Welcome to TWIST for the week of April 18th, featuring Sarah McGahan from the Washington National Tax State and Local Tax practice.
First up today, comprehensive tax legislation was enacted in Kentucky over the Governor’s veto. The most significant change in House Bill 8 is likely the gradual, potential reduction (and possible elimination) of the state’s current 5 percent individual income tax rate. To fund the personal income tax changes, the bill expands the sales tax base to 35 new services, imposes a new excise tax on car rentals and sharing, imposes a new tax on electric vehicle charging, makes certain changes to the state and local taxation of accommodations, and adopts a tax amnesty program.
In New Jersey, the Division of Taxation recently announced that it had changed its policy and P.L. 86-272 protection for a member will be determined on an entity-by-entity basis. Originally, the Division’s form instructions and technical bulletins indicated that if one combined group member had New Jersey nexus, then no group member could claim P.L. 86-272 protection.
The New York Supreme Court, Appellate Division sustained a Tax Tribunal decision upholding a New York City General Corporation Tax assessment on a taxpayer’s capital gain from the sale of a partnership interest. On appeal, the court rather summarily concluded that the Tribunal rationally determined that the taxpayer failed to demonstrate that the City impermissibly sought to tax income attributable to the activities carried on outside its borders.
Finally, in sales and use tax news, a Texas appeals court rejected a taxpayer’s arguments that it was entitled to use a resale exemption to purchase smallwares (e.g., dishes, glasses, and utensils) used in furnishing food and beverages to customers. The court also dismissed the taxpayer’s challenges to the Comptroller’s rule addressing the application of the resale exemption to restaurants. The taxpayer had argued that the rule improperly limited the types of property that qualified for the resale exemption.
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On April 13, 2022, the Republican-controlled Kentucky General Assembly voted to override Governor Beshear’s veto of House Bill 8, which makes significant changes to the state’s tax laws. More details are below.
Individual Income Tax Rate Reduction / Phaseout
The most significant change in House Bill 8 is likely the gradual, potential reduction (and possible elimination) of the state’s current 5 percent individual income tax rate. If the Department of Revenue determines that the “reduction” conditions specified in the bill (based on balances in the state treasury and the cost of a rate reduction) exist at the end of the current fiscal year, the rate will drop by 0.5 percent for the tax year beginning on January 1, 2023. A similar exercise would repeat in future years until the tax is fully phased out. There is no change to the corporate income tax rate.
Imposition of Tax on New Services
Most other tax measures in the bill are designed to raise revenues to help fund the individual income tax cut. Currently, Kentucky imposes sales and use tax on 17 specifically enumerated services. House Bill 8 adds 35 new services to the list that will be taxable as of January 1, 2023. The list of newly taxable services is as follows:
The bill adopts definitions for certain of the newly taxable services, including “prewritten computer software access services,” which means the right of access to prewritten computer software when the object of the transaction is to use the prewritten computer software, while possession of the prewritten computer software is maintained by the seller or a third party—wherever located—regardless of whether the charge for the access or use is on a per use, per user, per license, subscription, or some other basis.
Sales and Use Tax Exemption Changes
Under Kentucky law, sales of sewer services, water, and fuel to Kentucky residents are exempt if for residential use. House Bill 8 provides that exemptions for residential use apply only if the sewer services, water and fuel are “purchased and declared by the resident as used in his or her place of domicile.” “Place of domicile" means the place where an individual has his or her legal, true, fixed, and permanent home and principal establishment, and to which, whenever the individual is absent, the individual has the intention of returning. Presumably, the Department of Revenue will issue guidance on how a utility will obtain the declarations necessary to support the residential exemptions.
An exemption also applies to persons selling newly taxable services prior to January 1, 2023 if the gross receipts from sales of those services were less than $6,000 during calendar year 2021. In that case, the seller does not have to collect tax on January 1, 2023 when the services become taxable. Rather, the seller will need to begin collecting at the point during the calendar year when the seller’s gross receipts from providing such services exceeds $6.000. A similar exemption applies to persons that first begin making sales of such services on or after January 1, 2023. Once a seller crosses the $6,000 threshold, all of the seller’s gross receipts from the newly taxable services will be subject to tax in subsequent years.
New Excise Tax on Motor Vehicle Rentals or Sharing
Effective January 1, 2023, House Bill 8 imposes a new 6 percent excise tax upon every person for the privilege of providing a motor vehicle for sharing or for rent, with or without a driver. A “person” means the holder of any of the following certificates issued by the Department of Vehicle Regulation under KRS 281.630— limousine, peer-to-peer car sharing, taxicab, transportation network, and U-Drive-It. The tax is imposed on gross receipts derived from rentals of shared vehicles by peer-to-peer car sharing companies, rentals of vehicles by car rental companies, and sales of taxi, limousine, and Transportation Network Company (TNC) services. “Gross receipts” is defined to include other fees charged for using the service and any charges for services necessary to complete the transaction.
While the tax will be the direct obligation of the peer-to-peer car sharing company, the motor vehicle renting company, or the TNC, taxicab, or limousine service provider, such tax may be charged to and collected from the user of the service. The tax should be remitted to the Department each month on forms and in accordance with any administrative regulations promulgated by the Kentucky Department of Revenue.
