New York
Subscribe to New York's Posts

Illinois Enacts Pass-Through Entity Tax to Help Partners and S Corporation Shareholders Avoid the $10,000 SALT Cap

Illinois enacted a pass-through entity tax (PTE Tax) that may be elected by partnerships and S corporations to permit a federal deduction of state income taxes that otherwise are limited to $10,000 per year from 2018 to 2025 by the Tax Cuts and Jobs Act of 2017 (TCJA). State income taxes paid by individuals, whether attributable to pass-through entity income or other income, are subject to the TCJA’s $10,000 “SALT Cap.”

In Internal Revenue Service (IRS) Notice 2020-75, the IRS announced its approval of the federal deduction of state PTE Taxes paid by the entity in circumstances where the partner or shareholder receives a state tax credit, and the PTE Tax essentially is paid in lieu of the state income tax otherwise imposed upon the partner or S corporation shareholder.

The new Illinois PTE Tax was signed into law by Governor JB Pritzker on August 27, 2021 (Public Act 102-658) and applies to taxable years ending on or after December 31, 2021, and prior to January 1, 2026. Eighteen other states have also enacted PTE Taxes and 14 of those (including Illinois) are effective for 2021.

TAX AT ENTITY LEVEL

The Illinois PTE Tax is imposed on electing partnerships and S corporations at a rate of 4.95%, the flat income tax rate applicable to individuals. The tax is imposed upon the Illinois net income of the partnership or S corporation, which is equal to Illinois base income after apportionment or allocation. As discussed below, partners and S corporation shareholders may claim a refundable Illinois credit equal to their distributive share of the Illinois PTE Tax paid by the partnership or S corporation. Illinois base income of a partnership or S corporation for purposes of the PTE Tax is computed without deduction of Illinois net loss carryovers or the standard exemption. It’s also computed after addback of the partnership subtraction modification for reasonable compensation of partners (including guaranteed payments to partners) and the subtraction modification for income allocable to partners or shareholders subject to the Illinois “replacement tax.” The PTE Tax does not affect the replacement tax computation.

The Illinois PTE Tax is paid by the partnership or S corporation on all of its Illinois net income after apportionment or allocation. As a result, any tax exempt owner of a partnership or S corporation may be required to file Illinois refund claims in order to recoup PTE Taxes paid at the entity level (including as estimated payments). In some cases, this may be avoided by forming an upper-tier partnership for partners that are not tax exempt. Other states have avoided this problem by permitting the PTE Tax to be elected on a partner-by-partner basis rather than for the entity as a whole (e.g., California) or by imposing the PTE Tax only upon income that is allocable to partners subject to the state’s personal income tax (e.g., New York State).

TIERED PARTNERSHIPS

In the case of tiered partnerships, if a lower-tier partnership makes the PTE Tax election, the upper-tier [...]

Continue Reading




Maryland Sued over Digital Advertising “Tax”

Today, McDermott Will & Emery filed suit in Maryland federal court on behalf of a number of leading trade associations against Maryland Comptroller Peter Franchot, challenging the state’s recently enacted 10% gross receipts “tax” applicable to digital advertising revenue. The plaintiffs in the suit are the US Chamber of Commerce, the Internet Association, NetChoice and the Computer and Communications Industry Association. The suit asks that the court invalidate Maryland’s punitive imposition as violating several provisions of the US Constitution and the Internet Tax Freedom Act.

A file-stamped copy of the complaint is available below:



The complaint alleges that Maryland’s focus on internet advertising services (the tax does not apply to traditional advertising) discriminates against the internet, violating the Internet Tax Freedom Act. Next, because Maryland’s new law burdens and penalizes conduct occurring outside Maryland, it violates the Commerce and Due Process Clauses of the US Constitution. The complaint alleges that the characteristics of the imposition and the circumstances surrounding its enactment demonstrate a clear purpose and intent to punish out-of-state digital advertising companies for their extraterritorial activities.

The case is Civil No. 21-cv-410 (D. Md., filed February 18, 2021). Michael B. Kimberly, Paul W. Hughes, Stephen P. Kranz and Sarah P. Hogarth of McDermott, Will & Emery’s Washington, DC, office represent the plaintiffs.

Practice Note: The filing of this suit sends a signal to other states, like New York, Connecticut and Montana, where similar proposals are under consideration. Policymakers in those other states should recognize that following Maryland’s lead will only lead to the courthouse.




Maryland Enacts First Digital Advertising Services Gross Receipts Tax: Now What?

General Assembly Veto Override

On February 12, 2021, the Maryland General Assembly overrode Governor Larry Hogan’s veto of HB 732 (2020) (the Act), a bill enacting a first-of-its-kind digital advertising services tax on the annual gross receipts from the provision of digital advertising services in Maryland. The tax only applies to companies having annual gross revenues (without deduction of any expenses) from all sources of $100 million or more. The rate of the tax varies, depending on the level of global annual gross revenues, from 2.5% (for companies with $1 billion or less in global annual gross revenues) to 10% (for companies with more than $15 billion in global annual gross revenue). The rate applies to gross revenues from the performance of digital advertising services in Maryland. For instance, a company subject to the 10% rate having $100 million of revenue attributable to the performance of digital advertising services in Maryland would owe an annual tax of $10 million that will be reported and paid on a quarterly basis throughout the year.



