Were Schedule K-1 guaranteed payments to owners of New Mexico partnership-taxed LLCs subject to gross receipts tax when the owners acted as partners on behalf of the businesses?

View original ruling (PDF)

Plain-English summary

Guaranteed payments received by partners for activities undertaken on behalf of their partnerships were not New Mexico gross receipts. The Administrative Hearings Office applied a newly effective interpretive regulation and ordered full abatement of separate assessments against Thomas and Linda Krumland.

The Krumlands owned interests in multiple Colorado LLCs operating New Mexico automobile dealerships, a carwash, an administrative-services company, and a construction business. The LLCs elected partnership treatment for federal income tax purposes and issued Schedule K-1s.

For the audited periods, the businesses reported $2,508,534 of guaranteed payments to the couple: $2,035,438 to Thomas and $473,096 to Linda. The Department assessed gross receipts tax only on those Box 4 guaranteed payments—not on K-1 ordinary business income or distributions.

Thomas's assessment was $136,645.77 tax, $27,329.15 penalty, and $12,097.31 interest, totaling $176,072.23. Linda's was $31,381.43 tax, $6,276.29 penalty, and $2,783.96 interest, totaling $40,441.68.

The K-1 classification created a difficult service question

Federal Section 707(c) describes guaranteed payments as partnership payments to a partner for services or use of capital, determined without regard to partnership income. That classification supported the Department's position that the Krumlands had received consideration for services.

The Krumlands testified that their draws depended on expected profitability rather than time worked. They did not track hours, issue invoices, or value particular activities. Linda's involvement was limited to ownership, and Thomas described his role as ownership and oversight rather than selling services.

But their representative had told the Department during the audit that guaranteed payments compensated “the time, effort and expertise” brought to managing daily LLC operations. The AHO also found it implausible that the payments were reported under Section 707(c) without some understanding that they represented services or use of capital.

The prior version of Regulation 3.2.1.14(S) did not squarely resolve this conflict. Its example exempted a partner compensated for services performed for third-party customers of the partnership. The Krumlands did not show that they performed comparable third-party services.

The Department changed its regulation before the decision

After the hearing, the Department amended Regulation 3.2.1.14(S). Effective September 25, 2018, it said that when a partner receives allocated profits, guaranteed payments, or other distributions for activities undertaken as a partner on behalf of the partnership—including administration solely for the partnership or work for its customers—the receipts are not gross receipts.

The amendment also preserved taxability for a partner separately engaging in business with the partnership while not acting as a partner on its behalf.

That new language directly covered the disputed guaranteed payments and opposed the litigation position the Department had taken in the protest.

Applying the rule was interpretive, not improper retroactivity

The AHO held that the amendment did not change the underlying gross receipts statute. Regulations interpret and implement existing law, and the prior rule had been silent about guaranteed payments rather than contrary to the new rule.

The amendment therefore represented a maturing Department interpretation of what the law had meant during the audited years. Applying that interpretation did not create a new duty, impair a vested right, or attach a new consequence to past transactions. The Krumlands were entitled to its benefit.

Result: protest GRANTED. The Department was ordered to abate all tax, penalty, and interest under both assessments.

What this means for you

Partners receiving guaranteed payments

The legal result turned on whether the recipient acted as a partner on behalf of the partnership. The regulation distinguished those receipts from separate transactions in which the owner independently did business with the entity.

Partnership-taxed LLCs

K-1 labels, operating agreements, payment formulas, time records, invoices, and the owner's actual role can all matter when characterizing owner payments. Keep those records consistent with the intended treatment.

Owners providing separate services to their companies

Do not assume every payment from an owned entity is protected. The regulation expressly said that transactions remain gross receipts when the partner acts in a separate business capacity rather than on behalf of the partnership as a partner.

Taxpayers facing a rule change during a protest

An agency's later rule may apply to earlier facts when it interprets unchanged law rather than creates new law. The AHO analyzed the specific rule's text, prior silence, and implementing authority before reaching that conclusion.

Common questions

Q: Were ordinary partnership income and distributions assessed?
A: No. The Department assessed only the K-1 guaranteed payments reported in Box 4.

Q: Why did Section 707(c) initially support the Department?
A: It treats guaranteed payments as payments for services or use of capital for specified federal tax purposes. That classification conflicted with the taxpayers' claim that they were only owners receiving business income.

Q: What did the September 25, 2018 regulation say?
A: Guaranteed payments and other partner receipts for activities undertaken as a partner on behalf of the partnership are not gross receipts. Separate business transactions between a partner and partnership remain taxable.

Q: Was the regulation applied retroactively?
A: The AHO characterized it as interpretive of unchanged law, not a new rule imposing new consequences on past conduct. It therefore applied the interpretation to the audited periods.

Q: Did the decision depend on the Krumlands providing services to third parties?
A: No. The prior example focused on third-party services, but the amended rule also covered administrative activities done solely for the partnership.

Q: What amounts were abated?
A: All tax, penalty, and interest under Thomas's $176,072.23 assessment and Linda's $40,441.68 assessment.

Citations and references

Statutes and regulation:

• NMSA 1978, §§ 7-9-4 and 7-9-5 — gross receipts tax and taxable-receipts presumption
• NMSA 1978, § 7-9-3(M) — definition of service
• NMSA 1978, § 7-9-17 — employee-remuneration exemption discussed
• NMSA 1978, §§ 7-1-17 and 7-1-3 — assessment presumption and tax including penalty and interest
• NMSA 1978, § 9-11-6.2(A) and (G) — regulation authority and proper-implementation presumption
• NMSA 1978, §§ 7-1B-6(D)(2) and 7-1B-7(A) — AHO's adjudicative role and policy limitation
• Regulation 3.2.1.14(S)(2) NMAC, effective September 25, 2018 — partner guaranteed payments and other partner receipts
• 26 U.S.C. § 707(c) — federal guaranteed-payment treatment

Cases cited:

• Amoco Production Co. v. New Mexico Taxation & Revenue Department, 2003-NMCA-092 — an interpretive agency ruling explains obligations under existing law
• GEA Integrated Cooling Technologies v. State Taxation & Revenue Department, 2012-NMCA-010 — retrospective-effect analysis

Source

• Listing: New Mexico Decisions & Orders
• Decision post: Thomas W and Linda L Krumland
• Decision PDF: D&O 18-30

Original ruling text

STATE OF NEW MEXICO
ADMINISTRATIVE HEARINGS OFFICE
TAX ADMINISTRATION ACT

IN THE MATTER OF THE PROTEST OF
THOMAS W. & LINDA L. KRUMLAND
TO ASSESSMENTS ISSUED UNDER
LETTER ID NOs L0778505776 & L1315376688

v. D&O 18-30

NEW MEXICO TAXATION AND REVENUE DEPARTMENT

DECISION AND ORDER

A hearing in the above-captioned protest occurred on May 29, 2018 before Chris Romero,

Esq., Hearing Officer, in Santa Fe, New Mexico. Mr. Joe Lennihan, Esq., appeared representing

Mr. Thomas W. and Ms. Linda L. Krumland (hereinafter collectively referred to as “Taxpayers”

or “Taxpayer”). Taxpayers appeared in person and testified on their own behalf. Mr. Richard

Anklam, Dr. Tom Clifford, Mr. Frank Crociata, Mr. James Dubeck, and Mr. Benjamin Roybal

appeared and testified on Taxpayers’ behalf. Mr. Ed Heldenbrand also appeared, but was not called

to testify.