A “peer-to-peer car sharing company” means a person that operates a peer-to-peer car sharing program, which is a business platform that connects shared vehicle owners to shared vehicle drivers to enable the sharing of motor vehicles for financial consideration. This does not include a U-Drive-It, a motor vehicle renting company, a rental vehicle agent, or a “service provider that is solely providing hardware or software as a service to a person or entity that is not effectuating payment of financial consideration for use of a shared vehicle.”
New Tax on Electric Vehicle Charging
Electric vehicles are also addressed in the bill. A new tax (initially set at $.03 per kilowatt hour) would apply to entities operating electric vehicle charging stations, and electric vehicle owners would be subject to new fees. The charging tax would apply on or after January 1, 2023 and is imposed on electric power distributed to electric vehicles in the state. An additional surtax (initially set at $.03 per kilowatt hour) is imposed on electric vehicle power distributed in the state when the charging station is located on state property. The tax is to be added to the selling price charged at the electric vehicle charging station, but if there is no selling price at the charging station (e.g., the charging is provided for free), the electric vehicle power dealer (a person who owns or leases a charging station) shall be responsible for paying the tax.
The electric vehicle charging tax rates are to be adjusted by the Department beyond the initial $.03 per kilowatt hour on January 1, 2024 and on each January 1 thereafter based on changes in the quarterly National Highway Construction Cost Index 2.0 (NHCCI 2.0) values. The tax cannot fall below $.03 per kilowatt hour.
Owners of electric vehicles, electric motorcycles, and hybrid vehicles will also be required to pay a new electric vehicle ownership fee at the time of initial and annual registration with county clerks. The ownership fee is $120 for electric vehicles, and $60 for electric motorcycles or hybrid vehicles.
Accommodations Tax Changes
Under Kentucky law, a one percent state transient room tax applies to the rent for occupancy of rooms charged by persons doing business as a hotel, motel, or similar accommodations business. The tax does not apply to rooms or sets of rooms in an apartment building or a room(s) that is supplied with a kitchen. House Bill 8 broadens the types of accommodations subject to the statewide transient room tax to include accommodations provided at non-traditional hotels or with kitchens (e.g., short-term rentals). Accommodations supplied for a period of 30 days or more are not taxable. House Bill 8 also broadens the types of persons considered to be charging “rent” for occupancies to include “any person that facilitates the rental of accommodations by brokering, coordinating, or in any other way arranging for the rental of accommodations for consideration.”
Localities are authorized by state law to impose local transient room taxes. House Bill 8 makes similar changes to the various state laws authorizing localities to adopt transient taxes.
Updated Conformity to the IRC
For the 2021 tax year, Kentucky remained attached to the Internal Revenue Code as in effect on December 31, 2018. House Bill 8 advances the Commonwealth’s conformity to the Internal Revenue Code as in effect on December 31, 2021. The updated conformity date applies for tax years beginning on or after January 1, 2022.
Tax Amnesty Program
Finally, House Bill 8 authorizes a tax amnesty program to be conducted from October 1, 2022 through November 29, 2022. The date for the amnesty program would be pushed out to 2023 if the Department of Revenue is unable to procure a successful bid for the services of a firm to implement the program. The program will be available to all taxpayers owing taxes, penalties, fees, interest subject to the administrative jurisdiction of the department, with the exception of real property taxes and the local portion of personal property taxes. Per the bill, federal taxes, penalties, fees or interest referred to the Department from the federal government for collection purposes are also eligible for amnesty. The program will apply to tax liabilities for taxable periods ending or transactions occurring on or after October 1, 2011, but prior to December 1, 2021. As such, there is a 10-year look-back period.
Importantly, the program is not limited to only those taxpayers whose identities are unknown to the Department of Revenue. Taxpayers with ongoing audits or matters pending at the Tax Protest Resolution Unit are eligible for amnesty and may apply for amnesty on only uncontested amounts while continuing to challenge contested amounts. Participating taxpayers may qualify for penalty abatement and abatement of one-half of the interest owed. Taxpayers are not allowed to claim refunds for any amounts paid under amnesty and must agree to remain compliant with all Kentucky tax obligations for the three years following the amnesty.
As an added incentive to participate, House Bill 8 imposes additional fees on amounts that could have been paid under the amnesty if subsequently discovered by the Department of Revenue. After the expiration of the amnesty period, the Department will apply a 25 percent cost-of-collection fee on all taxes that are or become due and owing to the Department for any reporting period. Taxes that are assessed and collected after the amnesty period for taxable periods ending or transactions occurring prior to December 1, 2021 will be subject to a 25 percent cost-of-collection fee at the time of assessment. For any taxpayer who failed to file a return for any previous tax period for which amnesty was available and failed to file the return during the amnesty period, a 50 percent collection fee applies to any tax deficiency assessed after the amnesty period. Additionally, once the amnesty period expires, an amnesty-eligible tax liability that remains unpaid and not covered by an installment agreement will accrue interest at a rate that is 2 percent higher than the otherwise applicable rate. The Commissioner does have the right to waive these penalties or collection fees for reasonable cause.
