State and local tax advisor: January 2023
Corporate income tax: Arkansas elective pass-through entity tax rule adopted
Arkansas has adopted a final rule titled, the Arkansas elective pass-through entity tax rule. This rule, effective for tax years beginning on or after Jan. 1, 2022, administers the Elective Pass-Through Entity tax enacted by the legislature for these tax years. Partnerships and other entities, such as LLCs, who are taxed as partnerships for federal income tax purposes may choose to pay Arkansas income tax at the entity level, instead of having each member or partner pay individually. The election must be made annually prior to the due date of the entity’s Arkansas income tax return. Electing entities must file a pass-through entity tax return and make any required prepayments at the entity level.
Reg. 2002-6, Arkansas Department of Finance and Administration, Dec. 21, 2022.
Sales and use tax: CDTFA has discretion to determine the retailer
The California Department of Tax and Fee Administration (CDTFA) has the discretion to determine the retailer in a transaction for sales and use tax purposes. A taxpayer who sought a declaration that the CDTFA has a mandatory duty to assess and collect sales and use tax specifically for products sold through the “Fulfillment by Amazon” (FBA) program had no standing to pursue his action. Amazon fulfills orders for products sold by third-party merchants through the FBA program. The CDTFA has historically not collected sales and use taxes from Amazon for products sold through the FBA program.
Fulfillment by Amazon program
The taxpayer sought an injunction to require the CDTFA to collect taxes for products sold through the program. Under the FBA program, Amazon contracts with merchants who supply the products ordered by consumers through Amazon’s website. Amazon provides advertising, packaging, and delivery of the products supplied by the FBA merchants and also processes payments for sales on behalf of the FBA merchants.
Imposition of California sales and use tax
California sales tax is imposed on and collected from retailers, and use tax is imposed on the retail purchaser, but is collected from the purchaser by the retailer and remitted to the state. The definition of “retailer” includes, among other things, every seller who makes any retail sale or sales of tangible personal property and every person engaged in the business of making sales for storage, use, or other consumption. Taxpayers have no authority to enjoin discretionary government activity. As such, the appellate court noted, the issue in the present case turned on whether the CDTFA has discretion to determine who the retailer is for purposes of a transaction subject to the sales and use tax law.
CDTFA has express discretion to determine retailer
The California Revenue and Taxation Code expressly vests the CDTFA with discretion to determine whether the FBA merchant or Amazon is the retailer in any given FBA transaction for purposes of collecting sales and use tax. That determination is discretionary and not ministerial. There is no statute or regulation that conclusively establishes that the CDTFA must pursue Amazon for sales and use taxes related to FBA transactions.
Grosz v. California Department of Tax and Fee Administration, Court of Appeal of California, Second District, No. B309418, Jan. 9, 2023.
Corporate income tax: Taxpayer properly applied cost-of-performance rule to its income producing activities
An out-of-state subsidiary (taxpayer) of a nationwide online and brick-and-mortar retailer (retailer) properly sourced its service revenue under the state’s cost-of-performance (COP) rule, for Florida corporate income tax purposes.
In this matter, the retailer and its subsidiary (taxpayer) entered into a Retail Operating Services Agreement (ROSA). Under ROSA, the taxpayer provided merchandising, marketing, and strategy and management consulting services to the retailer. The subsidiary owned no real or tangible personal property in Florida during the tax years at issue. However, it had a small amount of payroll attributed to Florida.
The Florida Department of Revenue (department) conducted an audit to determine the taxpayer’s compliance with the state income tax laws. Subsequently, the department proposed adjustments to the taxpayer’s corporate income tax liability contending that the taxpayer was required to attribute its service receipts to Florida based on a fraction the numerator of which was the retail square footage of the retailer’s stores across the country.
The taxpayer countered the adjustment and stated that the department’s rule required that its sales receipts must be attributed to Florida based on the location of the income producing activity directly engaged in by the taxpayer, which is determined based on the location of the costs to perform those services. Since the location of the costs to perform services under the ROSA were those of the taxpayer’s employees residing outside Florida, the taxpayer argued that the department’s administrative rule attributed none of the taxpayer’s sales receipts to Florida.
Generally, under the COP rule, service revenue is attributable to Florida if the “income producing activity” responsible for generating the sales revenue is performed by the taxpayer in Florida. If the “income producing activity” isn’t conducted solely in Florida, the COP rule states that the sales revenue is attributable to Florida if the “greater proportion of the income producing activity is performed in Florida, based on costs of performance.”
