WHO TO CONTACT DURING THE LIVE EVENT For Additional Registrations: -Call Strafford Customer Service 1-800-926-7926 x10 (or 404-881-1141 x10) For Assistance During the Live Program: -On the web, use the chat box at the bottom left of the screen If you get disconnected during the program, you can simply log in using your original instructions and PIN. IMPORTANT INFORMATION FOR THE LIVE PROGRAM This program is approved for 2 CPE credit hours. To earn credit you must: • Participate in the program on your own computer connection (no sharing) – if you need to register additional people, please call customer service at 1-800-926-7926 x10 (or 404-881-1141 x10). Strafford accepts American Express, Visa, MasterCard, Discover. • Listen on-line via your computer speakers. • Respond to five prompts during the program plus a single verification code. You will have to write down only the final verification code on the attestation form, which will be emailed to registered attendees. • To earn full credit, you must remain connected for the entire program. State Corporate Income Apportionment: Key Fundamentals and Legislative Trends TUESDAY, MAY 30, 2017, 1:00-2:50 pm Eastern FOR LIVE PROGRAM ONLY
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WHO TO CONTACT DURING THE LIVE EVENT
For Additional Registrations:
-Call Strafford Customer Service 1-800-926-7926 x10 (or 404-881-1141 x10)
For Assistance During the Live Program:
-On the web, use the chat box at the bottom left of the screen
If you get disconnected during the program, you can simply log in using your original instructions and PIN.
IMPORTANT INFORMATION FOR THE LIVE PROGRAM
This program is approved for 2 CPE credit hours. To earn credit you must:
• Participate in the program on your own computer connection (no sharing) – if you need to register
additional people, please call customer service at 1-800-926-7926 x10 (or 404-881-1141 x10). Strafford
accepts American Express, Visa, MasterCard, Discover.
• Listen on-line via your computer speakers.
• Respond to five prompts during the program plus a single verification code. You will have to write
down only the final verification code on the attestation form, which will be emailed to registered
attendees.
• To earn full credit, you must remain connected for the entire program.
State Corporate Income Apportionment:
Key Fundamentals and Legislative Trends
TUESDAY, MAY 30, 2017, 1:00-2:50 pm Eastern
FOR LIVE PROGRAM ONLY
Tips for Optimal Quality
Sound Quality
When listening via your computer speakers, please note that the quality
of your sound will vary depending on the speed and quality of your internet
connection.
If the sound quality is not satisfactory, please e-mail [email protected]
• How do you determine how much income is taxable in one state versus another?
• The states generally provide two mechanisms for attributing a taxpayer's income to the various states in which it is taxable: allocation and apportionment.
• Nonbusiness income is “nonapportionable” or allocated to a specific state.
• Business income is “apportionable” based on representative factors in a state.
• Business income is related to the taxpayer’s trade or business
• Typically all income is business income unless proven otherwise
• The Transactional Test & Functional Test ─ Transactions and activity in the regular course of business
─ If the acquisition, management, and disposition of property constitute integral parts of the regular business operations, then the corresponding income is business income
Corporate Versus Flow-through Apportionment Variations
• Many states altering their apportionment methodology for corporate purposes often time maintain their prior entity-level apportionment formula for pass-through entity activity
• States such as New York and New Jersey have different apportionment formulas and sourcing methodologies for corporations and pass-through entities (i.e. market-based, single sales factor versus cost of performance, three-factor formula for pass-through entities
• Attention should be paid to not rely on corporate apportionment and sourcing treatment when evaluating a pass-through entity
• The property factor contains in some combination 1) owned realty; 2) owned personalty; 3) rented realty and 4) rented personalty
• Traditionally a component of most states apportionment formulae, following the sustained constitutionality of Iowa's single-factor sales formula in Moorman Mfg. Co. v. Bair, 437 US 267, 98 S. Ct. 2340 (1978), many states abandoned the traditional three-factor formula for formulas weighted heavily, if not exclusively, by sales
• The property factor has decreased in significance, if not in its entirety, from many states' apportionment formulas.
• The states generally have recognized that it is distorting to include in the property factor for apportionment purposes property that produces allocable—rather than apportionable—income
• Intangible property is generally excluded from the property factor, as states historically excluded intangible income from the apportionable tax base, in order to prevent apportionment distortion
• As a consequence, insofar as states allocate rents and royalties from real and tangible personal property, or gains from the sale or disposition of such property, they often exclude such property from the property factor
• The payroll factor, which is somewhat more varied throughout the United States than the property factor, trends towards the UDITPA definition: ─ “compensation” (which is the usual term employed by the statutes
for the payroll factor) as “wages, salaries, commissions and any other form of remuneration paid to employees for personal services.”
