Are North Carolina's proposed business incentives in Senate Bill 1569, including air courier tax preferences, development zones, and recycling facility credits, constitutional?
Plain-English summary
Senate Bill 1569 was a 24-page, 19-provision economic-incentive bill the General Assembly considered in 1998. It contained income and franchise tax credits, sales tax exemptions, and ad valorem property tax preferences for several categories of businesses: air courier services with North Carolina hubs, new "development zones" working in tandem with the existing enterprise tiers, and "major" and "large" recycling facilities defined by investment and job count.
Senator Hugh Webster asked the AG to review the bill for constitutional issues. The AG identified three substantive provisions plus one cross-cutting structural problem.
Air courier services (Sec. 1, 7, 8, 9). The bill narrowed the existing "air courier services" definition to companies delivering "individually addressed" parcels. Those companies would get income, franchise, sales, and property tax preferences. The AG read the term as taken from a federal transportation classification, where it apparently maps to a weight or bulk threshold. As long as a rational basis distinguishes air-courier-by-individual-parcel from air-cargo-by-bulk, the equal-protection challenge fails. The AG analogized to In re Assessment of Taxes, 312 N.C. 211 (1989), where the NC Supreme Court upheld a sales-tax exemption that distinguished newspapers by method of distribution.
Development zones (Sec. 1). The bill added a new tax-incentive concept layered on the existing enterprise tiers under G.S. 105-129.3. The AG concluded the bill set adequate legislative standards for designation, so it did not amount to an impermissible surrender of the taxing power, which the NC Constitution forbids.
Recycling facilities (Sec. 12 to 16, 18). The bill defined "major" and "large" recycling facilities by investment cost and job creation, with "major" plants getting bigger income, franchise, sales, and property tax breaks (including a transportation-cost credit when the location prevented use of ocean barges or ships). Three-fourths of products had to meet waste-material criteria. The AG accepted that recycling is a legitimate state interest under equal-protection deference for economic regulation. Citing Zupanic v. Limbach, 58 Ohio St.3d 130 (1991), where Ohio upheld a tax classification that effectively benefited a single power plant, the AG said NC's tiered classification by investment cost would survive rational-basis review.
The cross-cutting Bailey problem. The AG saved the most important concern for last. The NC Supreme Court's 1998 decision in Bailey v. State of North Carolina, 348 N.C. 130, held that the State can enter into contracts for tax exemption that are protected by the federal contract clause. Whether a "contract" exists is determined ad hoc from the totality of circumstances. In Bailey, the Court found a contract where taxpayers had been "induced" to take certain acts that benefited the State.
The AG warned that under Bailey, tax preferences that are not sunsetted or otherwise limited in duration may become permanent. Some preferences in SB 1569 were sunsetted, others were not. Section 12's recycling credits had a sunset, but with a recital that the legislature "expects" and "intends" to postpone the sunset date. The AG flagged this as legally unclear: a declared intent to delay termination could itself create a Bailey contract, locking in the credit beyond the legislature's later wish to repeal.
The opinion is short on bottom lines and long on cautions. The AG's basic message: the equal-protection analysis is straightforward, but Bailey's contract-clause overlay means the legislature should be drafting sunsets carefully and avoiding language that might be read as inducement.
Currency note
This opinion was issued in 1998. Subsequent statutory amendments, court decisions, or later AG opinions may have changed the analysis. Treat this page as historical context, not current legal advice. Verify current law before relying on any specific rule, deadline, or remedy mentioned here.
NC's economic-incentive framework has been rewritten multiple times since 1998. The William S. Lee Act, which the bill amended, was repealed and replaced by later programs (Article 3J, the Job Development Investment Grant). The Bailey contract-clause line of cases continued to develop through the 2000s, and the legislature responded with more careful sunset and disclaimer language in subsequent incentive statutes. Anyone analyzing a current NC incentive package needs to look at the current statute and the post-1998 Bailey progeny.
Common questions
Q: What is "rational basis" review?
A: Under federal and NC equal protection, when a law does not burden a fundamental right or a suspect class, courts uphold it as long as there is some rational connection between the classification and a legitimate government interest. The level of judicial scrutiny is highly deferential. Most economic legislation passes.
Q: What did Bailey v. State hold?
A: Bailey was a class action by state and local government retirees challenging NC's removal of a tax exemption on their retirement income. The NC Supreme Court ruled that the State had impliedly contracted with employees by inducing them to serve in exchange for the tax exemption, and that removing the exemption violated the federal contract clause as to vested benefits.