The New Jersey Division of Taxation recently announced a change in policy around the application of P.L. 86-272 to combined groups. Originally, the Division’s form instructions and technical bulletins indicated that if one combined group member had New Jersey nexus, then no group member could claim P.L. 86-272 protection. However, the Division recently announced that it was revising its policy “based on concerns raised,” and under the revised policy, P.L. 86-272 protection for a member will be determined on an entity-by-entity basis. The announcement did not provide details on the concerns that had been raised. The Division’s announcement confirmed that it would be revising the technical bulletins to reflect the change in policy. Further, if a combined group filed their 2019, 2020, or 2021 CBT-100U following the return instructions and/or the guidance of the Technical Bulletins, the managerial member may amend the 2019, 2020, and 2021 CBT-100U returns reflecting the change in policy as described above. Please contact Jim Venere with questions on the revised policy.
Recently, the New York Supreme Court, Appellate Division, First Department sustained a Tax Tribunal decision upholding a New York City General Corporation Tax (GCT) assessment on a taxpayer’s capital gain from the sale of a partnership interest. The taxpayer at issue, a corporation, held an 88.91 percent interest in a limited partnership that, in turn, owned a 9.9 percent interest in an LLC engaged in business in New York City. The LLC’s activity had been reported on the corporation’s prior year GCT returns, but upon the sale of the LLC in 2010, the taxpayer excluded the capital gain in determining its entire net income. On its 2010 GCT return, the taxpayer disclosed that it was limited partner in a limited partnership that received New York City source income from a partnership doing business in New York City and acknowledged that it was subject to tax in the City solely because of such ownership. Under New York City law, GCT is imposed on corporations doing business in the City. RCNY § 11-06(a) provides that a corporation is deemed to be doing business in the City if it owns a limited partnership interest in a partnership that is doing business in the City. Previously, the Tribunal determined that the taxpayer’s disclosures, along with the fact that the taxpayer had paid tax on its share of the LLC’s income on prior year GCT returns, was an admission that the taxpayer had nexus with the City. The Tribunal then had concluded that the increase in value of the LLC interest was directly attributable to the activities of the LLC that occurred in the City. As such, the City’s imposition of tax on the capital gain was proper.
On appeal, the court rather summarily concluded that the Tribunal rationally determined that (1) the taxpayer failed to demonstrate that the City impermissibly sought to tax income attributable to the activities carried on outside its borders, and (2) that the capital gain was attributable to the value of the LLC on the date it was sold. Please contact Russ Levitt or Aaron Balken with questions on Matter of Goldman Sachs Petershill Fund Offshore Holdings Corp. v. NYC Tax Appeals Tribunal.
A Texas appeals court recently addressed whether a restaurant was entitled to a sale for resale exemption on purchases of smallwares (dishes, glasses, and utensils) used in furnishing food and beverages to customers. Under Texas law, a “sale for resale” includes the sale of tangible personal property to a purchaser who acquires the property for the purpose of reselling it (1) with or as a taxable item in the form or condition in which it was acquired or (2) as an attachment to or integral part of other tangible personal property. The restaurant’s first argument in support of its refund was that it qualified for the resale exemption because it transferred possession of the smallwares to dine-in customers, and this transfer constituted a “sale.” Although dine-in customers had access to and could use the smallwares while eating (and sometimes took them upon leaving, i.e., stole them), the dine-in customers were not permitted to take the smallwares with them as a matter of course when they left the restaurant and customers did not gain legal possession of the smallwares that was in any way superior to that of the restaurant. The court concluded that the taxpayer’s provision of the smallwares to dine-in customers did not constitute a “transfer” for purposes of the sale-for-resale exemption. The restaurant’s next argument was that because the definition of a “sale” includes the furnishing of food, meals, and drinks, it was making a sale of the smallwares to customers when they were provided along with a meal that could not be furnished or served without the smallwares. In making this argument the taxpayer tried to distinguish between the terms “meals” and “food” as support for its position that a “meal” naturally included smallwares. Again, the court was not persuaded, noting that the qualifying tangible personal property purchased for resale was the food and the furnishing of a meal was the qualifying resale activity. Lastly, the taxpayer challenged the Comptroller’s rule addressing the application of the resale exemption to restaurants (i.e., limiting it to items that were not reusable by the restaurant) on the basis that it improperly limited the types of property that qualified for the resale exemption. The taxpayer’s position was that the sale for resale exemption was intended to ensure that double taxation does not occur, and that sales tax is collected from the ultimate consumer only. The dine-in customers, the taxpayer asserted, were the ultimate consumers of the smallwares because they were used to enjoy food and beverage orders. Noting that the ultimate owner of the smallwares was the restaurant, the Court rejected the taxpayer’s contention that the rule’s effect of precluding it from claiming the sale-for-resale exemption for the smallwares was counter to the statute’s objective of taxing only the ultimate owner of the smallwares. Please contact Sarah Vergel de Dios with questions on Cheddar’s Casual Café, Inc. v. Hegar.