Mr. Marek Grabowski, Esq., appeared representing the Taxation and Revenue Department

of the State of New Mexico (hereinafter “Department”) and was accompanied by Ms. Alicia

Beltran, auditor, who testified on behalf of the Department.

Taxpayer Exhibits 0 through 7 and Department Exhibits A and Z, with exception of

Exhibits I, V and Y, were admitted into the evidentiary record. All exhibits are described in the

Administrative Exhibit Log. Based on the evidence and arguments presented, IT IS DECIDED

AND ORDERED AS FOLLOWS:
FINDINGS OF FACT

Procedural History

1. On August 1, 2016, the Department assessed Taxpayer, Thomas W. Krumland, the

amounts of $136,645.77 in gross receipts tax, $27,329.15 in gross receipts tax penalty, and

$12,097.31 in gross receipts tax interest, for a total assessment in the amount of $176,072.23 under

Letter ID No. L0778505776 for the periods from June 30, 2009 through June 30, 2015. [See

Administrative File].

2. On August 1, 2016, the Department assessed Taxpayer, Linda L. Krumland, the

amounts of $31,381.43 in gross receipts tax, $6,276.29 in gross receipts tax penalty, and $2,783.96

in gross receipts tax interest, for a total assessment in the amount of $40,441.68 under Letter ID

No. L1315376688 for the periods from June 30, 2009 through June 30, 2015. [See Administrative

File].

3. On September 8, 2016, Taxpayers, by and through Mr. Duwayne Sibley (Moss

Adams LLP), executed formal protests of the assessments under Letter ID No. L0778505776 and

Letter ID No. L1315376688. [See Administrative File].

4. On September 21, 2016, the Department acknowledged receipt of Taxpayer,

Thomas W. Krumland’s protest, under Letter ID No. L0947666480. [See Administrative File].

5. On September 21, 2016, the Department acknowledged receipt of Taxpayer, Linda

L. Krumland’s protest under Letter ID No. L0653368880. [See Administrative File].

6. On September 26, 2016, the Department filed Hearing Requests in reference to both

protests. It requested that the protests be consolidated and that initial scheduling hearings be set

for the purpose of identifying dates for hearings on the merits of Taxpayers’ protests and

establishing other associated prehearing deadlines. [See Administrative File].

In the Matter of Thomas W. and Linda L. Krumland
Page 2 of 32

7. On September 28, 2016, the Administrative Hearings Office entered separate

Notices of Telephonic Scheduling Conference that set separate telephonic scheduling hearings on

both protests for October 28, 2016. [See Administrative File].

8. On October 28, 2016, two telephonic scheduling hearings occurred at which time

the parties did not object that the hearings were within 90 days of the date of Taxpayers’ protests

and that the hearings satisfied the 90-day hearing requirement. [See Administrative File].

9. On October 31, 2016, the Administrative Hearings Office entered separate

Scheduling Orders and Notices of Administrative Hearing, which in addition to establishing

various prehearing deadlines, set two separate hearings on the merits of Taxpayers’ protests for

February 14, 2017. [See Administrative File].

10. On November 18, 2016, Taxpayer, by and through Mr. Steven Keene (Moss Adams

LLP), filed a Motion to Consolidate Assessments. [See Administrative File].

11. On November 21, 2016, the Administrative Hearings Office entered a

Consolidation Order, Scheduling Order and Notice of Administrative Hearing which consolidated

Taxpayers’ protests and merged the hearings set to occur on February 14, 2017. [See

Administrative File].

12. On January 23, 2017, the parties filed a Joint Motion to Enter Amended Scheduling

Order in which the parties sought a continuance of the hearing set for February 14, 2017. [See

Administrative File].

13. On January 24, 2017, the Administrative Hearings Office entered a Continuance

Order, Notice of Reassignment, Amended Scheduling Order and Amended Notice of

Administrative Hearing which continued the previously scheduled hearing to June 29, 2017 and

assigned the consolidated protests to the undersigned Hearing Officer. [See Administrative File].

In the Matter of Thomas W. and Linda L. Krumland
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14. On April 14, 2017, the Department filed a Joint Motion to Vacate Hearing and Hold

Matter in Abeyance. [See Administrative File].

15. On May 3, 2017, the Administrative Hearings Office entered an Order Holding

Matter in Abeyance which also vacated the hearing set for June 29, 2017. [See Administrative

File].

16. On August 16, 2017, the Department filed a Request for Hearing indicating that the

consolidated protest was ready for a hearing on the merits. [See Administrative File].

17. On August 23, 2017, the Administrative Hearings Office entered an Order Lifting

Abeyance, Scheduling Order and Notice of Administrative Hearing, which in addition to various

other deadlines, set a hearing on the merits of the protest for April 2, 2018. [See Administrative

File].

18. On December 11, 2017, Taxpayers’ counsel of record filed an Entry of Appearance.

[See Administrative File].

19. On December 26, 2017, Taxpayers filed a Certificate of Service relevant to

Protestants’ First Joint Set of Interrogatories, Requests to Admit and Request for Production of

Documents. [See Administrative File].

20. On January 16, 2018, the Department filed a Certificate of Service relevant to

Department’s First Set of Requests for Admission, Interrogatories and Requests for Production.

[See Administrative File].

21. On January 18, 2018, the Department filed a Certificate of Service relevant to

Department’s Responses to Protestants’ First Joint Set of Interrogatories, Requests to Admit and

Request for Production of Documents. [See Administrative File].

22. On February 20, 2018, Taxpayer filed a Motion to Continue Discovery Deadline

In the Matter of Thomas W. and Linda L. Krumland
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and Formal Hearing. [See Administrative File].

23. On February 28, 2018, the Administrative Hearings Office entered a Continuance

Order and Amended Notice of Administrative Hearing which in addition to establishing other

associated deadlines, set a hearing on the merits of the consolidated protest for May 29, 2018. [See

Administrative File].

24. On February 28, 2018, Taxpayers filed a Certificate of Service relevant to their

responses and objections to the Department’s First Set of Requests for Admission, Interrogatories

and Requests for Production. [See Administrative File].

25. On May 9, 2018, the Administrative Hearings Office issued Administrative

Subpoenas requiring the following individuals to appear to testify in the above-captioned protest:

(1) Mr. Richard Anklam (New Mexico Tax Research Institute); (2) Mr. Frank Crociata (Gallagher

& Kennedy); and (3) Dr. Tom Clifford (Department). The subpoenas were issued upon Taxpayers’

request. [See Administrative File].

26. On May 14, 2018, Taxpayer filed an Unopposed Motion for Extension of Time to

File Prehearing Statement. [See Administrative File].

27. On May 17, 2018, the parties filed a Joint Prehearing Statement. [See

Administrative File].

28. On May 19, 2018, the parties appeared as scheduled to address the merits of the

protest. [See Record of Hearing].

29. On June 29, 2018, Taxpayer filed Protestants’ Summation. [See Administrative

File].

30. On June 29, 2018, the Department filed New Mexico Taxation and Revenue

Department’s Proposed Findings of Fact and Conclusions of Law, and New Mexico Taxation and

In the Matter of Thomas W. and Linda L. Krumland
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Revenue Department’s Closing Argument. [See Administrative File].

31. On June 29, 2018, Taxpayer filed its Proposed Finding of Fact and Conclusions of

Law and Protestants’ Summation. [See Administrative File].

