BEFORE THE DEPARTMENT OF REVENUE

OF THE STATE OF MONTANA

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TO: All Concerned Persons

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1. On October 25, 2007, the department published MAR Notice No. 42-2-779 regarding the proposed amendment of the above-stated rule at page 1655 of the 2007 Montana Administrative Register, issue no. 20.

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2. A public hearing was held on November 14, 2007, to consider the proposed amendment. No oral testimony was provided during the hearing. Written comments were received subsequent to the hearing and are summarized as follows along with the response of the department:

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COMMENT NO. 1: Mary Whittinghill, President, Montana Taxpayers Association (MTA), stated that MTA appreciates the department's preliminary amendment to the rule that said that it would not consider the internet moratorium lifted until the 110th (current) Congress adjourned without taking action. However, now that the moratorium has been extended an additional seven years by the 110th Congress, MTA does not believe the rule amendment is necessary. She further stated the proposed amendment made by the department at the hearing, which changes "110th" to "113th" to coincide with the next expiration of the moratorium, simply places unnecessary language in the department's rules. Not only could subsequent Congresses alter the current moratorium, Montana's own Legislature could act on changes to the taxation of the internet passed by Congress prior to the adjournment of the 113th Congress and expiration of the moratorium.

Ms. Whittinghill also stated MTA contends that Montana statutes do not confer upon the department the ability to impose new taxes administratively on the internet. Such an action would only be possible if the Legislature grants such authority by passing legislation sometime in the future.

For these reasons, the MTA requests the department withdraw the amendment to the rule.

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RESPONSE NO. 1: The department appreciates MTA's comments, however the department believes it is necessary to explain some of the history surrounding the proposed rule amendment and the law that it implements. That history supports the department's action in moving forward with this rule amendment.

During the 56th legislative session in 1999, the Montana Legislature considered Senate Bill 192 in order to exempt internet access services from the then license tax on telephone companies (Senate Bill 192, 56th Legislature (introduced January 13, 1999)). Congress had enacted, through the Internet Tax Freedom Act, a moratorium preempting state and local taxes on internet access services in October 1998. However, Congress had exempted from this moratorium certain laws in effect and enforced prior to the enactment of this federal law. Among those laws exempted from the moratorium ("grandfathered") was the Montana telephone license tax. Thus, Senate Bill 192 sought to enact a state exemption for internet access services in light of the fact that the federal preemption did not apply to the Montana telephone license tax.

During the second reading of Senate Bill 192, language was inserted providing that if House Bill 128 (Retail Telecommunication Excise Tax Act) was passed and approved, then Senate Bill 192 was void. House Bill 128 was enacted by the Legislature, hence voiding Senate Bill 192 providing for a state exemption for internet access charges. House Bill 128 also repealed the telephone license tax and enacted the new Retail Telecommunications Excise Tax Act. Importantly, the new Retail Telecommunication Excise Tax law enacted a broad-based tax without any exemption for internet access services. With the enactment of House Bill 128, the Montana Legislature directly voided the state exemption for internet access services and enacted a new telecommunications tax that included internet access services within the base of the tax.

The enactment of House Bill 128 did one more thing: it surrendered Montana's exemption from the federal moratorium preempting state taxes on internet access charges. Montana's exemption from the Internet Tax Freedom Act moratorium was specific to the prior telephone license tax repealed by House Bill 128. Thus, the 1999 Montana Legislature began with a state telecommunications tax that included internet access charges in its base and that was immune from the federal preemption of such taxation. The 1999 Legislature ended with a state telecommunications tax that included internet access charges in its base as matter of state law, but now subject to preemption under the federal law. The 1999 Legislature's policy decision to continue to include internet access charges in the base of the state telecommunications tax law was made especially clear by its initial enactment and then subsequent nullification of an explicit state exemption for internet access charges.

The fact that this understanding of the 1999 Legislature's decisions was commonly accepted at the time is clear from the history of the hearing on proposed department rules implementing House Bill 128 held on November 16, 1999. Present at that hearing and testifying on issues related to the telecommunications rules were: Mary Whittinghill, Montana Taxpayers Association and Barbara Ranf, U.S. West Communications. Additional written comments were received from the Montana Power Company.

At this rules hearing the department introduced an additional rule which became ARM 42.31.507. This rule dealt specifically with the question of how the department would coordinate the new state law that imposed a tax on internet revenues with the federal law that preempted that taxation. The department answered that question with a rule that reads, in part, as follows:

"1) Imposition of the retail telecommunication excise tax shall not be applied to internet revenue that may be included in the sales price, until the federal moratorium has been lifted. Imposition of the tax will occur after the federal moratorium is lifted and if no federal law prohibits the taxation of internet revenue."

What is significant about this 1999 rule is that it clearly states the contemporaneous understanding that the 1999 Montana Legislature had enacted a telecommunications tax that was imposed on internet revenues, but that tax would not be collected on internet revenues for whatever period the temporary federal law preempted state law.

Comments made at and subsequent to the hearing addressed subjects such as: whether a credit would be provided for bad debts; time and place of audits; requirement to retain records for five years; clarification of when the 60-day period referenced in the rule commences; and that the department should not have arbitrary authority to reject an application, or if rejected, the taxpayer should be informed of the basis of the rejection. There were no comments on the rule with regard to internet revenue taxation. The rule was also subject to the oversight of the Revenue and Transportation Interim Committee without any change in the rule that is now ARM 42.31.507 occurring as result of that oversight.