─ Other state apportionment laws adopt essentially the same language ─ These provisions are modeled after the definition of “wages” in the
Federal Unemployment Tax Act, and state taxing authorities generally construe them in accordance with the IRS's interpretation of that act as embracing all compensation for services as an employee whether paid in cash or in kind, which is treated as gross income for federal income tax purposes
Sales Factor • The terminology identifying the sales or receipts factor varies among
the states has a much broader scope than receipts from sales of tangible personal property
• The Sales Factor typically includes receipts from services, rentals, royalties, sales of stock, and business operations generally, at least in the absence of some specific statutory or regulatory limitation on its scope
• Under UDITPA it covers “all gross receipts of the taxpayer not allocated” as nonbusiness income
• The universe of receipts included in the receipts factor is generally defined by reference to the receipts that give rise to apportionable income.
The Move to a Single Sales Factor • By downgrading the effect of the property and payroll factors and
upgrading the effect of the sales factor, it is said that this makes it possible to “export the tax.”
─ The out-of-state manufacturer who sells in the state will pay more tax and the in-state manufacturer who sells out of the state will pay less tax than would be the case under an evenly weighted three-factor apportionment formula.
• Maintains headquarters of company within the State
• Iowa was the first state to carry this theory to the extreme by adopting a single-factor formula consisting of only a sales factor.
• Iowa successfully defended its use of a single sales factor in the U.S. Supreme Court.
• A number of states currently double-weight the sales factor, while some other states have added even more weight to the sales factor. Some states have followed Iowa and use a 100 percent sales factor apportionment formula.
• Certain states often use the single sales factor for its industry specific and special purpose application and elections. For example, Massachusetts allows manufacturing corporations to apportion income using a single-factor formula based on sales
• Connecticut requires a single-factor gross receipts apportionment formula for manufacturers starting with calendar quarters ending on or after July 1, 2001, and for broadcasters for income years beginning on or after Oct. 1, 2001.
• In contrast to the trend toward providing more weight to the sales factor, there are some instances where states have denigrated the sales factor.
• A state in which natural resources are produced for export may believe that the sales factor draws too much of the tax base away from the state and leaves it inadequately compensated for the social and environmental costs of extractive industries
─ Thus, Utah departed from the destination theory of the sales factor for a mining corporation, and Alaska enacted a hybrid method for oil companies whereby Alaskan production income was determined by separate accounting
1. Wyoming (No Corporate Income Tax) 2. South Dakota (No Corporate Income Tax) 3. Alaska (3-Factor Formula) 4. Florida (3-Factor Formula with double –weighted sales) 5. Nevada (No Corporate Income Tax) 6. Montana (3-Factor Formula) 7. New Hampshire (3-Factor Formula with double –weighted sales) 8. Indiana (Single Sales Factor) 9. Utah (can elect either 3-Factor Formula equally weighted or double –weighted sales) 10. Oregon (Single Sales Factor)
• The absence of a major tax is a common factor among many of the top ten states. Property taxes and unemployment insurance taxes are levied in every state, but there are several states that do without one or more of the major taxes: ─ the corporate income tax;
o Wyoming, Nevada, and South Dakota have no corporate or individual income tax (though Nevada imposes gross receipts taxes);
o Florida has no individual income tax
─ the individual income tax, or o Alaska has no individual income or state-level sales tax
─ the sales tax o Alaska, New Hampshire, Montana, and Oregon have no sales tax.
Combined Versus Consolidated • A consolidated state income tax return is “typically,” but not
always, one return filed by an affiliated group that also files federal consolidated returns
• A combined report is filed by a group of commonly owned corporations or businesses that constitute a unitary business because the basic operations of the entities are integrated and interrelated.
• Combined and consolidated filings can be required or elective, depending on the state and the taxpayer’s industry.
• Each state has its own rules and reporting style.
Unitary Businesses • A unitary business can be required to include all of its unitary affiliates in a
state income tax return even those affiliates that do not have nexus in a state.
• As concerns combined reporting, the unitary business principle defines which affiliates are included in the reporting group
• Beginning in 1980, the U. S. Supreme Court handed down a number of decisions defining the constitutional scope of the unitary business principle.
─ Container, Mobil, ASARCO, Woolworth, Allied-Signal, and MeadWestvaco
• The unitary tests that have developed from these cases are: ─ Functional integration, economies of scale, and centralized management ─ Flow of value, or substantial mutual interdependence and unity of ownership
• Unitary ─ In general, unitary flow-through factors are added to the factors of the
taxpayer to create a combined apportionment factor.