32. On July 20, 2018, Taxpayer filed its Notice of Supplemental Authority suggesting

that the merits of the protest might be resolved by the promulgation of a rule under consideration

by the Department. [See Administrative File].

33. On July 25, 2018, the Department filed New Mexico Taxation and Revenue

Department’s Response to Notice of Supplemental Authority. [See Administrative File].

Background to Taxpayers’ Businesses

34. Mr. Thomas W. Krumland and Ms. Linda L. Krumland are married. They reside in

Roswell, N.M. and have three adult children. [Testimony of Mr. Krumland].

35. Taxpayers’ have engaged in business on their own and in partnership with other

persons and entities, particularly Enchantment Equities, LLLP, and Mr. Joe Reiser. [Testimony of

Mr. Krumland].

36. As of the date of the hearing, Mr. Reiser is no longer active with the businesses

discussed herein. [Testimony of Mr. Krumland].

37. In 2002, Taxpayers formed Enchantment Equities, LLLP, a Colorado limited

liability limited partnership. Mr. and Mrs. Krumland each own a 5 percent interest in Enchantment

Equities. [Testimony of Mr. Krumland].

38. The Krumland Family Trust (“Krumland Trust”) owns the remaining 90% interest

in Enchantment Equities. Ms. Magdolena Krumland, Mr. Krumland’s mother, established the

Family Trust in 2002, appointing Mr. Krumland as Family Trustee, and Mr. Robert A. Lembke as

Independent Trustee. [Testimony of Mr. Krumland; Department Exhibit W].

In the Matter of Thomas W. and Linda L. Krumland
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39. Mr. Krumland and Ms. Krumland are the primary beneficiaries of the Krumland

Trust. Taxpayers’ adult children are successor beneficiaries upon Taxpayers’ deaths, as established

by the terms and conditions of the Krumland Trust. [Testimony of Mr. Krumland; Department

Exhibit W].

40. The Independent Trustee does not actively engage in managing the Krumland

Trust, but rather monitors the activities of the Trustee, Mr. Krumland. [Testimony of Mr.

Krumland; See Department Exhibit W].

41. Taxpayers’ adult children have no present-day involvement in the operation of the

Krumland trust. [Testimony of Mr. Krumland; See Department Exhibit W].

Krumland Businesses

42. Taxpayers own several automobile dealerships, a construction business, and a

carwash. As of the date of the audit, Taxpayers owned six dealerships, which increased to a total

of seven as of the date of the hearing. [Testimony of Mr. Krumland].

43. Taxpayers’ businesses are each owned and operated by and through their own

separate and distinct business entities, which in all cases are limited liability companies established

in the State of Colorado. Each business pays gross receipts taxes in accordance with New Mexico

law, and in the case of each automobile dealership, applicable excise taxes:

a. Jet Equities, LLC operates Roswell Hyundai:

1. Ownership of Jet Equities, LLC is divided among its members as

follows: Ms. Krumland owns 5 percent; Mr. Krumland owns 5 percent, Enchantment Equities

owns 80 percent; and Mr. Joe Reiser owns 10 percent.

2. Mr. Krumland is designated as the managing member of Jet

Equities, LLC.

In the Matter of Thomas W. and Linda L. Krumland
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[See Department Exhibit P]

b. The Krumland Company, LLC operates Roswell Toyota:

1. Ownership of The Krumland Company, LLC is divided among its

members as follows: Ms. Krumland owns 10 percent; Mr. Krumland owns 80 percent, and Mr. Joe

Reiser owns 10 percent.

2. Mr. Krumland is the managing member of The Krumland Company,

LLC.

[See Department Exhibit S]

c. T&L Motors, LLC operates Roswell Honda:

1. Ownership of T&L Motors, LLC is divided among its members as

follows: Ms. Krumland owns 45 percent; Mr. Krumland owns 45 percent; and Mr. Joe Reiser owns

10 percent.

2. Mr. Krumland is designated as the managing member of T&L

Motors, LLC.

[See Department Exhibit U]

d. Rock Star, LLC operates Roswell Nissan:

1. Ownership of Rock Star, LLC is divided among its members as

follows: Ms. Krumland owns 5 percent; Mr. Krumland owns 5 percent; Enchantment Equities,

LLLP owns 80 percent; and Mr. Joe Reiser owns 10 percent.

2. Mr. Krumland is designated as the managing member of Rock Star,

LLC.

[See Department Exhibit R]

e. TK, LLC operates Carlsbad Chevrolet:

In the Matter of Thomas W. and Linda L. Krumland
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1. Ownership of TK, LLC is divided as follows: Ms. Krumland owns

5 percent; Mr. Krumland owns 5 percent; Enchantment Equities, LLLP owns 80 percent; and Mr.

Joe Reiser owns 10 percent.

2. Mr. Krumland is designated as the managing member of Rock Star,

LLC.

[See Department Exhibit T]

f. Kars, LLC operates Carlsbad Ford Lincoln

1. Ownership of Kars, LLC is divided among its members as follows:

Ms. Krumland owns 5 percent; Mr. Krumland owns 5 percent; Enchantment Equities, LLLP owns

80 percent; and Mr. Joe Reiser owns 10 percent.

2. Mr. Krumland is designated as the managing member of Kars, LLC.

[See Department Exhibit N]

g. Platt, LLC operates Kleen Kar Wash:

1. Ownership of Platt, LLC is divided among its members as follows:

Ms. Krumland owns 5 percent; Mr. Krumland owns 5 percent; and Enchantment Equities, LLLP

owns 90 percent.

2. Mr. Krumland is designated as the managing member of Platt, LLC.

[See Department Exhibit Q]

h. Krumland Auto Group, LLC provides administrative services to the various

dealerships.

1. Ownership of Krumland Auto Group, LLC is divided among its

members as follows: Ms. Krumland owns 5 percent; Mr. Krumland owns 5 percent; and

Enchantment Equities, LLLP owns 90 percent.

In the Matter of Thomas W. and Linda L. Krumland
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2. Mr. Krumland is designated as the managing member of Krumland

Auto Group, LLC.

[See Department Exhibit M]

i. Linda Chavez Krumland Construction, LLC operates TNT Construction

Company. It was established to provide construction services for the various dealerships, but also

provides services for other, unrelated parties. [Testimony of Mr. Krumland].

1. Ownership of Linda Chavez Krumland Construction, LLC is

divided among its members as follows: Ms. Krumland owns 51 percent; Mr. Krumland owns 5

percent; and Enchantment Equities, LLLP owns 44 percent.

2. Mr. Krumland is designated as the managing member of Linda

Chavez Krumland Construction, LLC.

[See Department Exhibit O]

44. Taxpayers are not generally involved in the daily operation or management of the

several businesses. Rather, each business employs managers and other employees to oversee its

day-to-day operations. [Testimony of Mr. Krumland; Testimony of Ms. Krumland].

45. Mr. Krumland perceives his primary role within the auto dealerships as an

ambassador to the auto manufacturers with which they conduct business. His next most significant

function is to deploy capital for the benefit of the various businesses. [Testimony of Mr.

Krumland].

46. Taxpayers receive income from the various businesses by drawing sums of money

against future profits. Future profits are estimated by evaluating variables effecting profitably,

including the state of the overall economy, oil prices, or other variables. [Testimony of Mr.

Krumland].

In the Matter of Thomas W. and Linda L. Krumland
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47. The specific amount of any particular draw is unrelated to the amount of work

Taxpayer may perform for the benefit of any particular business. [Testimony of Mr. Krumland].