The department argued that the taxpayer failed to provide sufficient documentation to support the use of the COP apportionment method. However, the taxpayer asserted that it provided state-by-state payroll, property and sales apportionment workpapers, and working trail balance information to the auditors. Moreover, in response to the department’s request, the taxpayer provided its payroll apportionment worksheet and related supporting document to substantiate its use of the COP apportionment method.
Upon review, the circuit court noted that the taxpayer provided sufficient documentation to the department. The court also noted that the COP rule operates in two steps:
(1) Determining the taxpayer’s income producing activity.
(2) Balancing of the costs incurred to perform that activity.
If the greater proportion of the costs to perform the activity are incurred outside Florida, as the court noted, none of the receipts are apportioned to Florida. In this matter, the taxpayer’s income producing activities were performing services under the ROSA and the greater proportion of the costs to perform the taxpayer’s services were incurred outside Florida.
Accordingly, the taxpayer properly apportioned its income under COP rules and therefore the taxpayer’s protest was sustained.
Target Enterprise, Inc. v. Florida Department of Revenue, Circuit Court, 2nd Judicial Circuit (Florida), No. 2021-CA-002158, Nov. 28, 2022.
Corporate income tax, practice, and procedure: 1099-NEC filing requirement begins
The Louisiana Department of Revenue announced that beginning Jan. 1, 2023, all businesses that are required to file Form 1099-NEC with the Internal Revenue Service must also file copies of those forms with the Louisiana Department of Revenue when the forms involve services provided in Louisiana or services provided by Louisiana residents.
The Louisiana Legislature initially made this requirement effective on Jan. 1, 2022, but the Louisiana Department of Revenue previously delayed its implementation due to COVID-19 and the Hurricane Ida state of emergency.
Revenue Information Bulletin No. 23-006, Louisiana Department of Revenue, Jan. 12, 2023.
The Massachusetts Supreme Judicial Court affirmed that the Department of Revenue couldn’t retroactively impose a use tax collection requirement on a California auto part company based on the placement of “cookies” and “apps” on its Massachusetts customers’ computers.
In this matter, the department determined that the taxpayer’s use of apps, cookies, and content delivery networks (CDNs) satisfied the physical presence rule and issued an assessment. The taxpayer successfully appealed to the Appellate Tax Board for an abatement, and hence the present appeal by the department. The court noted that the taxpayer’s use of apps and cookies didn’t constitute in-state “physical presence” as required by the regulation. Further, the department couldn’t retroactively apply the decision in Wayfair and expand the ability of states to tax out-of-state vendors that weren’t previously subject to tax. Accordingly, the abatement of the assessment was affirmed.
U.S. Auto Parts Network, Inc. v. Commissioner of Revenue, Supreme Judicial Court of Massachusetts, No. 13283, Dec. 22, 2022.
Corporate income tax: Guidance issued on treatment of leases under ASC 842
Massachusetts issued corporate excise tax guidance on the treatment leases under new Accounting Standards Codification 842 (ASC 842). ASC 842 requires lessees to recognize lease assets and lease liabilities for both capital and operating leases with a term over one year on their balance sheets. Taxpayers determining the nonincome measure of the Massachusetts corporate excise tax must:
- Characterize leases as intangible assets.
- Compute the tax based on the taxpayer’s net worth.
Technical Information Release 23-2, Massachusetts Department of Revenue, Jan. 5, 2023.
Property tax: Guidance provided on 2023 eligible manufacturing personal property exemption claims
The Michigan Department of Treasury has provided guidance on eligible manufacturing personal property (EMPP) tax exemption claims in 2023 and 2024.
Exemption claims in 2023
An eligible claimant in 2023 must file the combined document (Form 5278) with the assessor of the local unit in which the property is located. The deadline is Feb. 21, 2023. If the deadline is missed, the form may be filed directly with the March Board of Review prior to its adjournment.
Exemption claims in 2024
Beginning in 2024, the requirement to claim the EMPP exemption on an annual basis is eliminated. The taxpayer must file Form 5278 only in the first year that the property is eligible for the exemption. If the EMPP exemption is granted in 2023, no claim is required in order to receive the exemption in 2024 or later.
