ROMANTIX HOLDINGS, INC., ROMANTIX, INC., ABV MANAGEMENT, INC., BOOKS, INC., PPI, INC., PPA, INC., and SWAN BOOKS, INC., Petitioners-Appellants,
IOWA DEPARTMENT OF REVENUE, Respondent-Appellee.
from the Iowa District Court for Polk County, Richard G.
Blane II and Karen A. Romano, Judges.
parent corporation and its subsidiaries appeal the district
court's ruling on judicial review affirming the Iowa
Department of Revenue's conclusions that the parent
corporation was ineligible to join its subsidiaries'
consolidated Iowa income tax returns because it had no
taxable income in Iowa and that its subsidiaries could not
claim certain expenses incurred and paid by the parent
L. Mountsier of Dickinson, Mackaman, Tyler & Hagen, P.C.,
Des Moines, for appellants.
J. Miller, Attorney General, and Paxon J. Williams, Assistant
Attorney General, for appellee.
by Vogel, P.J., and Doyle and McDonald, JJ. Blane, S.J.,
takes no part.
Director (Director) of the Iowa Department of Revenue
(Department) issued a final order concluding a parent
corporation, Romantix Holdings, Inc. (Holdings), was
ineligible to join its subsidiaries' (Iowa Subsidiaries)
consolidated Iowa income tax returns because Holdings was not
doing business in Iowa for purposes of inclusion on a
consolidated tax return. It also concluded the Iowa
Subsidiaries were ineligible to deduct certain expenses
incurred and paid by Holdings. Holdings and the Iowa
Subsidiaries (collectively Petitioners) petitioned for
judicial review. Following judicial review, the district
court affirmed the agency's final order. On appeal,
Petitioners contend Holdings derived taxable income from the
Iowa Subsidiaries entitling it to join the Iowa
Subsidiaries' Iowa consolidated income tax returns.
Additionally, it is argued that the Iowa Subsidiaries
properly claimed the expenses of Holdings because the Iowa
Subsidiaries were jointly and severally liable for payment of
the expenses and "paid" the expenses by allocation.
Upon our review, we affirm the district court's ruling
denying and dismissing Petitioners' petition for judicial
review and affirming the Director's order on remand.
Standard of Review.
review of final decisions of the Department is governed by
the Iowa Administrative Procedure Act, codified at Iowa Code
chapter 17A (2015). See Iowa Code § 422.29;
KFC Corp. v. Iowa Dep't of Revenue, 792 N.W.2d
308, 312 (Iowa 2010). Under section 17A.19, we must determine
"[t]he validity of agency action . . . in accordance
with the standards of review" set forth in that
provision. Iowa Code § 17A.19(8)(b). We "give
appropriate deference to the view of the agency with respect
to particular matters that have been vested by a provision of
law in the discretion of the agency." Id.
§ 17A.19(11)(c). Section 422.68(1) gives the Director
"the power and authority to prescribe all rules not
inconsistent with the provisions of this chapter, necessary
and advisable for its detailed administration and to
effectuate its purposes." Consequently, we will uphold
the Department's decision unless its interpretation is
irrational, illogical, or wholly unjustifiable. See
id. § 17A.19(10)(l); Myria Holdings
Inc. v. Iowa Dep't of Revenue, ___ N.W.2d___, ___,
2017 WL 1103175, at *3 (Iowa 2017). A decision is
"irrational" if it is "not governed by or
according to reason, " illogical if it is "contrary
to or devoid of logic, " and "unjustifiable"
if "it has no foundation in fact or reason."
The Sherwin-Williams Co. v. Iowa Dep't of
Revenue, 789 N.W.2d 417, 432 (Iowa 2010).
Background Facts and Proceedings.
is a holding company that owns and operates numerous
subsidiaries as well as the Romantix trademark. Each
individual subsidiary performs a function in the overall
business. Some subsidiaries own Romantix' adult book
stores, nine of which are located in Iowa, which sell
apparel, novelties, lubricants, lotions, books, magazines,
and DVDs. Another subsidiary, Romantix Inc. (Inc.), acts as a
management company. All the revenue from the stores is
transferred to Inc. daily, and Inc. then uses this money to
pay the stores' expenses. Another subsidiary, RMI
Aviation (RMI), owns an airplane and an airplane hangar. The
airplane is used by the Midwest stores for business travel.