48. Taxpayers have drawn income from businesses such as Platt, LLC which Taxpayers

tend to frequent most regularly as patrons, rather than owners, because their involvement with the

business is minimal. In contrast, Mr. Krumland has not drawn income from Linda Chavez

Krumland Construction, LLC to which Mr. Krumland has devoted significant time, but whose

profitability is more volatile and unpredictable. [Testimony of Mr. Krumland].

49. Mr. Krumland does not perceive himself as an employee, contractor, or an

individual engaged in the business of providing services, to his businesses. Rather, he is an owner

of his businesses relying on them to generate income. [Testimony of Mr. Krumland; Testimony of

Ms. Krumland].

50. To the extent he devotes time to the operation of any businesses, Mr. Krumland

does not track his time, invoice the businesses, or attempt to establish a monetary value for

activities that might benefit any of the several businesses. [Testimony of Mr. Krumland; Testimony

of Ms. Krumland].

51. Mr. Krumland has never received a Form 1099 for any work performed for the

benefit of any of the businesses, nor has he ever received an equity interest from any of the

businesses as consideration for work performed. [Testimony of Mr. Krumland].

52. Taxpayers are personally obligated for the liabilities of the various businesses.

[Testimony of Mr. Krumland].

53. There have been occasions where Taxpayers have not drawn any money from a

business, regardless of the amount of work performed for the business. Mr. Krumland described

himself as very conservative and careful to draw funds from a business that may need to retain

In the Matter of Thomas W. and Linda L. Krumland
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them to cover future operating expenses. [Testimony of Mr. Krumland].

54. Taxpayers characterized those draws as “guaranteed payments” on their Forms

Schedule K-1 (IRS Form 1065). [See Department Exhibits A; B; E; F; I; J; K; L].

55. Ms. Krumland is not personally involved in the operation of any of the businesses.

Her involvement is strictly limited to ownership. [Testimony of Ms. Krumland].

Tax Reporting

56. For the years relevant to the protest, Taxpayers elected to treat the limited liability

companies as partnerships for federal income tax purposes, and Taxpayers’ businesses issued

Schedule K-1s for the relevant periods at issue. [See Department Exhibits A; B; E; F; I; J; K; L].

57. Schedule K-1s generally indicated that during each relevant year, Taxpayers

received Ordinary Business Income (Box 1), Guaranteed Payments (Box 4), and Distributions

(Box 19). [See Department Exhibits A; B; E; F; I; J; K; L].

58. Taxpayers tax reporting established that the businesses paid them the collective

sum of $2,508,534.00 in guaranteed payments during the periods relevant to the protest. Mr.

Krumland received $2,035,438.00 and Ms. Krumland received $473,096.00 in guaranteed

payments. [See Department Exhibits B; F; I; J; K, and L].

59. The Hearing Officer identified the following error which caused the amount of

underreported gross receipts to slightly vary from the amounts giving rise to the assessments:

a. In 2014, Ms. Krumland received a guaranteed payment in the amount of

$20,400.00 from Platt, LLC. [See Department Exhibit I-0020 (Box 4)]. However, when the

Department input that amount into its computation, it appears it erroneously input the amount as

$20,000.00 [See Department Exhibit F-0005]. The result was a $400 discrepancy in the total

amount purportedly representing under reported gross receipts, excluding tax. [See Department

In the Matter of Thomas W. and Linda L. Krumland
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Exhibit F-0004]. Accordingly, Ms. Krumland’s alleged unreported gross receipts, excluding tax,

is $473,096.00, not $472,696.00, as stated at Department Exhibit F-0004.

60. The Department assessed gross receipts tax on Taxpayers’ receipts deriving from

guaranteed payments only. [See Department Exhibit A; Department Exhibit E].

61. Taxpayers were not assessed gross receipts tax on their receipt of the ordinary

business income or distributions as listed in Box 1 or Box 19 of the Form Schedule K-1. [See

Department Exhibit A; Department Exhibit E].

62. Taxpayers could not explain why their accountant identified payments as

“guaranteed payments” on the Schedule K-1s. Taxpayers disclaimed any understanding of the

relevant provisions of the Internal Revenue Code, and relied on the expertise of their certified

public accountant to report and pay their taxes. [Testimony of Mr. Krumland].

63. Taxpayers paid federal income taxes on their personal income from their various

businesses.

Testimony Regarding Tax Policy

64. Tom Clifford is a tax policy advisor under contract with the Department. He reports

directly to the cabinet secretary. He formerly served at the Department in various capacities,

including chief economist and tax policy director. He was also employed by the department of

finance and administration. [Testimony of Dr. Clifford].

65. On various occasions, Dr. Clifford testified before the New Mexico State

Legislature. On a least one occasion, he testified in support of a policy that the state of New Mexico

should not impose gross receipts tax on income generated by a partnership and subsequent

payments from the partnership to its partners as guaranteed payments. [Testimony of Dr. Clifford].

66. The policy that Dr. Clifford advocated has been the position of the state for several

In the Matter of Thomas W. and Linda L. Krumland
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decades. [Testimony of Dr. Clifford].

67. Dr. Clifford has participated in discussions with the Department over the course of

his career in which he advised that such payments should not be taxable. [Testimony of Dr.

Clifford].

68. Dr. Clifford is not aware of any written rule implementing the policy that

guaranteed payments should not be taxable although various regulations and statutes may form the

basis for a more complicated evaluation that would establish the exemption of guaranteed

payments. [Testimony of Dr. Clifford].

69. Dr. Clifford has never provided guidance on the taxability of guaranteed payments

to any taxpayer, nor is he aware of any such guidance being put in writing by any person inside

the Department. [Testimony of Dr. Clifford].

70. Mr. Frank Crociata is a former employee of the Department. He served as an

attorney in the legal services bureau and as tax policy director during the tenures of former

secretary, Ms. Demesia Padilla, and current secretary, Mr. John Monforte. [Testimony of Mr.

Crociata].

71. Mr. Crociata recalled addressing the question of guaranteed payments when a bill

was introduced in the state legislature that would have purportedly exempted guaranteed payments

from gross receipts taxation. [Testimony of Mr. Crociata].

72. Mr. Crociata recalled there being some agreement with respect to the taxability of

guaranteed payments and believed that the Department may have been evaluating a regulation that

would have more clearly expressed its policy. [Testimony of Mr. Crociata].

73. Mr. Crociata, in his capacity as an employee of the Department, never provided any

guidance on the taxability of guaranteed payments to any taxpayer. [Testimony of Mr. Crociata].

In the Matter of Thomas W. and Linda L. Krumland
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74. In his capacity as tax policy director, Mr. Crociata expressed his policy position

that guaranteed payments should not be subject to gross receipts tax.

75. Mr. Richard Anklam is the director of the New Mexico Tax Research Institute. He

was also formerly employed by the Department as an auditor and assistant secretary director of

tax policy. [Testimony of Mr. Anklam].

76. Mr. Anklam’s recollection during his time with the Department was that it did not

assess gross receipts taxes on guaranteed payments. [Testimony of Mr. Anklam].

DISCUSSION

The primary issue in this protest concerns whether a partner’s income from “guaranteed

payments”, as reported by the partnership on IRS Form, Schedule K-1, are subject to the gross

receipts tax for which the recipient partner may be liable. A coherent analysis of the issue begins

with relevant provisions of the Internal Revenue Code, and establishing why “guaranteed

payments” may be perceived differently than a partner’s ordinary business income, or income from

distributions, from the partnership. The analysis will conclude with discussion of the Department’s

new rule addressing the “guaranteed payments”, which took effect on September 25, 2018.