• Non-unitary ─ If such entities are non-unitary, then the state source income is typically
calculated that the flow-through level and only that post-apportioned amount is taxed. The relevant apportionment factors are not combined to apportion additional income to the jurisdiction.
─ In essence, allocation of amounts that are nonapportionable.
• For factor purposes, intercompany sales and other intercompany revenue items are eliminated in computing the numerator and denominator of the sales factor.
• Property or payroll (or appropriate portion thereof) that relate to such receipts are similarly excluded ─ Example: Massachusetts - Where items of gross income
are excluded from the federal gross income of a combined group member, the gross receipts to which such items of gross income are directly attributable are similarly excluded from the numerator and denominator of the member's sales factor.
• Sales, other than sales of tangible personal property, are in this state if:
─ The income-producing activity is performed in this state; or
─ The income-producing activity is performed both within and outside this state and a greater proportion of the activity is performed in this state than any other state based on costs of performance
• Direct: costs that are related specifically to the performance of services under a contract or other arrangement ─ Includes direct material and labor, plus variable overhead
incurred in producing a product
• Indirect: costs not readily identifiable with production of specific contracts or services, but applicable to production ─ Includes overhead allocation for administrative activities
• For the sale of tangible personal property (“TPP”), dock sales may change the “state source” based on destination or delivery
• Specifically, when an out-of-state purchaser uses its own trucks or hires a third-party common carrier to take delivery of the goods from seller’s loading dock to its place of business in another state.
• Two Rules ─ Place-of-Delivery Rule ─ Ultimate-Destination Rule
• McDonnell Douglas Corp v. Franchise Tax Board ─ Maryland Corporation, that manufactured and sold
commercial and military aircrafts and aircraft parts
─ Most of the commercial aircrafts were delivered to taxpayer’s facility in California and Arizona o Customer would arrange for transportation of the aircraft to an
ultimate destination from these facilities
─ These sales would be included in the California sales factor
─ California Court of Appeal held that the sales were not California sales but that of the ultimate state destination.
California Considerations • Economic Nexus thresholds for 2016
─ $54,771 property or payroll, or $547,711 sales exceeded; OR ─ 25% of total everywhere property, payroll, or sales in California
• Interest, Royalties, and Other non-tangible income is subject to market sourcing ─ Based on certain apportionment factors ─ Location of debtee ─ Individual versus business sourcing
• Special industry rules may determine market measure (i.e., audience for entertainment)
• A “throwback” rule requires tangible personal property delivered to those states where the taxpayer is not taxable, to be included in the sales numerator of the state where the product was shipped. ─ Essentially, the sales are “thrown back” to the state of
origination.
• With the “throwout” rule, such profits are ignored by
subtracting nontaxable state sales from the sales apportionment denominator. ─ Essentially, “thrown out” of the everywhere sales figure.
• Sales of TPP shipped or delivered to a state end up in that state’s numerator, if a return is being filed there.
• If a member in a combined group makes sales to customers in a no nexus state where the combined group is filing the combined return, do the sales go into that state’s numerator?
─ In Joyce states, no. ─ In Finnigan states, yes.
• The Finnigan rule for sourcing sales of an affiliated group - the activities of one member of the affiliated group are attributed to all members of the group.
• The Joyce rule states that nexus of one affiliated group member is not attributed to other group members
• What if an advertising company that does not have California nexus, but is part of a combined filing in California, provides advertising services for customers in CA?
• Are those sales put in the CA numerator under the Finnigan rule? ─ No.
• Sales of tangible personal property are also sourced to California if the property is shipped from an office, store, warehouse, factory, or other place of storage in California, and the taxpayer is not taxable in the state of the purchaser
• Whether the taxpayer is taxable in the purchaser’s state for purposes of the throwback rule is determined under Cal. Rev. & Tax. Cd. § 23101(b), for tax years beginning on or after January 1, 2011. Thus, as of 2011, a taxpayer meeting California’s economic nexus threshold in another state is considered to be taxable in that state for throwback purposes, provided the taxpayer’s activities exceed those protected by P.L. 86-272.
• For tax years beginning before 2011, the taxpayer was required to have a physical presence in a state in order to be considered taxable in that state for throwback purposes.
• Receipts from sales of tangible personal property that is delivered or shipped by the taxpayer (regardless of F.O.B. point or other conditions of the sale) to a purchaser within a state in which the taxpayer is not taxable are excluded from both the numerator and the denominator of the sales factor.