Extended Industrial Facility Tax (IFT) and New Personal Property (PA 328) certificates
Beginning in 2023, all EMPP is exempt regardless of the year in which it was acquired by the first owner. Therefore, all IFT or PA 328 certificates that expired in any prior year qualify to be extended. From 2023 forwards, all IFT and PA 328 certificates will expire on the date provided on the original or amended certificate.
ESA Topic: Changes to EMPP Exemption Claims Beginning in 2023, Michigan Department of Treasury, Jan. 12, 2023.
Corporate, personal income taxes: IRC conformity updated, other tax changes enacted
Minnesota has enacted individual income tax and corporation franchise tax changes relating to:
- Internal Revenue Code (IRC) conformity
- Business interest deductions
- Net operating loss and excess business loss deductions
- Temporary additions and subtractions
- Special rules
- Pass-through entity tax
- Earned income
- Statute of limitations
The act may affect taxpayers who filed Minnesota returns for 2017 through 2022 with a nonconformity schedule. Taxpayers may need to file amended returns to correctly determine their Minnesota taxable income for the affected years. The Department of Revenue has updated the Minnesota forms and instructions for 2017–2022. It has also provided tables briefly summarizing:
- Affected forms and line numbers by tax year
- Conformity by federal act
Minnesota updated its general IRC conformity date from Dec. 31, 2018, to Dec. 15, 2022. This conforms Minnesota’s tax code to many federal provisions enacted since 2019. The incorporated changes are effective for Minnesota purposes at the same time the changes were effective for federal purposes.
Business interest deduction
For tax years beginning after Dec. 31, 2018, and before Jan. 1, 2021, Minnesota requires an addition to income for increased business interest deductions allowed under the Coronavirus Aid, Relief, and Economic Security (CARES) Act. A delayed subtraction from income is allowed for business interest required to be added back.
Net operating loss and excess business loss deductions
For tax years beginning after Dec. 31, 2017, and before Jan. 1, 2021, Minnesota requires an addition to income for the increased net operating loss and excess business loss deductions allowed under the CARES Act. A delayed subtraction from income is allowed for losses required to be added back.
Temporary additions and subtractions
The following amounts are temporary subtractions from income for individuals, estates, trusts, and corporations:
- Wages used to calculate the employee retention credit for employers affected by qualified disasters, to the extent not deducted from federal income.
- Wages used to calculate the payroll credit for required paid sick leave, to the extent not deducted from federal income.
- Wages or expenses used to calculate the payroll credit for required paid family leave, to the extent not deducted from federal income.
- Wages used to calculate the employee retention credit for employers subject to COVID-19-related closures, to the extent not deducted from federal income.
- The amount required to be added to federal gross income to claim the continuation coverage premium assistance credit.
The following amounts are temporary additions to income for individuals, estates, and trusts:
- Qualified tuition expense deductions.
- Certain above-the-line cash charitable contribution deductions.
- Meal expense deductions in excess of the 50% limitation.
- Certain charitable contributions deducted from federal taxable income by a trust for 2020.
The following amounts are temporary additions to income for corporations:
- Meal expense deductions in excess of the 50% limitation.
- Charitable contributions deducted in excess of 10% but not more than 25% of taxable income for 2020.
Minnesota decouples from:
- The federal increase in the charitable contribution deduction limitation, from 60 to 100% of adjusted gross income for certain cash contributions only, for individuals, trusts, and estates for 2020.
- Temporary increases in the dependent care credit for 2021.
- Special rules for casualty loss deductions for 2021.
- For purposes of calculating the Minnesota working family credit, temporary changes to the federal earned income credit for 2021.
Pass-through entity tax
If a qualifying owner of a pass-through entity that elects to pay the Minnesota pass-through entity tax claims a credit for the owner’s share of the tax paid, the entity can’t receive a refund of tax with respect to the amount claimed. This provision is effective retroactively for tax years beginning after Dec. 31, 2020.
A new definition of “earned income” references the federal definition, except a taxpayer must use earned income for the taxable year for which the taxpayer filed a return.
Statute of limitations
A taxpayer whose tax liability changes as a result of this act may file an amended return by Dec. 31, 2023. Interest on any additional liabilities resulting from any provision of the act will accrue beginning on Jan. 1, 2024.
H.F. 31, Laws 2023, effective as noted; 2023 Federal Conformity for Income Tax, Minnesota Department of Revenue, January 2023.
Corporate, personal income taxes: Partnership audit, COVID-19-related extension, and S corporation changes enacted
New Jersey has enacted gross income tax and corporation business tax changes that:
- Adapt state law to the new federal partnership audit regime.
