Tax Law Alert: Oregon Supreme Court Reverses Court of Appeals Decision; Director Fees Not Subject to Oregon Unemployment Insurance
In a decision that will be a relief to corporations struggling to determine how to fulfill apparently inconsistent employment tax reporting obligations, the Oregon Supreme Court has reversed an Oregon Court of Appeals decision concerning director fees.
In April 2007, the Oregon Court of Appeals held that a corporation's payment of fees to its directors for their services as directors is subject to Oregon unemployment insurance ("UI"). See Necanicum Investment Co. v. Employment Department, 214 Or App 385, 164 P3d 1197 (2007). On July 24, 2008, the Oregon Supreme Court reversed that decision, holding that because corporate directors, serving solely as directors, do not fall within the definition of an "employee" of a corporation for purposes of UI, the fees paid by a corporation to its directors are not wages subject to UI. See Necanicum Investment Co. v. Employment Department, No. SC S055231, 2008 WL 2834187 (Or July 24, 2008).
There was no dispute as to the facts of the case. The Company paid $18,000 in director fees during 2003 and did not pay UI with respect to the fees. After reviewing Oregon statutes and case law, the Court of Appeals concluded that taxable "wages" for purposes of UI include remuneration for "any service for an employer." The Court of Appeals held that the fees paid to directors were paid in exchange for "service" to the Company, within the plain meaning of that term. Accordingly, the Court of Appeals concluded that the directors had engaged in "employment" and that the fees paid by the Company to its directors were "wages" for Oregon UI purposes.
On review, the Supreme Court found that the Court of Appeals had erroneously assumed away the main issue, which is whether directors are "employees" of the corporation. The Supreme Court noted that the definitions in the UI statutes on which the Court of Appeals relied include the phrase "unless the context requires otherwise." Relying in part on that phrase, the Supreme Court examined other Oregon UI statutes, as well as provisions in ORS Chapter 60 (which governs corporate organization) and federal employment tax law, concluding that the legislature did not intend to treat directors as employees. The Supreme Court distinguished directors from employees, pointing out that directors do not take direction from any employee or agent of the corporation but can be elected only by the shareholders and can be removed only by the shareholders or by judicial proceedings. Accordingly, in contrast to employees, the relationship of directors to the corporation is such that directors do not perform "service for" the corporation. Finding that the amounts paid to the Company's directors were exclusively for their service as directors, the court held that the fees were not wages subject to UI.
The Oregon Supreme Court's decision aligns the treatment of director fees for UI purposes with federal employment tax law, as well as Oregon income tax withholding law. The Internal Revenue Service and the Oregon Department of Revenue have long taken the position that director fees are not subject to federal income tax withholding, Social Security tax, Medicare tax, federal unemployment tax or Oregon personal income tax withholding, based on reasoning similar to that of the Oregon Supreme Court.
The Employment Department has informally advised that it will alert its staff to expect refund claims from corporations that have paid UI with respect to director fees reported as wages. Audit staff will continue to review corporate employment tax returns and records to determine whether amounts reported as nontaxable director fees are actually taxable wages for services rendered by employees.
If you have further questions, please contact:
Christopher K. Heuer at email@example.com or (503) 294-9206
Robert T. Manicke at firstname.lastname@example.org or (503) 294-9664
Kevin T. Pearson at email@example.com or (503) 294-9622
IRS Circular 230 notice: Any tax advice contained herein was not intended or written to be used, and cannot be used, by you or any other person (i) in promoting, marketing or recommending any transaction, plan or arrangement or (ii) for the purpose of avoiding penalties that may be imposed under federal tax law.