, including expenditures for depletable land and rent paid or incurred for land, improvements, the allowable amount paid or incurred to operate or maintain a facility buildings, equipment, computer software, computer software upgrades, consultants and contractors performing work in New Mexico, payroll, technical books and manuals and test materials, but not including any expenditure on property that is owned by a municipality or county in connection with an industrial revenue bond project, property for which the taxpayer has received any credit pursuant to the Investment Credit Act, property that was owned by the taxpayer or an affiliate before July 3, 2000 or research and development expenditures reimbursed by a person who is not an affiliate of the taxpayer.

Section 7-9F-3(G). The Act further provides:

If a "qualified expenditure" is an allocation of an expenditure, the cost accounting methodology used for the allocation of the expenditure shall be the same cost accounting methodology used by the taxpayer in its other business activities.

Id. (emphasis added).

{¶8} The issues before us require us to determine whether PESCO satisfied the statutory requirements for its claimed "qualified expenditures"-namely, whether PESCO utilized a cost accounting methodology as prescribed under the Act and whether it used the same methodology in its other business activities. To resolve the matter, we begin by determining the meaning of the term "cost accounting methodology" within the Act, as the Act does not define this term, and we have not previously construed Section 7-9F-3. Consequently, we are presented with a question of first impression.

I. "Cost Accounting Methodology" Under the Act

{¶9} Our review of this issue is de novo. High Desert Recovery, LLC v. N.M. Tax'n & Revenue Dep't, 2022-NMCA-048, ¶ 7, 517 P.3d 258 (reviewing an AHO's interpretation of a statute under de novo review). "When a taxpayer claims an exemption or deduction from a tax, strict rules of construction structure a court's analysis: (1) the court must construe the statute allowing the exemption or deduction in favor of the taxing authority; (2) the statute must clearly and unambiguously express the right to the exemption or deduction; and (3) the taxpayer must clearly establish the right to the exemption or deduction." N.M. Tax'n & Revenue Dep't v. Dean Baldwin Painting, Inc., 2007-NMCA-153, ¶ 12, 174 P.3d 525.

{¶10} In this case, the CHO consulted a number of dictionaries to determine what constitutes a cost accounting method and, informed by those definitions, found that PESCO used an accounting method that was "designed to record and analyze [its] labor costs incident to the research and development projects it was engaged in, and to that extent it constituted a cost accounting method consistent with the plain language meaning of that term, as shown by the dictionary definitions." TRD argues that the CHO left out a "key-element" of the definition-specifically, that a true cost accounting methodology must aid the taxpayer's management in measuring financial performance. We disagree for the reasons that follow.

{¶11} When presented with a question of statutory construction first, "we begin with the plain meaning of the statute's words and construe its provisions together to produce a harmonious whole." Rivera v. Flint Energy, 2011-NMCA-119, ¶ 4, 268 P.3d 525. The text of the statute is the "primary indicator of legislative intent." Bishop v. Evangelical Good Samaritan Soc., 2009-NMSC-036, ¶ 11, 146 N.M. 473, 212 P.3d 361. When a term is not defined in a statute, we must construe it, giving those words "their ordinary meaning absent clear and express legislative intention to the contrary." State v. Johnson, 2009-NMSC-049, ¶ 10, 147 N.M. 177, 218 P.3d 863 (internal quotation marks and citation omitted). In doing so, dictionary definitions may provide guidance about the ordinary meaning of the words at issue. Unified Contractor, Inc. v. Albuquerque Hous. Auth., 2017-NMCA-060, ¶ 72, 400 P.3d 290. The granting of a tax credit represents an act of legislative grace; therefore, the language of the tax credit statute must be construed narrowly. Sec. Escrow Corp. v. N.M. Tax'n & Revenue Dep't, 1988-NMCA-068, ¶ 9, 107 N.M. 540, 760 P.2d 1306. Although a tax credit must be narrowly interpreted, it should be construed reasonably and consistently with legislative intent. Se...