Inc. uses the funds received from the stores that utilized
their services to pay RMI's expenses. Holdings does not,
by itself, sell products or provide services in Iowa.
current owner of Petitioners, Steven Brown, acquired
ownership in a transaction dated September 26, 2007. As part
of the acquisition transaction, a number of documents and
agreements were executed, including a stock redemption
agreement, a loan agreement, a redemption note, a subsidiary
guaranty, and a security agreement. The transaction involved
two steps: Brown personally bought 100 shares of stock in
Holdings from Edward Wedelstedt, and Holdings redeemed from
Wedelstedt the remaining shares Wedelstedt owned in Holdings.
The redemption was financed by debt incurred by Holdings; the
debt was payable in monthly installments over a course of 15
years and had an interest rate of 8.5%. None of the
subsidiaries owned by Holdings bought any of the shares from
Wedelstedt, but all the Iowa Subsidiaries agreed to guaranty
the debt. Also, included in the stock redemption agreement
was a covenant not to compete. The covenant prohibited
Wedelstedt from opening a competitive store within 25 miles
of any of the stores that were part of the purchase
agreement, including the nine Iowa stores. In exchange for
the covenant not to compete, Holdings agreed to pay $100, 000
per year for 15 years. The Iowa Subsidiaries guaranteed this
debt as well.
issue here are the 2009 and 2010 consolidated Iowa income tax
returns of the Iowa Subsidiaries. The 2009 Iowa consolidated
return included Holdings and all of its subsidiaries
(including non-Iowa subsidiaries), but did not include the
interest and amortization as an expenses for the subsidiaries
because the entirety of the expense was allocated to
Holdings. The 2010 consolidated Iowa return included
Holdings' Iowa subsidiaries, but not Holdings, and the
interest and amortization expenses were allocated to the Iowa
Subsidiaries based on a percentage of revenue approach. The
Department apparently disallowed the expenses, and
Petitioners filed a protest. A hearing was held before an
administrative law judge (ALJ). The ALJ reversed the
Department's income tax assessments pertaining to the
expenses. The Department appealed the ALJ's proposed
decision to the Director. The Director issued a final order
ruling that Holdings should not be included on the Iowa
Subsidiaries' consolidated Iowa income tax returns and
that the Iowa Subsidiaries were not allowed to deduct
Holdings' acquisition debt and covenant not to sue
expenses because the subsidiaries did not owe and did not pay
filed a petition for judicial review. The district court
found that "the Director's finding that Iowa
Subsidiaries did not owe the [acquisition and covenant not to
compete] debt is not supported by substantial evidence."
The court remanded the matter to the Director "to give
more specific reasoning for why the individual statutes and
rules cited by Petitioners when applied to the facts of this
matter do not allow Petitioners to make the desired
deduction." The court affirmed the Director's
finding that Holdings is not subject to Iowa income tax and
is therefore prohibited from being included in the Iowa
Subsidiaries' consolidated tax return.
remand, the Director concluded in her final order that
"[b]ecause the Iowa subsidiaries are not the primary
obligors under the Loan Agreement, [Petitioners] fail the
first test for deductibility of the acquisition
interest." The Director also concluded
"[Petitioners] have failed to meet their burden to
establish that the covenant not to compete was acquired,
directly or indirectly, by the Iowa [S]ubsidiaries." The
Director ordered that the Iowa Subsidiaries were not entitled
to deduct interest and amortization expenses related to
redemption of Holdings stock.
issue with a number of the Director's conclusions,
Petitioners again filed a petition for judicial review. The
district court concluded:
While the Director erred in failing to recognize the Iowa
Subsidiaries as primary obligors of the acquisition debt, the
Director, in noting the Iowa Subsidiaries' failure to pay
the expenses originally allocated to Holdings, provided a
proper basis for the Iowa Subsidiaries to nevertheless be
unable to deduct the expenses.
court denied and dismissed Petitioner's petition and
affirmed the ...