Effective Date

Even though the legislation says the tax is effective July 1, 2020, under the Maryland Constitution, vetoed legislation becomes effective the later of the effective date in the bill or 30 days after the veto is overridden. Based on today’s veto override, the bill should become effective on or about March 14, 2021. However, because the legislation is “applicable to all taxable years beginning after December 31, 2020,” the digital advertising services tax will be retroactive to the beginning of this year.

Looming Compliance Deadlines

The digital advertising services tax applies on an annual basis with a return due on or before April 15 of the following year. However, the tax also requires quarterly filing and payment for certain taxpayers. On or before April 15 of the current year, persons subject to the tax are required to file a declaration of estimated tax showing how much Maryland digital advertising services tax they expect they will owe for the calendar year. As part of the declaration and quarterly with returns filed thereafter, the Act requires that they pay at least 25% of the estimated annual tax shown on the declaration. There is a penalty of up to 25% of the amount of any underestimate of the tax. The Act also creates a fine of up to $5,000 and criminal penalties of up to five years’ imprisonment for willfully failing to file the annual return.

Filing and Guidance TBD

At the time of writing, the Maryland Office of the Comptroller has not published any of the forms necessary for making the declaration of estimated tax or the return due on April 15 of the current year. The comptroller’s office also has not adopted regulations as required by the Act, providing guidance on when advertising revenue is derived in Maryland, likely a daunting and complicated task since this is a novel question that other states have not addressed. Many aspects of the Act are vague at best [...]

Continue Reading




False Claims Act Tax Expansion Bill Advanced by DC Council

The DC Council has once again advanced a bill (the False Claims Amendment Act, B23-0035) that would allow tax-related false claims against large taxpayers! The bill passed a first reading of the Committee of the Whole on Tuesday, November 17, 2020, by a vote of 8-5. The bill is sponsored by Councilmember Mary Cheh, who introduced identical bills over the past few legislative sessions that ultimately were not passed. The troubling bill is now eligible for a second (and final) reading at the next legislative meeting on Tuesday, December 1, 2020.

As introduced, the bill would amend the existing false claims statute in the District of Columbia to expressly authorize tax-related false claims actions against a person that “reported net income, sales, or revenue totaling $1 million or more in the tax filing to which the claim pertained, and the damages pleaded in the action total $350,000 or more.” If enacted, it would make the District one of only a few jurisdictions that allow tax-related false claims actions across the country.

Practice Note:

The advancement of this legislation by the DC Council is a very troubling development for taxpayers doing business in the District and threatens to subject them to the same nightmares (and the cottage industry of plaintiffs’ lawyers) that states like Illinois and New York have allowed over the past decade. Because the current false claims statute includes an express tax bar, this bill would represent a major policy departure in the District. See D.C. Code § 2-381.02(d) (stating that “[t]his section shall not apply to claims, records, or statements made pursuant to those portions of Title 47 that refer or relate to taxation”). As we have seen in jurisdictions like New York and Illinois, opening the door to tax-related false claims can lead to significant headaches for taxpayers and usurp the authority of the state tax agency by involving profit-motivated private parties and the state attorney general (AG) in tax enforcement decisions.

Because the statute of limitations for false claims is 10 years after the date on which the violation occurs, the typical tax statute of limitations for audit and enforcement may not protect taxpayers from false claims actions. See D.C. Code § 2-381.05(a). Treble damages would also be permitted against taxpayers for violations, meaning District taxpayers would be liable for three times the amount of any damages sustained by the District. See D.C. Code § 2-381.02(a). A private party who files a successful claim may receive between 15–25% of any recovery to the District if the District’s AG intervenes in the matter. If the private party successfully prosecutes the case on their own, they may receive between 25–30% of the amount recovered. This financial incentive encourages profit-motivated bounty hunters to develop theories of liability not established or approved by the agency responsible for tax administration. Allowing private parties to intervene in the administration, interpretation or enforcement of the tax law commandeers the authority of the tax agency, creates [...]

Continue Reading




New York Issues Much-Anticipated Guidance on Taxation of Telecommuting Employees

Since the outset of the COVID-19 pandemic and work-from-home mandates, New York employers and their nonresident employees have been waiting for the Department of Taxation and Finance to address the million-dollar question: Do wages earned by a nonresident who typically works in a New York office but is now telecommuting from another state due to the pandemic constitute New York source income? New York has historical guidance concerning the application of its “convenience of the employee/necessity of the employer” test, the test used to determine whether a telecommuting nonresident’s wages are sourced to New York, but until recently the Department had been silent as to whether or how such rule applied under the unprecedented circumstances of the COVID-19 pandemic.