• However, a taxpayer must include the sales in the sales factor if any member of the taxpayer’s affiliated unitary group is taxable in the destination state.
• Financial institutions and insurance companies typically have special industry rules using deposits, number of clients, or premium dollars in a state.
• Asset management companies use investor location or beneficial owner domicile.
• Other sourcing rules may apply for revenue streams such as broadcasting using audience data as receipts.
Gillette and the Multistate Tax Compact: California
• On October 11, 2016, the U.S. Supreme Court denied Gillette’s petition for a writ of certiorari to review the California Supreme Court’s decision in The Gillette Company, et al. v. Franchise Tax Board
• In November 2016, the Franchise Tax Board released FTB Notice 2016-03 regarding the processing of refund claims due to the compact election issue.
• Michigan Legislature enacted PA 282 in September 2014, retroactively rescinding Michigan’s membership in the Multistate Tax Compact and eliminating a taxpayer’s ability to calculate its MBT apportionment formula using the Compact’s equal-weighted three factor formula.
• Taypayers who had filed MBT refund claims during the pendency of the IBM litigation, challenged the retroactive effects of PA 282 as violating their due process rights, among other claims.
Gillette Commercial Operations North America & Subsidiaries et. al. v. Dep’t of Treasury, 870 N.W.2d 926 (2015)
• On Sep. 29, 2015, the Michigan Court of Appeals in Gillette et al. upheld PA 282 and rejected Compact-based MBT refunds claims in many pending cases, holding:
─ The taxpayers have no vested interests in the continuance of tax legislation and under United States v. Carlton, 512 U.S. 26 (1994) the period of retroactivity is rationally related to the Legislature’s legitimate purpose of protecting state revenues.
─ Legislature’s stated legislative goal of correcting a perceived misinterpretation of the application of the Compact provisions and preventing significant revenue loss associated with the error was a legitimate purpose.
Gillette Commercial Operations North America & Subsidiaries et. al. v. Dep’t of Treasury, 870 N.W.2d 926 (2015)
─ The six and a half year period of retroactivity was sufficiently modest relative to prior Michigan precedent and other state and federal court decisions.
• Although the Michigan Supreme Court denied the taxpayer’s appeal request, the taxpayer petitioned the U.S. Supreme Court to review the Michigan court’s acceptance of the state’s retroactive law change.
• On May 18, 2017, the U.S. Supreme Court denied the petitions for a writ of certiorari to review the Michigan Supreme Court’s decision.
• In November 2016, the Ohio Supreme Court upheld the constitutionality of the Ohio Commercial Activity Tax factor presence nexus standard for gross receipts.
• In the cases of Crutchfield Corp., Newegg, Inc., and Mason Cos., Inc., the Court concluded that physical presence is not required because Quill does not apply to business privilege taxes, and the factor presence standard complies with Complete Auto’s substantial nexus requirement.
• Physical presence was deemed not required simply because the Quill case was a use tax issue and not a business privilege or gross receipts tax determination.
Apportionment • TN - Tennessee taxpayer may apportion its business income subject to excise
tax and its non-consolidated net worth subject to franchise tax if it also has business activities in another state, and the business activities performed in the other state are substantial enough to give the taxpayer nexus in the other state under Tennessee's definition of substantial nexus, which looks at whether the taxpayer has a certain amount of in-state sales. Tennessee DOR FAQs (Jan. 5, 2017)
• NJ - Receipts excluded from another state’s receipts factor based on a regulatory exclusion for potentially distortive receipts were not required to be thrown out of the New Jersey sales factor. The other state had “the ability to tax” the receipts, but simply chose to exclude the receipts to eliminate distortion. In addition, sales that a state could have required to be thrown back (but were not) were not subject to throw out of the New Jersey receipts factor. Elan Pharmaceuticals, Inc. v. Division of Taxation (N.J. Tax Ct. Feb. 6, 2017).
• CO - The statutory apportionment formula did not fairly represent a taxpayer’s activity in Colorado when the taxpayer had no property or payroll in Colorado and no sales sourced under the statutory method, but the taxpayer received hundreds of millions of dollars in royalties from Colorado sources.
─ However, because the taxpayer had substantial business activities in other states, the Department’s proposed formula–using only the retail entity’s sales–was not reasonable and the court ordered the Department to include the taxpayer’s own property and payroll in the alternative formula. Target Brands, Inc. v. Colo. Dep’t of Revenue (Colo. Dist. Ct. Jan. 27, 2017).