Monday, April 30, 2012

Diago-Guiness USA v. State Bd. of Equalization (Cal. Ct. App. - April 30, 2012)

When I read this opinion, I thought:  "This is awesome.  I'm going to start a new business today.  It'll get people drunk faster and also sleaze California out of taxes.  What's not to like?"

But then I did a little research.  And discovered that the spirits manufacturers have already beaten me to it.  In spades.


The question in the appeal is how you tax certain forms of liquor.  The statute in California distinguishes between "beer" and "spirits".  Beer is taxed at twenty cents per gallon, whereas spirits are taxed at either sixteen-and-a-half or thirty three times that rate.  On the theory, I imagine, that we prefer beer to bourbon.  Which is true for me, at least.

This taxation regime seems pretty straightforward.  But at issue is how you tax what are called in the appeal "flavored malt beverages."  There's another term for them as well that's more colloquially used.  "Alcopop."  These are the spirits that you're increasingly seeing all over the place, and that young kids find especially appealing.  Mike's Hard Lemonade.  Smirnoff Ice.  Bacardi Breezer.  Sky Blue.  You've seen 'em.  And if you're anything like me, you've also imbibed them.  Yummy.

Flavored malt beverages ("FMBs") can be made in one of two ways.  First, you can just mix vodka (or whatever other spirit you're using) with whatever juice or other flavoring you're using to mask the taste and, boom, you've got something that 16-year olds love.  Which works from a marketing perspective, but from a tax perspective, you're clearly a "spirit" with this product, so you get taxed at the higher rate.

But here's where the brilliant folks at our alcohol manufacturers come in.  You can also make FMBs another way.  You can brew some beer, and then take everything out of the beer -- all colorness, bitterness, and taste -- essentially leaving only water, and then add the juice as well as lots of alcohol.  You're essentially doing the same thing you're doing in the alternative procedure.  But now, since you started with beer, you can call it "beer" and be taxed at the substantially lower rate.  Ta-da!

And they say that lawyers don't add any value to society.  Pshaw.

The California State Board of Equalization gets wind of this and decides that, nope, FTBs are spirits if they have a spirit- (rather than beer-) like alcohol content.  But the alcohol manufacturers aren't taking this lying down.  They file suit.  Proclaiming that teenagers have a constitutional right to get drunk on candy cheaply.  Or, more accurately, that California's taxing authorities have no power to decide what gets taxed as "beer" under the statute, only the California Department of Alcoholic Beverage Control (the ABC).

Guiness loses in the trial court.  But the Court of Appeal reverses.  Cheap drinks for everyone!

The relevant statutes and regulations are complex, and you can read the entire 25-page opinion if you'd like.  But I must say that -- as my comments perhaps reflect -- I'm not entirely persuaded by the result.  It seems to me that the taxing authorities get to decide what gets taxed in the gray area that exists here, and that that's not inconsistent with letting the ABC decide how to substantively regulate this gray area.  And the Court of Appeal also expresses a conclusion on the merits that says that taxation of FMBs as "spirits" is substantively irrational regardless of which agency applies this principle.  That seems even less persuasive.  If it looks like a spirit and tastes like a spirit and has the wallop of a spirit, it makes total sense to me for a state to treat it like a spirit if it so chooses, notwithstanding the fact that this product started out as a beer that was turned into essentially water to be added to the spirit.  Sure, you could adopt a contrary regulation, but that's up to the state.  If it wants to tax these kiddie entrees into the hard-drinking world as spirits -- or at an even higher rate -- that's up to them.

So my idea to start up a new business with cheap alcohol apparently flounders against the reality that some of the brightest minds of our generation -- both legal and non-legal -- have already done so.

And have prevailed.