PODCAST

TWIST - This Week in State Tax

Summary of state tax developments in Idaho, New Mexico, New York and Multistate updates.

Click on the tabs for the detailed developments:

  • Weekly TWIST recap
  • Idaho
  • New Mexico
  • New York
  • Multistate

Weekly TWIST recap

Welcome to TWIST for the week of March 14th, featuring Sarah McGahan from the Washington National Tax State and Local Tax practice.

First up today, legislation is pending signature in Idaho that would adopt single-sales factor apportionment and market-based sourcing for receipts from sales other than sales of tangible personal property. The legislation, House Bill 563, would also revise definitions used in the apportionment statute and clarify the provisions around the use of an alternative apportionment formula.

In New Mexico, legislation was signed into law that reduces the state’s gross receipts tax rate from 5.125 percent to 5.0 percent on July 1, 2022. The bill provides for a further gross receipts tax rate reduction on July 1, 2023, but then provides for the rate to go up in the future if the gross receipts tax fails to generate sufficient revenue. Another recently enacted bill allows pass-through entities to elect to pay tax at the entity level. The election is available for tax years beginning on or after January 1, 2022.  

In other news, the New York Supreme Court, Appellate Division has unanimously affirmed a Tax Appeals Tribunal decision holding that a corporate owner of a disregarded SMLLC that was an SEC-registered broker-dealer could not source receipts that were derived outside of that SMLLC broker-dealer using the state’s broker-dealer customer sourcing rules. In other words, on the overall corporate return, the corporate owner’s receipts could not be sourced using the broker-dealer rules because the corporate owner legal entity was not itself a registered securities broker-dealer. Unless the taxpayer seeks an appeal to New York’s highest court, this decision constitutes binding precedent for the pre-2015 corporate tax, as well as for the post-2015 tax years The case is equally binding precedent for the New York City UBT purposes, as well as the City tax on S Corps, both of which contain the same broker-dealer sourcing rules.

Finally, two states- New Jersey and Pennsylvania- recently issued guidance on the federal Employee Retention Credit. Under federal law, taxpayers cannot deduct wages that are the basis of the credits. Both states confirmed that corporate taxpayers are not allowed state deductions for disallowed federal wage expenses.   

Thank you for listening to TWIST and stay well!

Idaho

Idaho: Legislation Modifying Apportionment Provisions Passes Legislature

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Idaho House Bill 563, which has been presented to Governor Little for signature, would modernize Idaho’s apportionment provisions. Currently, the state generally requires use of a three-factor double weighted sales apportionment formula to apportion the income of a multistate taxpayer. Additionally, the income-producing activity test applies to source all sales of other than tangible personal property. House Bill 563 would update the state’s apportionment definitions, adopt single-sales factor apportionment for most corporations, and move the state to market-based sourcing rules for sales other than sales of tangible personal property. Specifically, under the revised sourcing rules, service receipts will be sourced to Idaho to the extent the service is delivered to a location in Idaho. Intangible receipts will generally be sourced based on location of use.  The bill allows certain types of corporations— electronical corporations, telephone and communications companies, and companies using special industry apportionment—to elect to continue to use a three-factor formula. A “communications company” as defined, may also elect to continue to use the income-producing activity test to source sales other than sales of tangible personal property.

In addition to the new sourcing rules, House Bill 563 revises the statute authorizing a taxpayer or the taxing authority to apply an alternative apportionment method. A party (either the taxpayer or the State) petitioning for the use of another method to apportion income must prove by a preponderance of the evidence that (1) the statutory provisions do not fairly represent the extent of the taxpayer’s business activity in Idaho, and (2) the alternative is reasonable. The revised law makes clear that the same burden of proof shall apply regardless of whether the taxpayer or the State Tax Commission is advocating for the use of any other reasonable method. However, if the State Tax Commission can show that in any two of the prior five years the taxpayer had used an allocation or apportionment method at variance with its allocation or apportionment method or methods used for such other tax years, then the State Tax commission shall not bear the burden of proof in imposing a different method.  If the State Tax Commission requires a taxpayer to use an alternative method, it cannot impose any penalties if additional tax is due because of the alternative method. Once enacted, House Bill 563 is effective retroactively to January 1, 2022. Please contact Chris Hoge at 415-963-8241 with questions on House Bill 563. 

New Mexico

New Mexico: Gross Receipts Tax Rate Reduced; SALT Cap Workaround Enacted

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On March 8, 2022, legislation (House Bill 163) was signed into law that reduces New Mexico’s gross receipts (sales) tax and compensating (use) tax rate to 5 percent effective on July 1, 2022. The rate will be further reduced to 4. 875 percent beginning July 1, 2023. However, for any single fiscal year occurring after Fiscal Year 2025 and prior to Fiscal Year 2030 that the state’s gross receipts tax revenues for the current fiscal year are less than 95 percent of the gross receipts tax revenues for the previous fiscal year, the gross receipts tax rate will be 5.125 percent beginning on July 1 following the date of the Secretary’s determination, which will occur on or before February 1. If the gross receipts tax rate increases to 5.125 percent, the compensating tax rate will likewise be increased.

