TWIST - This Week in State Tax

Welcome to TWIST for the week of July 18th, featuring Sarah McGahan from the Washington National Tax State and Local Tax practice.

A Connecticut superior court recently ruled in favor of the Commissioner of Revenue Services in a dispute as to whether a corporate taxpayer qualified for fixed capital investment tax credits. The taxpayer was the sole member of two LLCs treated as disregarded entities under the federal check the box rules. The court concluded that the corporation could not claim the credits because the qualifying purchases were made by the LLCs. Notably, the credit statute did not address LLCs and required that the fixed capital asset be held and used by a “corporation” in the state.

In New Jersey, the tax court concluded that a manufacturer of corrugated cardboard shipping containers and advertising displays was subject to the state’s litter fee, which is in actuality a tax imposed on “each person engaged in business in the State as a manufacturer, wholesaler, or distributor of litter generating products.”  The court rejected the taxpayer’s argument that it was exempt from the litter fee because it recycled and also concluded that the taxpayer’s displays did not have an artistic value that excluded them from the scope of the tax.

In legislative news, Senate Bill 281, which was recently enacted in Delaware, makes numerous changes to the state’s unclaimed property laws. Notably, the bill expands the state’s authority to enforce the unclaimed property statutes.

The Washington State Department of Revenue recently issued an “interim” statement on the tax treatment of non-fungible tokens or NFTs.  At this point, the Washington guidance is the most comprehensive document issued by any state taxing authority addressing the tax issues associated with NFTs. Its coverage includes, but not limited to, determining the taxability and selling price of NFTs and the sourcing rules that apply to retail sales of NFTs, confirming that marketplace facilitators will be required to remit taxes on sales of NFTs, and providing guidance on the B&O tax treatment of income from sales of NFTs.

Thank you for listening to TWIST and stay well!

Connecticut: Credit Disallowed for Investments Made by Disregarded LLCs

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A Connecticut superior court recently ruled in favor of the Commissioner of Revenue Services in a dispute as to whether a taxpayer qualified for fixed capital investment tax credits. The taxpayer was a corporation that was the sole member of two LLCs treated as disregarded entities under federal check the box rules. During the tax years at issue, the LLCs purchased “new fixed capital investments” that qualified for Connecticut’s fixed capital investment tax credit. The corporation did not take the credits on its original returns, but later filed amended returns claiming credits for the investments made by the LLCs. The Commissioner disallowed the credits, and the taxpayer eventually filed a motion for summary judgment that it was entitled to the credits as a matter of law.

The court noted at the outset that the credit statute, which did not address LLCs, required that the fixed capital asset be held and used by a “corporation” in the state. The taxpayer argued that because the LLCs had elected to be treated as disregarded entities for federal tax purposes, it should be entitled to all the tax attributes of the LLCs, including the fixed capital investment credits at issue.  The court disagreed. First, it noted that the federal check the box regulations specified that disregarded entities are treated as entities separate from their owner for purposes of tax refunds and tax credits. In addition, the court observed that the language of the statute did not explicitly allow for indirect attribution of eligibility elements of the tax credit. Instead, the court drew attention to several other Connecticut tax credits in which the express language allowed corporations to claim credits based on activities or expenditures of disregarded LLCs. Principles of statutory construction counseled against reading language that is expressly included in other statutes into the law in which the language is wholly missing. Finally, the court determined it must give deference to the Commissioner’s interpretation of the law, especially when consistent with the wording of the statute and statutory construction principles. In conclusion, the court denied the taxpayer’s motion for summary judgment on the basis that a corporation, which has not itself made new fixed capital investments, cannot be eligible for a tax credit under § 12-217w solely based upon the new fixed capital investments of SMLCCs treated as disregarded entities.   The court also determined that genuine issues of material fact remain to be discerned as to the taxpayer’s eligibility for the tax credit. Please contact Joel Reitz  at 860-297-5498 with questions on Marmon Wire & Cable, Inc. v. Commissioner. 

Delaware: New Unclaimed Property Legislation Expands Enforcement Authority

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On June 30, 2022, Delaware Senate Bill 281 was signed into law and became effective on that date.  In addition to clarifying certain provisions of the state’s unclaimed property law, the bill expands the authority of the state relating to enforcement of the law. 