Q: Why does Bailey worry the AG about SB 1569?
A: Because it suggests that any sufficiently inducing tax preference can become a "contract" with the beneficiaries. Once the contract exists, the legislature loses the power to revoke or reduce the benefit for those who acted in reliance. Permanent tax obligations are bad fiscal policy and bad sovereign-flexibility policy, so the AG wanted the legislature to think carefully about sunset language.
Q: How should a sunset clause be drafted to avoid the Bailey problem?
A: The AG did not give a model. The implication is that a clean expiration date with no language inviting reliance on extension is safest. Saying the legislature "expects" or "intends" to postpone the sunset invites investors to rely on the extension and to argue that they were induced.
Q: What is the "uniformity" requirement in NC tax law?
A: Article V, Section 2(2) of the NC Constitution requires that "no class of property shall be taxed except by uniform rule." It is interpreted similarly to federal equal protection for tax classifications, deferring to legislative judgment on classifications with a rational basis.
Q: Did SB 1569 become law?
A: This opinion was issued during the legislative session. The bill went through subsequent amendments and was enacted with changes; check the 1998 session laws for the final text.
Background and statutory framework
NC's economic-incentive program in 1998 was anchored by the William S. Lee Act (1996), which created enterprise tiers and per-job tax credits scaled by county economic distress. Article 3A of Chapter 105 housed the air-courier and related transport preferences. The recycling facility credits and the development-zone overlay in SB 1569 were the next layer of incentives, targeting specific industries the State wanted to attract or retain.
Equal protection and uniformity challenges to NC's incentive statutes were rare and almost always failed under rational-basis review. The AG's quick treatment of the air-courier, development-zone, and recycling provisions reflected that.
The bigger problem in 1998 was Bailey v. State, decided just months before this opinion. The case was procedurally narrow (it concerned a specific tax exemption on a specific retirement benefit), but its reasoning swept broadly enough to threaten any tax preference designed to induce investment or behavior. The AG was reading the tea leaves.
SB 1569's recycling credit sunset with "expectation and intent" of postponement language is the kind of drafting that Bailey made risky. The AG flagged it without resolving it: a court applying Bailey might find the recital created a contract; another court might read it as merely hortatory. The legal uncertainty itself was a drafting problem.
Citations
- N.C. Gen. Stat. Chapter 105, Article 3A (existing air courier tax framework)
- N.C. Gen. Stat. § 105-129.3 (enterprise tiers under the William S. Lee Act)
- Proposed N.C. Gen. Stat. § 105-129.20 (recycling facility credit framework in SB 1569)
- Four County Membership Corp. v. Powers, 96 N.C. App. 417 (1989) (state and federal uniformity/equal protection are basically the same)
- White v. Pate, 308 N.C. 759 (1983) (rational-basis standard and presumption of validity)
- In re Assessment of Taxes, 312 N.C. 211 (1989) (sales tax exemption distinguishing newspapers by distribution method upheld)
- Zupanic v. Limbach, 58 Ohio St.3d 130 (1991) (constitutional uniformity not abridged by power-plant classification by cost)
- Bailey v. State of North Carolina, 348 N.C. 130 (1998) (State tax exemption can be a federal contract-clause-protected contract with inducing taxpayers)
Source
Original opinion text
July 27, 1998
Senator Hugh Webster
21st District
Senate Minority Whip
North Carolina General Assembly
Room 1101 Legislative Building
Raleigh, North Carolina 27601-2808
Re: Advisory opinion: Constitutionality of Senate Bill 1569; incentives for new businesses; development zones; air courier hubs; recycling facilities; investment tax credits; sales and property tax exemptions
Dear Senator Webster:
By recent letter you request our opinion as to the constitutionality of Senate Bill 1569 ("the Bill"). The proposed legislation runs 24 pages and contains 19 substantive provisions with various effective dates. Due to its length, we address only those features likely to present substantial constitutional issues.
The requirements of "uniformity" and "equal protection" are basically the same under both the state and federal constitutions. Four County Membership Corp. v. Powers, 96 N.C. App. 417, 424 (1989). If a statutory classification does not burden the exercise of a fundamental right, the government need only show that the classification has "some rational basis." White v. Pate, 308 N.C. 759, 766 (1983). Statutes which do not restrict basic freedoms or disadvantage a suspect class enjoy a presumption of validity. Id.