In other news, New Mexico House Bill 102, which was also enacted on March 8, 2022, allows pass-through entities to elect to pay tax at the entity level. The election is available for tax years beginning on or after January 1, 2022. The entity-level tax is imposed on the distributed net income of the pass-through entity for the taxable year. The rate of entity-level tax is equal to the higher of the maximum corporate income tax rate or the maximum personal income tax rate for the tax year. Income subject to the new entity level tax is exempt from personal income tax or corporate income tax.  Please stay tuned to TWIST for future legislative updates.

 

New York

New York: Broker-dealer sourcing rules do not extend to non-broker receipts included in the same return

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The New York Supreme Court, Appellate Division has unanimously affirmed a State Tax Appeals Tribunal decision holding that a corporate owner of a disregarded single member limited liability company (SMLLC) that was an SEC-registered broker-dealer could not source receipts that were derived outside of that SMLLC broker-dealer using the state’s broker-dealer customer sourcing rules. In other words, on the overall corporate return, the corporate owner’s receipts could not be sourced using the broker-dealer rules because the corporate owner legal entity was not itself a registered securities broker-dealer. Accordingly, investment advisory service revenues, earned in the pre-2015 litigated years outside of the SMLLC broker-dealer, were required to be receipts-factor sourced by the relative costs of performance approach, which generally looked to where the services were performed.  Recall, beginning with the 2015 tax year, “market-based sourcing” was implemented for New York State and City corporate tax purposes (which the broker-dealer sourcing rules have long included, though the 2015 tax reform’s “benefit received” result is not necessarily the same as derived in the broker-dealer context). New York City continues to apply the relative costs of performance sourcing method for service receipts for purposes of the City UBT and City tax on S Corporations, outside of a broker-dealer filer.

The court noted at the outset of its rationale that the standard of review to be applied was whether the Tribunal’s determination had a rational basis, not whether the taxpayer’s interpretation of the statute was also reasonable.  The BTG Pactual taxpayer had argued that because the disregarded SMLLC broker-dealer was part of a single corporate tax return per “check-the-box,” its broker-dealer status should extend to a different legal entity’s receipts within that same tax return. However, the statute at issue, the court reasoned, was unambiguous in that only registered broker dealers were allowed to use such customer-based sourcing rules. Further, the court rejected the taxpayer’s assertion that the doctrine of federal conformity required a different result. Although New York courts have advocated for conformity where the federal and state statutes are substantially similar or where the state law is modeled on federal law, the court found that any “modeling” was “manifestly absent” in the instant case, as the federal tax law had no counterpart to the state’s sourcing rules.  The court concluded that because the Tribunal’s decision was rationally based and supported by substantial evidence, the Tribunal’s conclusion was entitled to deference.

This decision aligns with previous guidance which had been published by the Department in a 2017 TSB-M bulletin, as well as a 2016 New York City Department of Finance audit division pronouncement (though contrary to earlier published guidance from those agencies). Unless the taxpayer seeks an appeal to New York’s highest court, this decision constitutes binding precedent for the pre-2015 corporate tax (which were the years litigated), as well as for the post-2015 tax years when the receipts factor regime was modified towards a general “market sourcing” approach while retaining the longstanding broker-dealer customer sourcing regime. The case is equally binding precedent for the New York City UBT purposes, as well as the City tax on S Corps (per City Charter § 170.d), both of which contain the same broker-dealer sourcing rules. Please contact Russ Levitt at 212-872-6717 with questions on BTG Pactual NY Corp v. New York State Tax Appeals Tribunal. 

Multistate

Multistate: Guidance Issued on Employee Retention Credits

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A couple of states have recently issued guidance on the state treatment of the federal Employee Retention Credit (ERC). The ERC is a refundable tax credit of 50 percent (or 70 percent for wages paid during the first 3 quarters of 2021) of up to $10,000 in wages paid by an eligible employer. For federal purposes the wages that are the subject of the credit cannot be deducted by the employer. In recent guidance, the Pennsylvania Department Revenue announced that there is no statutory provision allowing deductions for disallowed federal wage expenses for corporate net income tax purposes. This means a corporate net income taxpayer cannot make an adjustment for the ERC. However, for personal income tax purposes, a taxpayer can deduct any reduction to the wage expense for federal tax purposes that is a result of a credit against taxes withheld from the employee. This would include federal income tax withholding, federal wage expenses and employee FICA withholding. However, the Department notes that a reduction to the wage expense that is a result of a credit against the employer’s own FICA liability would not be deductible. In addition to Pennsylvania, the New Jersey Division of Taxation recently confirmed that taxpayers that claim a federal Employee Retention Tax Credit on their returns are not entitled to an additional deduction for the expenses disallowed at the federal level due to the taxpayer taking the credit. Please stay tuned to TWIST for additional ERC updates.

 

 

Podcast host

Sarah McGahan

Sarah McGahan

Managing Director, State & Local Tax, KPMG US

+1 213-593-6769