Verified Reports and Compliance Reviews

Senate Bill 281 modifies provisions in current law that permit the State Escheator to require a business (known as the “holder”) to file a “verified report” or to undergo a “compliance review.”  Previously, for the Escheator to require a verified report from a holder, the holder must have filed a report that the Escheator has reason to believe is inaccurate, incomplete, or false.  The revised law permits the Escheator to require a verified report regardless of whether the holder has filed a report and regardless of whether the Escheator has reason to believe a filed report is inaccurate, incomplete or false. In addition, historically, the Escheator was required to have reason to believe that the holder filed an inaccurate, incomplete, or false report before it may require a holder to undergo a compliance review.  Senate Bill 281 eliminates the requirement for the Escheator to have a reason to believe that the holder filed an inaccurate, incomplete or false report before initiating a compliance review.

Audits and Voluntary Disclosure Agreement Program

Prior to the enactment of Senate Bill 281, unless certain circumstances existed, the Escheator could not initiate an unclaimed property audit of a holder without the Delaware Secretary of State (“SOS”) first inviting the holder to participate in the voluntary disclosure agreement (“VDA”) program (click here for more information on the SOS VDA program).  Under Senate Bill 281, the State Escheator can now initiate an audit without a prior VDA invitation if the State Escheator determines that the holder has not completed or responded to a verified report or compliance review.

Retaining Records

Senate Bill 281 extends the record retention period if a holder is under audit, has submitted a request to enter into the Secretary of State’s VDA program, and/or is involved with any related appeal or litigation.  In these instances, the holder must now retain records up to the present day for 10 years plus the applicable dormancy period (meaning potentially up to 15 years) before the earliest of:

• the State Escheator's delivery of notice of exam to a holder,
• the Secretary of State's delivery of notice that business may enter into a VDA, or
• the holder's written election to enter into an unclaimed property VDA.

Also, a business/holder must retain records of items that were not reported as unclaimed to permit the Escheator to determine whether the holder has complied the statute.

Securities Liquidation

For holders that are obligated to report and remit securities, Senate Bill 281 permits the Escheator to liquidate securities remitted by a holder prior to sending the owner notice that the security is being held by the Escheator.  Also, if the Escheator determines after reasonable inspection that a notice to the owner may not be received, the Escheator may take reasonable steps to correct, update, or validate the owner’s last-known address to make it more likely that the notice will be received by the owner.  In addition, the statutory language is modified to relieve the State Escheator and the State of Delaware of liability due to securities or other non-money items being liquidated if one of the following applies: notice has been sent, the State Escheator has not acted unreasonably in determining that mailed notice would not be received by the owner, or the State Escheator does or does not take reasonable steps to correct, update, or validate the last-known address of the owner to make it more likely the notice will be received by the owner. 

Property Owed to Governments outside Delaware is Excluded

Finally, Senate Bill 281 excludes property for which the apparent owner is a foreign government, the federal government, any other state government, or any local or municipal government not within the state of Delaware from the definition of property to be escheated to the State of Delaware.

KPMG’s National Unclaimed Property practice has reviewed the impacts of these changes in the Delaware unclaimed property law. For more information, contact a KPMG professional in our Unclaimed Property Practice:

Nina Renda | +1 (973) 912-6528 | akrenda@kpmg.com

Marion Acord | +1 (404) 222-3053 | marionacord@kpmg.com

Will King | +1 (214) 840-6107 | williamking@kpmg.com

Jenna Fenelli | +1 (973) 912-4546 | jfenelli@kpmg.com

New Jersey: Manufacturer of Cardboard Boxes and Displays Subject to Litter Tax

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The New Jersey Tax Court recently held that a cardboard manufacturing business was subject to the state litter tax. The taxpayer, a manufacturer of corrugated cardboard shipping containers and advertising displays, failed to file any New Jersey returns for the 2006 through 2012 tax years. Following an audit, the taxpayer challenged the Division of Taxation’s $14,619.30 litter fee assessment. Under New Jersey law, the litter fee, in actuality a tax, is imposed on “each person engaged in business in the State as a manufacturer, wholesaler, or distributor of litter generating products.” Specifically, the Division assessed the taxpayer as a manufacturer of a paper product, which is “produced, distributed, or purchased in disposable containers, packages or wrappings.” The taxpayer first argued that because it recycled its products, it should not be subject to the tax. The court rejected this position, noting that the plain language of the statute did not allow for an exclusion when a manufacturer recycles “litter-generating” products. The taxpayer next argued that its displays used to advertise a customer’s products had an artistic value that superseded their utilitarian purpose. However, the court held that the rationale behind excluding literary material, such as books and magazines, from the litter fee did not apply in this case. As such, the court found that the taxpayer’s cardboard displays were “paper products” that were “produced, distributed, or purchased in disposable containers, packages or wrappings,” outside of any artistic or non-utilitarian exception. Please contact Rich Salsano with questions on Sutherland Packaging Inc. v. Director, Division of Taxation

Washington State: Comprehensive Interim Guidance Issued on Taxability of NFTs

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The Washington State Department of Revenue recently issued an “interim” statement on the tax treatment of non-fungible tokens or NFTs.  At this point, the Washington guidance is the most comprehensive document issued by any state taxing authority addressing the tax issues associated with NFTs. Its coverage includes, but not limited to, determining the taxability and selling price of NFTs and the sourcing rules that apply to retail sales of NFTs, confirming that marketplace facilitators will be required to remit taxes on sales of NFTs, and providing guidance on the B&O tax treatment of income from sales of NFTs.

After first explaining what NFTs are, the document generally describes terms used by industry participants. The guidance describes an NFT as a “unique digital identifier that cannot be copied, substituted, or subdivided, that is recorded in a blockchain, and that is used to certify authenticity and ownership of a specific type of product.” NFTs are distinguishable from cryptocurrency, which is fungible, based in part on the unique nature of NFTs.

With respect to the tax treatment of NFTs, the Department notes that it is critical to consider: a) whether the transaction is comprised of multiple components or merely a digital code which grants the owner access to a digital good, b) the taxability of each underlying component, and c) the identity of the parties to the transaction (e.g., is the purchaser a consumer or reseller?) Generally, the selling price of an NFT is measured by the consideration received by the seller, whether from the purchaser or a third party. The Department anticipates that, in some cases, consideration will be received in the form of cryptocurrency. If a seller receives cryptocurrency in exchange for an NFT, the value of the cryptocurrency tendered must be converted to U.S. dollars as of the time of the sale.

The guidance sets forth certain types of arrangements involving NFTs, including one situation in which the object of the purchase is a standalone digital product (i.e., the NFT itself). Examples include digital artwork, photographs, video clips, autographs, etc. The Department notes that with respect to this type of transaction, the sale of a digital product is generally subject to Washington State retail sales tax, and the seller will also be subject to retailing B&O tax measured by the gross proceeds of the sale.

The Department anticipates that sales of NFTs may entitle the purchaser to a digital product (i.e., the NFT itself) and one or more other products or services. In these situations, the seller must determine the taxability of each good or service included in the sale. When considering transactions that involve the sale of products that both do and do not constitute a “retail sale,” for one nonitemized price, the “bundled transaction” statutes control whether the entire sale price is subject to retail sales tax or whether each item provided is taxed separately.

With respect to the sourcing of sales of NFTs for sales tax purposes, the guidance reminds taxpayers of the sourcing rules for retail sales of digital products and also addresses how income from sales of NFTs will be sourced for B&O purposes.  The document includes four examples of sales transactions involving NFTs.

Finally, the guidance indicates that persons meeting the definition of marketplace facilitator under Washington law will be required to collect retail sales tax on taxable transactions involving NFTs. Further, marketplaces taking a commission from retail sales of NFTs sourced to Washington are subject to B&O tax under the service and other activities category.

The Department notes that the statement is not intended to be comprehensive, and that it anticipates conducting future stakeholder efforts with the goal of developing more permanent and comprehensive guidance. For taxpayers that require binding guidance, the Department encourages requests for binding letter rulings on the topics addressed in the interim guidance. Please stay tuned to TWIST for more updates on state tax issues associated with NFTs.