- End COVID-19-related extension provisions.
- Eliminate the requirement to affirmatively elect New Jersey S corporation status.
Partnership audit regime
Partnerships and partners must comply with new state requirements for reporting final federal adjustments arising from a partnership level audit or administrative adjustment request and making payments. These provisions apply to any adjustments to a taxpayer’s federal taxable income on or after Jan. 1, 2020.
Except for final federal adjustments subject to an election, these final federal adjustments must be reported as follows:
- No later than 90 days after the final determination date, the partnership must file a completed federal adjustments report, notify direct partners of their distributive shares of the final federal adjustments, and file an amended composite return for direct partners and pay the additional amount that would have been due had the final federal adjustments been reported properly.
- No later than 180 days after the final determination date, each direct partner that’s taxed under the gross income tax or corporation business tax must file a federal adjustments report reporting their distributive share of the adjustments reported to them and pay any additional amount of tax due as if the final federal adjustments had been properly reported.
An audited partnership may elect to report changes at the partnership level. A partnership that makes this election must:
- Within 90 days after the final determination date, file a completed federal adjustments report and notify the Division of Taxation of the election.
- Within 180 days after the final determination date, exclude from final federal adjustments the distributive share of those adjustments attributed to direct exempt partners not subject to the tax, and pay an amount in lieu of taxes owed by direct and indirect partners.
The direct and indirect partners of an audited partnership that are tiered partners are also subject to reporting and payment requirements and entitled to make the election.
A taxpayer may make estimated payments of tax expected to result from a pending federal audit prior to the due date of the federal adjustments report, without having to first file the report with the Division. The estimated tax payments will be credited against any tax liability ultimately found to be due to the state and will limit the accrual of interest on that amount.
Final federal adjustments not arising from a partnership-level audit or administrative adjustment request must be reported, and additional state tax must be paid, no later than 180 days after the final determination date.
The state has ended the COVID-19-related extensions of time for:
- The statute of limitations to assess any tax due.
- The payment of interest on tax overpayments.
S corporation election
A taxpayer that elects treatment as an S corporation for federal tax purposes no longer needs to make a separate election to be a New Jersey S corporation, applicable to taxable years and privilege periods beginning after Dec. 22, 2022. A taxpayer that makes a valid federal election will be a New Jersey S corporation unless the taxpayer elects not to be taxed as a New Jersey S corporation. This election must have the consent of 100% of the S corporation’s shareholders. The election may be made for any taxable year at any time during the preceding taxable year or at any time on or before the due date or extended due date of the S corporation’s tax return. An opt-out election continues until revoked. It may be revoked if shareholders holding more than 50% of the shares of stock of the S corporation on the day on which the revocation is made consent to the revocation.
Ch. 133 (A.B. 4295), Laws 2022, effective Dec. 22, 2022, and applicable as noted.
Sales and use tax: Bad debt deduction expanded
A vendor may deduct from Ohio sales tax: the unpaid balance on private label credit accounts that are bad debt and are charged off as uncollectible on the books of a lender on or after July 1, 2023, and against which a deduction hasn’t been taken (“accounts or receivables bad debt”). The deductibility of the debt for federal income tax purposes is determined in respect to the lender, not the vendor.
The deduction may be taken by the vendor only on the basis of accounts or receivables bad debt from purchases from the vendor whose name is branded on the private label credit account or from purchases from any of the vendor’s affiliates or franchises. If the total amount of accounts or receivables bad debt for a month exceeds the vendor’s taxable sales for that month, the vendor may carry forward and deduct the excess on succeeding tax returns until the total amount of accounts or receivables bad debt has been deducted.
H.B. 223. Laws 2022, effective 91 days after filing with the Secretary of State.
Multiple taxes: Tax amnesty authorized
A tax amnesty program is authorized in 2023 if the Director of Budget and Management concludes that such program is needed. If directed, the Tax Commissioner will determine the two-month period for the amnesty program. The amnesty would only apply to taxes that were due and payable as of the provision’s effective date and that were unreported or underreported. The amnesty wouldn’t apply to any tax for which a notice of assessment or audit has been issued, for which a bill has been issued, or for which an audit has been conducted or is pending. If the full amount of delinquent taxes is paid, all penalties and interest are waived. The taxpayer is also immune from criminal and civil prosecution and no assessment may be issued for that tax or fee.