In this protest, Taxpayers received ordinary business income and income from distributions

in all relevant years. Income from those sources did not contribute to the relevant assessments.

Rather, only income from “guaranteed payments” resulted in assessments of gross receipts tax.

The Department asserts that Taxpayers’ are liable for gross receipts tax on “guaranteed payments”

because those payments were made in consideration for services. In contrast, Taxpayers assert that

receipts from “guaranteed payments” should be treated no differently from ordinary business

income or income from distributions.

In the Matter of Thomas W. and Linda L. Krumland
Page 15 of 32
The first phase of the legal analysis requires a general comprehension of the meaning and

significance of “guaranteed payments.” Section 707 (c) of the Internal Revenue Code provides,

that “[t]o the extent determined without regard to the income of the partnership, payments to a

partner for services or the use of capital shall be considered as made to one who is not a member

of the partnership, but only for the purposes of section 61(a) [26 USCS §61(a)] (relating to gross

income) and, subject to section 263 [26 USCS §263], for purposes of section 162(a) [26 USCS

§126(a)] (relating to trade or business expenses).” See 26 USCS Section 707(c).

In other words, “guaranteed payments” are payments made by a partnership, to a partner,

as compensation for services, or use of capital, without regard for the income of the partnership,

or the partner’s proportionate ownership interest in the entity.

From the perspective of the partnership, “guaranteed payments” may be deductible as an

ordinary or necessary business expense under 26 USCS Section 126(a). Id.; See also e.g. IRS Form

1065, Line 10. From the perspective of the partner, the “guaranteed payment” is treated as ordinary

income. But the significance of this device does not end there. The most noteworthy distinction is

the requirement that “guaranteed payments,” if made, be made as compensation for services or for

use of capital.

It is also useful to recognize that a partner receiving guaranteed payments consistent with

Section 707(c) might realize various tax benefits, which at a minimum could result in decrease to

a taxpayer’s adjusted gross income, thereby reducing a taxpayer’s income tax obligation.

For example, “guaranteed payments” may permit a managing member of a partnership or

limited liability company to reduce his or her personal tax liability by availing themselves of the

self-employment tax deduction, which deducts the employer-equivalent share of the self-

In the Matter of Thomas W. and Linda L. Krumland
Page 16 of 32
employment tax from the taxpayer’s gross income. 1 This deduction represents one half, or 50

percent, of the self-employment tax as a necessary and ordinary business expense. [See Instructions

for Form 1040, Line 27; and Schedule SE, Line 6 or Line 13]. If the current self-employment tax

rate is 15.3 percent 2, this “above-the-line” deduction may confer significant benefit toward

reducing a taxpayer’s income tax liability at the federal and state levels, considering that the

starting point for determining personal income tax liability in New Mexico is an individual’s

adjusted gross income as determined at the federal level. See NMSA 1978, Section 7-2-2; See also

Holt v. N.M. Dep’t of Taxation & Revenue, 2002-NMSC-034, ¶23, 133 N.M. 11, 59 P.3d 491.

If there was any particular benefit Taxpayers sought by receiving compensation through

“guaranteed payments” under the facts of this protest, it remained uncertain. Mr. Krumland

testified that he did not know why Taxpayers’ accepted compensation in the form of guaranteed

payments and the Hearing Officer will not speculate regarding Taxpayers’ underlying motivations

or tax strategies.

However, the Hearing Officer perceived the Taxpayers to be sophisticated entrepreneurs

with a remarkable history of professional and financial accomplishment. The Hearing Officer was

simply not persuaded that Taxpayers were genuinely uninformed or ignorant of the benefits they

expected to achieve by receiving a portion of their income through “guaranteed payments.”

Of course, it is also plausible that Taxpayers do rely entirely on the advice of their tax

professionals. However, Taxpayers’ similarly did not present themselves as people who would

fully entrust their financial wellbeing to others without scrutiny and due diligence. Nevertheless,

1
https://www.irs.gov/businesses/small-businesses-self-employed/self-employment-tax-social-security-and-
medicare-taxes
2
Id.

In the Matter of Thomas W. and Linda L. Krumland
Page 17 of 32
to the extent Mr. Krumland was not qualified to address the complexities of the Internal Revenue

Code, and particularly 26 USCS Section 707(c), one of Taxpayers’ accountants did appear with

Taxpayers, but was never called to testify.

Perhaps a clearer understanding of Taxpayers’ underlying motivations is unnecessary. The

Hearing Officer will infer that Taxpayers’ receipt of the “guaranteed payments” was consistent,

and in accord, with 26 USCS Section 707(c), meaning that Taxpayers received “guaranteed

payments” as compensation “for services or the use of capital.” Clearly, Section 707(c) does not

permit guaranteed payments for any other purpose.

Observing the same facts from a slightly different perspective, Mr. Krumland, in his

capacity of managing member for the various limited liability companies, made “guaranteed

payments” to himself and Ms. Krumland, in their capacities as individual members of the several

limited liability companies, presumably aware of the law regarding “guaranteed payments” and

their purpose. Mr. Krumland, in particular, did so from the vantage point of the relevant

partnership, as well as from the individual partner. Any assertion that Mr. Krumland in his capacity

as managing member, or Taxpayers as individual members, expended or received “guaranteed

payments” with complete ignorance or unfamiliarity of the law is implausible.

Therefore, “guaranteed payments” were made by the partnership to the partners in

consideration for services or use of capital. The next issue concerns whether “guaranteed

payments,” if received in exchange for services or use of capital, and otherwise consistent with the

requirements of 26 USCS Section 707(c), are taxable as gross receipts pursuant to the Gross

Receipts and Compensating Tax Act. Since the parties’ evidence and argument concentrated on

the provision of services, rather than use of capital, further analysis will similarly focus on services.

Burden of Proof

In the Matter of Thomas W. and Linda L. Krumland
Page 18 of 32
Assessments by the Department are presumed to be correct. See NMSA 1978, Section 7-

1-17. Tax includes, by definition, the amount of tax principal imposed, and unless the context

otherwise requires, “the amount of any interest or civil penalty relating thereto.” See NMSA 1978,

Section 7-1-3. See also El Centro Villa Nursing Ctr. v. Taxation & Revenue Dep't, 1989-NMCA-

070, 108 N.M. 795, 779 P.2d 982. Therefore, the assessment issued to Taxpayer is presumed to be

correct, and it is Taxpayer’s burden to present evidence and legal argument to show that it is

entitled to an abatement.

The burden is also on Taxpayer to prove that it is entitled to an exemption or deduction, if

one should potentially apply. See Pub. Serv. Co. v. N.M. Taxation & Revenue Dep't, 2007-NMCA-

050, ¶141 N.M. 520, 157 P.3d 85; See also Till v. Jones, 1972-NMCA-046, 83 N.M. 743, 497 P.2d

745. “Where an exemption or deduction from tax is claimed, the statute must be construed strictly

in favor of the taxing authority, the right to the exemption or deduction must be clearly and

unambiguously expressed in the statute, and the right must be clearly established by the taxpayer.”