Ms. Whittinghill represented the Montana Taxpayers Association at the hearing on November 16, 1999. She did not comment on or object to this proposed rule dealing with the 1999 Legislature's imposition of a tax on internet revenues and its temporary preemption by federal law. Nor did Ms. Whittinghill submit written comments or object to this proposed rule subsequent to the hearing. The time for Ms. Whittinghill, on behalf of her association, to have raised the question as to whether the 1999 Montana Legislature had imposed a state tax on internet revenues was during the 1999 rules adoption process.

This rule was subsequently adopted on December 6, 1999, by then Director of Revenue, Mary Bryson.

The Montana Taxpayers Association represented again by Ms. Whittinghill comes now eight years and two administrations later questioning, in effect, whether the 1999 Legislature had imposed a state tax on internet access charges. Ms. Whittinghill raises this question now as a general assertion without presenting any analysis or review of the legislative history and without any acknowledgement that she and the organization she represents participated in the 1999 rules process that dealt directly with the tax imposition issue. Ms. Whittinghill's comment is untimely, unsupported by the legislative and rulemaking history, and is not even relevant to this proceeding.

The comment is not relevant to this proceeding because the proposed amendment defining the term "lifted" does not deal with the question of whether a tax on internet access has been imposed by the Legislature. That was resolved in 1999 by the Legislature and by Director Bryson's adoption of ARM 42.31.507. This proposed rule amendment of ARM 42.31.501 deals only with the technical timing of when the federal preemption of state law actually ends.

Turning now to whether the definition of the term "lifted" is necessary, Ms. Whittinghill states that the language is unnecessary because Congress or the Montana Legislature could change either federal or state law. The department does not adopt rules or fail to adopt rules on the basis of what the law might be, but on the basis of what existing law is. Indeed, the department's rulemaking authority is guided, limited, and authorized only by existing law. The department cannot fail to fulfill its responsibilities to provide an opportunity to the public to participate in its decision making through the rulemaking process simply because state or federal law might change in the future. If that were the criteria for rulemaking, then the department would never adopt a single rule because all laws are subject to change.

The reference in the rule being adopted with this notice to the "113th Congress" is there because existing federal law is such that the current internet moratorium is scheduled to expire during the time that Congress is in session. The reference to the 113th Congress is necessary to fix precisely the date that the department will consider the federal internet moratorium to have been lifted.

If Congress or the Montana Legislature changes the laws that bear on the rule amendment adopted herein, the department will change the rule. That is the routine and normal process that occurs with any rule affected by a change in applicable law.

The rule amendment adopted here is necessary for several reasons. The rule amendment is needed to provide affected taxpayers and telecommunications providers with the assurance that department will delay the requirement of the 1999 Montana law to collect taxes as long as possible consistent with both state and federal law. Second, the rule amendment is needed to prevent the department from collecting a tax and then needing to refund that tax in the event that a sitting Congress first allows the moratorium to expire and then subsequently in that same Congress retroactively reimposes the moratorium. Such a process would be unnecessarily burdensome to consumers, telecommunication service providers, and to the department. Finally, the rule amendment is needed to resolve the ambiguity as to what the term "lifted" actually means.

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3. Consistent with all three of these purposes for the rule, the department is further amending the rule as follows, stricken matter interlined, new matter underlined:

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42.31.501 DEFINITIONS The following definitions apply to terms used in this subchapter:

(1) remains as proposed.

(2) "Lifted" means that the internet moratorium either expires under the terms of federal law or the 110th 113th Congress of the United States adjourns without reauthorizing the internet moratorium, whichever event occurs later. Through this rule, the department is clarifying what will occur if the 113th Congress adjourns without reauthorizing the internet moratorium before the moratorium expires under the terms of federal law. The rule makes clear that the department will delay the impact of the 1999 Montana law taxing internet revenues as long as possible, that the unnecessary burden of the tax being collected and then refunded will be avoided, and that the operation of the law in this case is clear and certain.

(3) through (6) remain as proposed.

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AUTH: 15-53-155, MCA

IMP: 15-53-129, MCA

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4. Therefore, the department amends ARM 42.31.501 with the amendments listed above.

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5. An electronic copy of this Adoption Notice is available through the department's site on the World Wide Web at www.mt.gov/revenue, under "for your reference"; "DOR administrative rules"; and "upcoming events and proposed rule changes." The department strives to make the electronic copy of this Adoption Notice conform to the official version of the Notice, as printed in the Montana Administrative Register, but advises all concerned persons that in the event of a discrepancy between the official printed text of the Notice and the electronic version of the Notice, only the official printed text will be considered. In addition, although the department strives to keep its web site accessible at all times, concerned persons should be aware that the web site may be unavailable during some periods, due to system maintenance or technical problems.

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/s/ Cleo Anderson������������������� /s/ Dan R. Bucks

CLEO ANDERSON����������������� DAN R. BUCKS

Rule Reviewer�������������������������Director of Revenue

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Certified to Secretary of State March 31, 2008