The amnesty would cover the following state taxes and fees: income tax, state and county sales and use taxes, public utility taxes, natural gas excise tax, cigarette/tobacco taxes, fuel use tax, casino wagering tax, wireless 911 charges, horse racing taxes, commercial activity tax, financial institutions tax, transit authority sales and use taxes, kilowatt-hour tax, alcoholic beverage taxes, motor fuel excise tax, petroleum activity tax, tire fees, and severance taxes.
Real property valuation
A county auditor may determine the true value or real property that’s part of a qualified low-income housing tax credit project through use of one or more of the market-data approach, the income approach, or the cost approach.
H.B. 45. Laws 2022, effective 91 days after filing with the Secretary of State.
Corporate income tax: PTE tax update released
Ohio has released a pass-through entity (PTE) tax update for electing entities. Among the topics covered in the update are:
- Additional FAQ's have been posted.
- The final Form IT 4738, “Electing Pass-Through Entity Income Tax Return” is now available.
- Final instructions for the IT 4738 have been posted.
- The Universal Payment Coupon for the IT 4738 is now available.
- Electronic and paper filing of the IT 4738 is now available.
Update Regarding Ohio’s PTE Tax for Electing Entities (Form IT 4738), Ohio Department of Taxation, Jan. 20, 2023.
Corporate income tax: Communications services provider entitled to refund
The Pennsylvania Commonwealth Court determined that a communications services provider (taxpayer) was entitled to a refund of corporate net income taxes paid for the 2014 tax year. In this matter, the taxpayer challenged Pennsylvania’s policy that subjected only large corporate taxpayers to the percentage cap for net loss carryover (NLC) deductions and excluded the application to small corporate taxpayers for tax years beginning prior to Jan. 1, 2017.
The Board of Appeals and, on further appeal, the Board of Finance and Revenue denied the taxpayer’s refund request and declined to address the constitutional issues. Subsequently, a 2017 Pennsylvania Supreme Court decision struck down the flat-dollar cap as unconstitutional. The taxpayer protested that the Department of Revenue violated the uniformity clause of the Pennsylvania Constitution by applying the 2014 NLC deduction provision as written, rather than retroactively applying the Supreme Court decision. Further, the taxpayer asserted that the Due Process and Equal Protection Clauses of the U.S Constitution were violated.
Upon review, the Commonwealth Court noted that in the 2014 tax year, small corporate taxpayers benefited from the NLC’s flat-dollar deduction, which was declared unconstitutional. Even though the taxpayer correctly paid its taxes in conformity with the retained and constitutionally valid percentage cap, the taxpayer was disadvantaged when compared to small corporate taxpayers that utilized the unconstitutional flat-dollar deduction and paid no tax. To equalize the actual tax positions, either the favored taxpayers should be assessed additional taxes or the unfavored taxpayer should be refunded the taxes paid. Here, the only remedy available was to issue the taxpayer a refund to remedy the uniformity clause violation and equalize the tax positions between favored and nonfavored taxpayers. Accordingly, the taxpayer’s exceptions were sustained.
Alcatel-Lucent USA Inc. v. Commonwealth of Pennsylvania, Commonwealth Court of Pennsylvania, No. 803 F.R. 2017, Dec. 28, 2022.
Corporate income tax, practice and procedure: No amendment of out-of-statute reports to create R&D credit
The Texas Comptroller stated in a policy letter that a taxpayer may not amend a Texas franchise tax report for which the limitations period for filing a refund claim has expired to create a research and development credit to carry forward to years for which the limitations period hasn’t expired. Texas allows taxpayers to carry forward any unused portion of a research and development credit for up to 20 years, while refund claims are typically barred after four years.
In the letter, the Comptroller states that a taxpayer may not amend a return for which the limitations period for a refund claim has expired, even if they are only making the amendment to seek a refund in periods for which the limitations period has not expired. The letter notes that the neither the Comptroller nor the taxpayer may make any change to a return once the limitations period has expired. However, the letter also recognizes that the Comptroller may verify qualified research expenses incurred in a year for which the limitations period has expired in order to verify a credit carryforward taken in a period for which the limitations period hasn’t expired. The Comptroller explains that this is permitted as no change is being made to the expired year’s return.
Letter No. 202301007L, Texas Comptroller of Public Accounts, Jan. 19, 2023.
©2023 CCH Incorporated and its affiliates. All rights reserved.