See Sec. Escrow Corp. v. State Taxation & Revenue Dep't, 1988-NMCA-068, ¶8, 107 N.M. 540,

760 P.2d 1306. See also Wing Pawn Shop v. Taxation & Revenue Dep't, 1991-NMCA-024, ¶16,

111 N.M. 735, 809 P.2d 649. See also Chavez v. Comm’r of Revenue, 1970-NMCA-116, ¶7, 82

N.M. 97, 476 P.2d 67.

Gross Receipts Tax

For the privilege of engaging in business, New Mexico imposes a gross receipts tax on the

receipts of any person engaged in business. See NMSA 1978, Section 7-9-4 (2002). “Engaging in

business” is defined as “carrying on or causing to be carried on any activity with the purpose of

direct or indirect benefit.” See NMSA 1978, Section 7-9-3.3 (2003).

In the Matter of Thomas W. and Linda L. Krumland
Page 19 of 32
Under the Gross Receipts and Compensating Tax Act, there is a statutory presumption that

all receipts of a person engaged in business are taxable. See NMSA 1978, Section 7-9-5 (2002).

Despite the general presumption of taxability, a taxpayer may qualify for the benefits of various

deductions and exemptions.

At all relevant times to this protest, Taxpayers were engaged in business in New Mexico, by

and through their various limited liability companies. However, their various companies are not

subject of this assessment or protest. Rather, the relevant inquiry is whether the individual Taxpayers

were also engaged in business. Having determined that Taxpayers’ several businesses made

“guaranteed payments” in accord with 26 USCS Section 707(c), the next issue to contemplate is

whether Taxpayer received “guaranteed payments” in exchange for services or use of capital.

Considering that Mr. Krumland acted on behalf of the various businesses as managing

member, the Hearing Officer infers that when he authorized a “guaranteed payment”, he did so with

some general understanding of 26 USCS Section 707(c), and that he similarly accepted it with the

same understanding, in his capacity as an individual member of the business. The same inference

applies to Ms. Krumland. Although she may not have the same degree of involvement as Mr.

Krumland, he testified that Ms. Krumland does not get paid, unless he pays her.

This would suggest that the acceptance of “guaranteed payments,” with a general

understanding of their legal significance, is tantamount to an admission that Taxpayers’ performed

services, as defined by Section 7-9-3 (M). However, Taxpayers expressly denied the assertion that

they were engaged in the business of selling services to their businesses. This denial creates a palpable

dilemma. Either the “guaranteed payments” were not made in accordance with the requirements of

Section 707(c), or Taxpayers should be permitted to adopt inconsistent positions in which they accept

“guaranteed payments” for services consistent with requirements of Section 707(c), but subsequently

In the Matter of Thomas W. and Linda L. Krumland
Page 20 of 32
deny they performed services for the purpose of Section 7-9-4. 3 The Hearing Officer resolves this

dilemma by rejecting any suggestion that Section 707(c) was misemployed. Therefore, the Hearing

Officer will address the significance of Taxpayers’ inconsistent positions: that Taxpayers’ evidently

accepted “guaranteed payments” as compensation for services, but subsequently denied the

performance of services in exchange for “guaranteed payments.”

The term, “service” is defined at NMSA 1978, Section 7-9-3 (M) to mean “all activities

engaged in for other persons for a consideration, which activities involve predominantly the

performance of a service as distinguished from selling or leasing property.” (Emphasis Added).

After contemplation and consideration of the evidence, the Hearing Officer is persuaded that

the “guaranteed payments” were never intended to compensate Taxpayers for services rendered to

the various businesses. Taxpayers were clear, and the Hearing Officer was persuaded, that the actual

activities they performed were more akin with ownership and oversight, than employment or selling

services.

However, offsetting the weight of evidence supporting that conclusion are the facts which

establish that the “guaranteed payments” were indeed made for that very purpose. Had they not, then

they may have conflicted with 26 USCS Section 707(c). Tilting the balance slightly in favor of the

Department are the statements of Taxpayers’ representatives which were made to the Department

during the audit, indicating that Taxpayers’ “received guaranteed payments for the time, effort and

expertise they bring in managing the day to day operation of the LLC.” See Department Exhibit D-

7. 4 This statement, made by Taxpayers’ representative during the audit weighs in the

3
Perhaps the dilemma is a creature of the State, which is subsequently resolved by the Department’s clarification or
refinement of its interpretation of controlling law.
4
Although the Rules of Evidence do not apply to hearings under the Administrative Hearings Office Act (See
NMSA 1978, Section 7-1B-6 D (2)), this statement is not hearsay pursuant to NMRA 2017, Rule 11-801 D (2).

In the Matter of Thomas W. and Linda L. Krumland
Page 21 of 32
Department’s favor because it also suggests that Taxpayers engaged in “all activities [‘time, effort

and expertise they bring in managing’)] … for other persons [Taxpayers’ various businesses] for a

consideration [‘guaranteed payment’ as permitted by 26 USCS Sec. 707(c)], which activities involve

predominantly the performance of a service as distinguished from selling or leasing property.” See

Section 7-9-3 (M).

The Department also points to various similar statements made by Taxpayers’ attorney in

responses to its discovery requests. However, the Hearing Officer perceives those statements with

more scrutiny. As a general rule, “statements of counsel are not evidence.” See State v. Garcia, 1978-

NMCA-109, ¶4, 92 N.M. 730, 594 P.2d 1186. Moreover, and most significantly, there is no indication

from the responses that Taxpayers reviewed or verified their accuracy in the form of a sworn

verification. See e.g. NMRA 2017, Rule 1-033 C (2). Statements of counsel, as purportedly made in

Department Exhibit BB should be afforded no weight for these reasons.

Taxpayers also argued that the Department “takes a surprising position, for the first time, that

New Mexico business owners must pay gross receipts on their business income.” The Hearing Officer

does not perceive Taxpayers’ synopsis of the issue to be entirely precise. The Department did not

assess tax on Taxpayers’ ordinary business income or income from distributions. The issue here is

focused solely on “guaranteed payments” made in accordance with 26 USCS Section 707(c) which

very much resemble compensation for services subject to gross receipts tax.

In support of their position, Taxpayer presented testimony from witnesses having decades of

collective experience working for the Department, and representing taxpayers before the Department.

Although the Hearing Officer found their perceptions to be informative, the central focus of their

testimony concerned policy matters which the Hearing Officer may not consider in ruling upon the

In the Matter of Thomas W. and Linda L. Krumland
Page 22 of 32
specific issues in this protest. The only witnesses appearing on Taxpayers’ behalf who had personal

knowledge of the facts in this particular protest were Taxpayers themselves.

However, the responsibility of the Administrative Hearings Office and the undersigned

Hearing Officer is to render a decision in accordance with the law and the evidence presented. See

NMSA 1978, Section 7-1B-6 (D) (2). In doing so, the Hearing Officer is expressly prohibited from

engaging or participating “in any way in the enforcement or formulation of general tax policy other

than to conduct hearings.” See NMSA 1978, Section 7-1B-7 (A).

Woven into the fabric of Taxpayers’ policy arguments was specific reference to NMSA 1978,

Section 7-9-17 and Regulation 3.2.1.14 (S) (4) NMAC. Section 7-9-17 provides an exemption from

gross receipts tax for “receipts of employees from wages, salaries, commissions or from any other

form of remuneration for personal services.” As of the date of the assessments giving rise to this

protest, Regulation 3.2.1.14 (S) (4) NMAC provided the following example which Taxpayers assert

to be controlling in this protest: “L is a partner in a partnership. L performs services for third parties

as part of L’s duties as a partner and is compensated for doing so by the partnership. To the extent

that such compensation may be treated as wages for federal income tax purposes, L’s receipts from

the partnership in the form of compensation are exempt.”