Section 1 of the Bill in part redefines "air courier services" as presently used in Article 3A of Chapter 105 to limit that term to persons providing air delivery of "individually" addressed parcels. Such companies qualify for extensive income and franchise tax credits, are granted lower rates of taxation and/or exemption from sales taxes, and are given ad valorem tax immunity for aircraft used in such activities. Sec. 7, 8, and 9. We believe that valid governmental interests may be served by granting tax preferences to entities that provide delivery services by air, as opposed to that by rail, bus or otherwise. See, e.g., In re Assessment of Taxes, 312 N.C. 211, 220 (1989), where the Court found no constitutional infirmity with a sales tax exemption for newspapers dependent upon method of distribution. The term "air courier services" is taken directly from a federal publication which classifies various providers of transportation services. From the materials we have been able to examine, the meaning or significance of "individually addressed" parcels is unclear. The full federal definition suggests that the classification relates generally to the weight of the transferred materials. If the airline industry has naturally evolved into types of carriers determined by the weight or bulk of the delivered parcel, a tax preference recognizing these differences would not be unreasonably narrow.
Section 1 also adds a tax incentive concept new to North Carolina in the form of "development zones." These demographical areas are intended to work in tandem with the "enterprise tiers" currently allowed under G.S. 105-129.3. The Bill appears to adequately set legislative standards for selection of development zones by state and local officials, and consequently, for the tax advantages which automatically flow from such designations. Accordingly, recognition of these areas does not appear to constitute an impermissible surrender of the power of taxation as forbidden by the North Carolina Constitution.
In Section 12 the Bill provides franchise and income tax credits for machinery and equipment purchased or leased for use at "major" or "large" recycling facilities. Three-fourths of the products manufactured by these plants must satisfy minimum criteria as to waste material content. Whether a facility is major, large, or otherwise, depends upon the amount invested in construction of the plant and the jobs created.
Major facilities are granted greater tax credits than are large plants, and only they qualify for tax credits equal to transportation expenses incurred if their particular location prevents them from utilizing "ocean barges or ships." Proposed G.S. 105-129.20. Moreover, only major facilities receive an ad valorem tax exemption for real and personal property, and qualify for substantial sales tax preferences, including exemption for purchases of electricity, reduced rates of tax for specific types of personal property, and refunds for other kinds, such as lubricants and general building supplies. Sec. 13-16, 18.
An increasing deluge of waste threatens the environment and stretches the state's available landfill and waste retention sites. Encouragement of waste recovery thru allowance of tax preferences for recycling facilities thus appears to further a legitimate governmental interest. While the bill establishes dramatic differences in tax benefits predicated primarily upon investment cost, equal protection principles accord considerable deference to how economic legislation is shaped. On this record, we cannot conclude that the increased economic stimulus and environmental benefits generated by the biggest recycling plants do not justify the additional preferences which the Bill provides only to major facilities. See, e.g. Zupanic v. Limbach, 58 Ohio St.3d 130 (1991) (constitutional uniformity not abridged by statute which classified electrical power plant by cost and applied to only one existing facility).
Finally, we would be remiss if we did not mention the apparent major change imposed by Bailey v. State of North Carolina, 348 N.C. 130 (1998) upon the General Assembly's traditional powers to provide rationally based tax preferences. The majority in Bailey held that the state is empowered to enter into contracts for tax exemption, and once made they are protected by the impairment clause of the federal constitution. Id. p. 148. Whether a "contract" for a tax preference has been created is determined upon an ad hoc basis, based upon the totality of the circumstances. Id. p. 146. In Bailey, the Court found that the plaintiffs possessed a valid contract for a tax exemption because they had been "induced" to take certain valid acts, which benefitted the State and, accordingly, had secured "vested rights" which could not be diminished later. Id. pp. 144-46.
Bailey instructs that unless tax exemption provisions are sunsetted or otherwise overtly limited in duration, they may become permanent in certain situations. Some tax preferences within Senate Bill 1569 are sunsetted, others are not. However, Section 12 curiously is sunsetted but with the "expectation and intent" that the legislature will "postpone" the designated sunset date. See Sec. 19. Given Bailey, the legal effect of a declared intent to delay a statute's termination date is unclear to us.
We hope the foregoing is helpful.
signed by:
Andrew A. Vanore, Jr.
General Counsel
George W. Boylan
Special Deputy Attorney General