“Legal Files” has written several times about various techniques that collectors employ to avoid paying sales/use taxes on their collector cars. It’s a big deal, as the sales/use tax rates are typically 6% to 10% of the purchase price of the car.
One of the common techniques, which our office uses with many of our clients, is to form a Montana LLC (limited liability company) to serve as the owner of the collector cars. Under Montana law, a business entity formed in Montana can title and register its vehicles in Montana no matter where they might be located. The titling and registration fees are minimal, and Montana does not have a sales tax.
Think of the Montana LLC as Step One in the process — it gives you a valid title and license plates, which is useful when it comes to selling the car later and easily transferring title. If that is all you are looking for, then there is nothing else to worry about, and this approach works perfectly well.
But if you are going to drive your Montana-registered cars within your home state, the next question that arises is whether you will encounter problems with the out-of-state plates. Think of that as Step Two in the process. Generally, all states have laws that require that their residents title and register their cars in their state within some specified time after they first bring the car into the state. And, when they do that, the state DMV will collect the sales/use tax. So, the Step Two question is, can you keep driving the car with Montana plates because the Montana LLC owns it and is not a resident of your home state — or do you now have to register it in your home state?
A changing landscape
Dale Spradling, a Texas CPA and accounting professor who has dealt with this issue in Texas and other states, contacted “Legal Files” to report that there have been some recent developments in several states that question the viability of this approach. Spradling says:
The states are fighting back. They believe a Montana LLC which owns nothing but vehicles is little more than a shell that should be ignored for sales tax purposes. So, when one of their state residents, who also happens to own a Montana LLC, starts driving a car titled in the LLC’s name over their state roads, they want him to pay up.
These states are getting aggressive because they think that abuses involving motor homes have started to reach epidemic proportions (although the principles apply equally to collector cars). An Internet search of “Montana llc rv” yields over 2.5 million hits and a page full of sites that address avoiding sales tax with Montana LLCs.
Massachusetts snooped around Montana public records and collected $200,000 from 23 targeted cases. California has launched a rewards program for residents to turn in their neighbors. And Colorado launched a major enforcement action, collecting $2.7 million in unpaid taxes and convicting 12 Colorado residents of misdemeanor tax evasion.
Because Montana allows anonymous ownership, these states have become very aggressive in piercing the ownership veil. They are stopping vehicles with Montana plates, trolling chat boards, tracing title changes, subpoenaing banks, and setting up whistleblower hot lines to find Montana LLCs owned by their state residents.
Sales and use taxes are based upon residency. If you are a state resident who owns a vehicle used on your state’s highways, your state’s law will require you to register your vehicle there and pay sales/use tax. Once you cross the state line, you have to register. However, most states allow a grace period, typically 30–90 days.
Nonresidents driving a car for personal use do not have a time limit for how long they can use their car on state highways, so long as they remain nonresidents. But if they start making money or otherwise putting down roots, they can become a resident and have to register.
Thus, the key is residency. Your home state doesn’t care how Montana treats your LLC. All that matters is whether you are a resident and who owns the car. If your Montana LLC is the registered owner of the car, not you, are you then free to use your state’s highways?
Today, a growing number of states are “looking through” the Montana LLC to treat you as the equitable owner of the car. Citing various federal income tax rulings, they make a “substance over form” argument that when there is no business purpose for your Montana LLC, you, as the LLC owner, are the true owner of the car and are required to register it and pay the sales/use tax.
Will using federal income tax cases to look through a legally formed Montana LLC hold water in your state court? Who knows? Meanwhile, you can bet that the lack of any definitive rulings will not stop your state regulators from shaking this tree because, as my grandfather used to say, “Life is not fair.”
Counterpoint from Montana
“Legal Files” ran these developments by John Bennett, a Montana attorney who regularly forms Montana LLCs for this purpose, and with whom “Legal Files” has worked many times. Bennett responds:
My law office looks for exemptions from a state’s sales/use tax statute that offer a “safe harbor” if the vehicle spends that amount of time out of state. Some states have well-defined exclusionary periods, and some don’t. Texas law is unclear, but may provide an exemption if a vehicle is used or stored outside of Texas for a year or more. We have had clients purchase vehicles, and use them outside of Texas for more than the one-year period, who then re-register them in Texas without being asked to pay the use tax, although it is unknown what the Texas Comptroller’s Office would think. Unfortunately, until a case is litigated, we won’t know.
Many of our clients are members of an RV club based in Texas. Many of the club’s 32,000 members join in order to become legal residents of Texas, a state with no income tax. Many also spend little, or no, time in Texas, and are therefore good candidates to use a Montana LLC to own a vehicle or vehicles which will then be used outside of Texas.
In contrast, California’s exemption from its use tax is clear — if the LLC is predominantly owned by a California resident, the vehicle must be out of state for the first year; if owned by a non-resident, then it must be out of state for a majority of the first year. Massachusetts law exempts vehicles out of state for the first six months or more. In Colorado, it is one year, although it is unclear if you have to stay out of Colorado for all or just most of the year.
Putting it all together
Law is not an exact science. Spradling disagrees with Bennett that Texas has a “one-year loophole.” He also believes that Texas will use the “look-through” theory to ignore a Montana LLC and instead tax the Texas resident LLC owner as soon as he brings the vehicle across the state line into the Lone Star State.
Spradling, Bennett and “Legal Files” all agree that, if you use a Montana LLC to own your collector car and you never drive the car in your home state, you won’t have to worry about sales/use tax. Your state can’t tax you because the car is not present there. The states where you use the car can’t tax you because you aren’t a resident there.
We also agree on Bennett’s prime point, that a Montana LLC can be helpful when your plan is to use the car out of state long enough to meet your state’s safe harbor time, and you then can bring in the car tax-free (for example, after one year in California).
However, many states do not provide any such safe harbor, so it’s an open question. And some, Louisiana and Kentucky, for example, charge a use tax but allow a credit for any sales tax paid to another state. Since you didn’t pay any to Montana, this won’t work for you in those states.
The key problem area is where you use a Montana LLC and drive your car in your home state anyway without having met an out-of-state use exception. Although you have a valid Montana plate, it isn’t necessarily any sort of magic safety shield.
Spradling points out that several states have taken aggressive positions on using federal income tax principles to look through the LLC to treat you as the real owner of the car, and then applying their laws to force you to title the car in your home state.
Whether the states can really do that can easily be debated, but the real question is whether you want to be the one to bear the cost (likely $25,000 to $75,000 in legal fees) — and run the risk of criminal prosecution — to prove that the Montana LLC is the magic bullet that saves you from the tax man.
JOHN DRANEAS is an attorney in Oregon. His comments are general in nature and are not intended to substitute for consultation with an attorney.