However, the Hearing Officer was not persuaded that Taxpayer’s construction of Regulation

3.2.1.14 (S) (4) NMAC provided relief from the assessment, primarily because the evidence did not

establish that Taxpayers provided services to third parties, in contrast with the example provided by

Taxpayer Exhibit 7. For example, Mr. Roybal testified that the facts underlying the correspondence

in Taxpayer Exhibit 7, which relied on that regulation, involved a public accounting firm and the

services its partners provided to its firm’s clients. Consequently, the partners were compensated by

the partnership for service renders to third parties, the clients. Those facts are more analogous to the

In the Matter of Thomas W. and Linda L. Krumland
Page 23 of 32
example provided in Regulation 3.2.1.14 (S) (4) NMAC than the facts underlying the present matter

because Taxpayers did not provide service to third parties on behalf of the various businesses.

Accordingly, had there been nothing else to consider, the Hearing Officer’s analysis could

have concluded, and a final decision could have been entered on this final note. However, the

Department took a final step which cannot be overlooked. It enacted an amendment to its regulations

which now opposes the position it took in the current protest, and favors Taxpayers’ position. Its

regulation now excludes “guaranteed payments” from gross receipts.

The Amended Regulation

On July 20, 2018, Taxpayers filed their Notice of Supplemental Authority in which they

brought attention to the Department’s proposed rule regarding the status of “guaranteed payments”

under the Gross Receipts and Compensating Tax Act. Taxpayer suggested that the proposed rule, if

enacted, would be dispositive to the current protest. Accordingly, Taxpayer requested that a decision

on the protest be reserved until the Department took final action on the proposed regulation. Taxpayer

cited GEA Integrated Cooling Tech. v. State Taxation & Revenue Dep’t, 2012-NMCA-010, 268 P.3d

48 and Amoco Prod. Co. v. N.M. Taxation & Revenue Dep’t, 2003-NMCA-092, 134 N.M. 162, 74

P.3d 96 for the proposition that the proposed regulation, if enacted, should be dispositive of the

protest. Taxpayers’ citations provide no elaboration or legal analysis.

On July 25, 2018, the Department filed its response to the foregoing, indicating that the

proposed rule, as of that date, was merely proposed, not enacted. The Department continued with a

discussion of additional authority and legal analysis in opposition to Taxpayers’ assertion that the

proposed regulation, if enacted, should be dispositive.

On September 25, 2018, as the Hearing Officer sifted through evidence and weighed the legal

arguments, the proposed regulation became effective. It provided that an owner’s receipts from

In the Matter of Thomas W. and Linda L. Krumland
Page 24 of 32
transactions with the owned entity are gross receipts with an exception made for “guaranteed

payments.” It states in relevant part:

3.2.1.14 GROSS RECEIPTS – GENERAL:

…

S. Owner’s receipts from transactions with owned entity are
gross receipts:

…

(2) When a partner or interest holder in an entity is allocated
profits or receives a guaranteed payment or other distributions for
activities undertaken as a partner on behalf of the partnership such as
administrative services done solely for the benefit of the partnership
or for activities for third-parties transacting business with the
partnership, these receipts of the partner are not gross receipts and
are not subject to the gross receipts tax. When a partner engages in
business separately from the partnership any transactions of that
partner with the partnership, where the partner is not acting as a partner
on behalf of the partnership, are gross receipts[.]

(Emphasis Added)

Although the amended rule has supplanted the prior, the Department’s position in this protest,

remains unchanged. The question is then whether or not the amended rule has any effect on the

outcome of this protest?

Retroactive Application of Amended Rule.

The following issue is whether applying the amended rule would constitute an improper

retrospective application of the regulation to the facts in this protest. Our courts have acknowledged

that “[a]lthough the presumption of prospectivity appears straightforward, confusion often arises as

to what retroactivity means in particular contexts.” See Gadsden Fed’n of Teachers v. Bd. of Educ.,

1996-NMCA-069, ¶14, 122 N.M. 98, 920 P.2d 1052. A statute is considered retroactive if it impairs

vested rights or requires new obligations, imposes new duties, or affixes new disabilities to past

In the Matter of Thomas W. and Linda L. Krumland
Page 25 of 32
transactions. See GEA Integrated Cooling Tech. v. State Taxation & Revenue Dep’t, 2012-NMCA-

010, ¶18, 268 P.3d 48. “[A] statute does not operate retroactively just because it is applied to facts

and conditions existing on its effective date, even though the condition results from events that

occurred prior to its enactment.” Id. citing State v. Morales, 2010-NMSC-026, ¶9, 148 N.M. 305, 236

P.3d 24.

In GEA, the New Mexico Court of Appeals considered whether a 2007 amendment to the

statute establishing the rate at which tax penalty was to be calculated and assessed should be applied

to liabilities arising prior to its effective date, but assessed subsequent to its effective date, and whether

such application gave the amendment an improper retroactive effect. GEA acknowledged that the

Supreme Court’s holding in Crane v. Cox, 1913-NMSC-089, ¶6, 18 N.M. 377, 137 P. 589 was

dispositive, having addressed an analogous issue in which it considered whether there was an

impermissible retrospective application of a new law providing for collection of delinquent taxes

outstanding as of the enactment of that statue.

In its discussion, GEA recognized the long-standing presumption against the retroactive

application of a statute, but held that the application of a new law to pre-existing facts did not

automatically give the statute retroactive effect. Relying on the reasoning in Crane, it agreed that “[a]

statute does not operate retroactively from the mere fact that it relates to antecedent events. A

retrospective law [is] intended to affect transactions which occurred . . . before it became operative .

. . and which ascribes to them affects not inherent in their nature in view of the law in force at the time

of their occurrence.” See GEA, 2012-NMCA-010, ¶20 quoting Crane, 1913-NMSC-089, ¶6.

GEA summarized the holding in Crane, explaining that “the new act . . . did not operate

retroactively because the operation of the statute did not affect any right the taxpayer possessed under

In the Matter of Thomas W. and Linda L. Krumland
Page 26 of 32
prior law, did not change the taxpayer’s status, and did not impose a consequence that was not already

anticipated.” See GEA, 2012-NMCA-010, ¶20.

The Hearing Officer was unpersuaded that GEA was on point. GEA arose from an amendment

to a statute. Regulations, although having the force of law, are not statutes. See City of Albuquerque

v. N.M. Pub. Regulation Comm’n, 2003-NMSC-028, ¶17, 134 N.M. 472, 481, 79 P.3d 297. Rather,

regulations are the mechanism through which the Department interprets, exemplifies, implements and

enforces the provisions of Tax Administration Act. See Hammack v. N.M. Taxation & Revenue Dep’t,

2017-NMCA-086, ¶16, 406 P.3d 978; See also NMSA 1978, Section 9-11-6.2 A.

This distinction is significant because there is not a new statute affecting rights under prior

law, changing a taxpayer’s status, or imposing consequences that were not anticipated. In contrast,

the amended rule more closely resembles an evolution of the Department’s interpretation of the same

law. This distinction favors the analysis in Amoco, which considered the effect of a new interpretation

of the law, as against the effect of a new law.

Whether the Amended Rule is Interpretive.

One of the various powers of the Department is to issue “regulations, rulings, instructions or

orders necessary to implement and enforce any provision of any law” which the Department has

authority to administer and enforce. See NMSA 1978, Section 9-11-6.2. In the course of exercising

that authority, the Department is entitled to the presumption that a regulation, ruling, instruction, or

order is a “proper implementation of the provisions of the law that are charged to the [D]epartment,

the secretary, any division of the [D]epartment or any director of any division of the [D]epartment.”

See NMSA 1978, Section 9-11-6.2 G; See Chevron U.S.A., Inc. v. State ex rel. Dep’t of Taxation &

Revenue, 2006-NMCA-050, ¶16, 139 N.M. 498, 134 P.3d 785 (agency regulations interpreting a

statute are presumed proper and are to be given substantial weight). The presumption, therefore, is

In the Matter of Thomas W. and Linda L. Krumland
Page 27 of 32
that the rule in effect prior to September 25, 2018 was a proper implementation of the law and the

amended rule is entitled to the same presumption. In other words, both interpretations are proper

implementations of the law, and should be afforded substantial weight.

Amoco is instructive because it explains that rulings and regulations do not diminish or enlarge

statutory law. In that case, a taxpayer and the Department quarreled over the retroactive effect of a

ruling. The court of appeals recognized that there was no expression of intent for the ruling to be

applied retroactively. Yet, it also recognized that the ruling was interpretative and consistent with the

law, and that the ruling explained what the taxpayer’s obligations have always been under the law.

See Amoco, 2003-NMCA-092, ¶16 (citing Am. Stores Co. v. Comm'r of Internal Revenue, 170 F.3d

1267, 1277 (10th Cir. 1999); See also Chalamidas v. Envtl. Improvement Div. (In re Proposed

Revocation of Food & Drink Purveyor’s Permit for House of Pancakes), 1984-NMCA-109, ¶13, 102

N.M. 63, 691 P.2d 64.

Similar to the observation in Amoco, the law in the present matter also has not changed.

Neither party suggests that it has. Rather, the amended regulation, similar to the ruling discussed in

Amoco, interprets the law as it has existed during all times relevant to the protest.

Evaluation of the previous rule and its subsequent amendment illustrate that the new rule is

not contrary to the prior rule, but provides additional interpretation on the central factor of this protest,

“guaranteed payments.” In other words, where the prior rule was silent on the subject of this protest,

the new rule addresses it directly in unambiguous terms, neither contradicting nor necessarily

reversing the Department’s previous interpretation of the law, but rather exemplifying what some

former officials believed the interpretation was, or should have always been, referring in particular to

Dr. Clifford, Mr. Crociata, and Mr. Anklam.

In the Matter of Thomas W. and Linda L. Krumland
Page 28 of 32
Unlike other scenarios, in which the Administrative Hearings Office has been more cynical

of regulatory changes in the absence of corresponding statutory amendments, the amended regulation

at issue in this protest does not conflict or contradict with a prior regulation. See e.g. In the Matter of

HealthSouth Rehabilitation, Decision and Order, No. 16-16 (non-precedential). Rather, the amended

regulation is consistent with its predecessor, merely providing additional elaboration on matters not

previously addressed by the prior.

Accordingly, the Hearing Officer finds that the amended regulation, effective September 25,

2018 is interpretive of the law as it has existed during all times relevant to this protest. Similar to the

facts in Amoco, Taxpayer should be entitled to the benefit of the Department’s maturing interpretation

of the law, because the law, upon which that interpretation is established, has not changed. The

Department contends that “to apply the new regulation to the protest would be to shield Taxpayers

from liability completely; this result is incorrect both because it constitutes retroactive application,

and because it results in statutory construction that is in favor of the taxpayer.” See New Mexico

Taxation and Revenue Department’s Response to Notice of Supplement Authority, Page 3.

Having fully evaluated the Department’s argument regarding retroactivity, the Hearing

Officer will briefly comment on the final portion of the quotation. Without reservation, counsel for

the Department performed diligently and admirably for his client. However, the Department elected

to fundamentally resolve the central issue in this protest through promulgation, rather than litigation.

To the extent the Department may take issue with a “statutory construction that is in favor of

[Taxpayers][,]” the Hearing Officer merely points out that the decision in this protest relies on the

Department’s interpretation of the law, as that law has existed during all times relevant to this protest,

and that interpretation should be afforded substantial weight. See Chevron, 2006-NMCA-050, ¶16.

In the Matter of Thomas W. and Linda L. Krumland
Page 29 of 32
Otherwise, there is simply no legal basis or justification to withhold from Taxpayers the

benefit of the Departments’ enlightened interpretation of the law, as provided in the amended

regulation. To do otherwise would exemplify what a court might consider pronouncing arbitrary and

capricious. See Vigil v. Pub. Emples. Ret. Bd., 2015-NMCA-079, ¶26, 355 P.3d 67 (“a decision is

arbitrary and capricious ‘if it provides no rational connection between the facts found and the choices

made, or entirely omits consideration of relevant factors or important aspects of the problem at

hand.’”) quoting Atlixco Coal. v. Maggiore, 1998-NMCA-134, ¶24, 125 N.M. 786, 965 P.2d 370.

Taxpayers’ protest should be GRANTED.

CONCLUSIONS OF LAW

A. Taxpayers filed timely, written protests of the Department’s assessments and

jurisdiction lies over the parties and the subject matter of this protest.

B. A timely hearing occurred within 90 days of the date of Taxpayer’s protest pursuant

to NMSA 1978, Section 7-1B-8 (A).

C. Under NMSA 1978, Section 7-9-5 (2002), Taxpayer’s gross receipts derived from

engaging in business in New Mexico are presumed taxable.

D. A “guaranteed payment” to a partner for activities undertaken on behalf of the

partnership are not gross receipts and are not subject to the gross receipts tax. See Regulation

3.2.1.14 S (9/25/2018).

For the foregoing reasons, Taxpayers’ protest is GRANTED. The Department shall abate

tax, penalty, and interest under the assessments.

In the Matter of Thomas W. and Linda L. Krumland
Page 30 of 32
DATED: October 3, 2018

Chris Romero
Hearing Officer
Administrative Hearings Office
P.O. Box 6400
Santa Fe, NM 87502

NOTICE OF RIGHT TO APPEAL

Pursuant to NMSA 1978, Section 7-1-25 (2015), the parties have the right to appeal this

decision by filing a notice of appeal with the New Mexico Court of Appeals within 30 days of the

date shown above. If an appeal is not timely filed with the Court of Appeals within 30 days, this

Decision and Order will become final. Rule of Appellate Procedure 12-601 NMRA articulates the

requirements of perfecting an appeal of an administrative decision with the Court of Appeals.

Either party filing an appeal shall file a courtesy copy of the appeal with the Administrative

Hearings Office contemporaneous with the Court of Appeals filing so that the Administrative

Hearings Office may begin preparing the record proper. The parties will each be provided with a

copy of the record proper at the time of the filing of the record proper with the Court of Appeals,

which occurs within 14-days of the Administrative Hearings Office receipt of the docketing

statement from the appealing party. See Rule 12-209 NMRA.

In the Matter of Thomas W. and Linda L. Krumland
Page 31 of 32
CERTIFICATE OF SERVICE

On October 3, 2018, a copy of the foregoing Decision and Order was submitted to the

parties listed below in the following manner:

First Class Mail Interagency Mail

INTENTIONALLY BLANK

In the Matter of Thomas W. and Linda L. Krumland
Page 32 of 32