As many expected, in a recent update to the residency FAQs, the Department clearly stated its position that a nonresident whose primary office is in New York State is considered to be working in New York State on days that he or she telecommutes from outside the state during the pandemic unless the employer has “established a bona fide employer office at [the] telecommuting location.” The Department adopted the “bona fide employer office” test in 2006 as its way of applying the convenience of the employee rule to employees that work from home. The bona fide employer office test is a factor-based test and, for the most part, a home office will not qualify as a bona fide employer office unless the employer takes specific actions to establish the location as a company office. (See: TSB-M-06(5)I, New York Tax Treatment of Nonresidents and Part-Year Residents Application of the Convenience of the Employer Test to Telecommuters and Others.) As is apparent in the FAQ, the Department is mechanically applying this test to employees working from home as a result of the pandemic and is not providing any special rules or accommodations for employees that have been required or encouraged by New York State and local governments to telecommute.

Interestingly, the Massachusetts Department of Revenue took a similar approach to New York’s by promulgating a regulation requiring nonresidents that typically work in Massachusetts but are telecommuting from outside the state to pay tax on their wages. On October 19, 2020, New Hampshire filed a Motion for Leave to File Bill of Complaint with the United States Supreme Court challenging the constitutionality of Massachusetts’ regulation. We understand that New Jersey is considering joining New Hampshire in this lawsuit based on New York’s recent guidance, which would require many New Jersey residents to pay New York income tax even though they are no longer working in New York. The US Supreme Court has twice declined to rule on the constitutionality of the convenience-of-the-employee test, so stay tuned on this important development.




New York Legislation Proposes to Retroactively Remove FCA Culpability Standard for Tax Law Claims

With Halloween just a few weeks away, a scary proposal is brewing in the New York State Legislature that should give taxpayers chills. Companion bills Assembly Bill 11066 and Senate Bill 8872 were recently introduced by committee chairs (Assembly Ways and Means Chairwoman Helene Weinstein and Senate Committee on Judiciary Chairman Brad Hoylman). This legislation would substantially expand the scope of the New York False Claims Act (FCA) for claims under the New York State Tax Law by retroactively creating a new tax-specific cause of action that would award single (as opposed to treble) damages, including consequential damages when the taxpayer makes a false statement or record material to their obligation to pay money to state or local governments under the tax law by mistake or mere negligence.

Specifically, the bill would not modify the existing “knowing” causes of action in NY State Fin. Law § 189(1) that, if proven, result in civil penalties, treble damages and consequential damages. Instead, the bill would create a new tax-specific cause of action with strict liability—i.e., no intent requirement that the violation be shown to have been committed “knowingly” (with actual knowledge or deliberate ignorance or reckless disregard for the truth). As a result, inadvertent non-reckless tax mistakes, misunderstandings or mere negligence of the law would result in the taxpayer being subject to a viable claim under the FCA—something that is currently expressly prohibited by law. (See NY State Fin. Law § 188(3)(b) (“acts occurring by mistake or as a result of mere negligence are not covered by this article”).)

To make matters worse, the companion bills (as introduced) would “apply to all false claims, records, statements and obligations concealed, avoided or decreased on, prior to, or after such effective date.” (§ 4; emphasis added.) Thus, if enacted, the bill would open the door to 10 years of backward-looking scrutiny of tax law violations in court by private relators and the New York Attorney General—including years of tax periods that are currently closed under the New York Tax Law or were settled with the New York Department of Taxation and Finance. (See NY State Fin. Law § 192(1) (“[a] civil action under this article shall be commenced no later than ten years after the date on which the violation of this article is committed”).) As a reminder, the FCA would continue to only apply to tax law violations with pleaded damages in excess of $350,000 by persons with net income or sales of more than $1 million in at least one tax year at issue.

Practice Note

As if managing tax audits and potential compliance mistakes administratively was not enough, the introduced New York companion bills would allow a separate parallel path for litigious private parties and the New York Attorney General to enforce the tax law as they see fit in court—creating a framework that is ripe to drag well-intentioned taxpayers through the mud and force them to either defend themselves through costly litigation [...]

Continue Reading




Alert: California False Claims Expansion Bill Advances to the Senate

Like the days of the Old West, last week a masked gang held up local businesses demanding their wallets. Unlike the days of the Old West, this was not the hole-in-the-wall gang, but the California State Assembly who, on June 10, 2020, approved AB 2570, a bill that authorizes tax-based false claims actions. If passed, AB 2570 would expand the California False Claims Act (CFCA) to allow private, profit-motivated parties to bring punitive civil enforcement tax-based lawsuits. The bill now heads to the California Senate where its predecessor bill, AB 1270, failed last year.

According to the bill’s author, Assembly Member Mark Stone, there are two key differences between AB 2570 and last year’s AB 1270. First, AB 2570’s definition of “prosecuting authority” has been revised to remove the term “counsel retained by a political subdivision to act on its behalf.” In his comments on the Assembly floor, Stone explained that this amendment was “sought by the bill’s opponents” as it prevents local governments from contracting with private attorneys to bring tax CFCA lawsuits.

Second, AB 2570 mandates that a plaintiff’s complaint must be kept under seal for 60 days and can only be served on a defendant by court order. According to Stone, this second amendment will prevent qui tam attorneys from bringing suit if they send demand letters to the taxpayer before the expiration of this 60-day period.

Although these amendments are minor improvements upon last year’s bill, they are not enough to prevent the rampant abuse that will certainly accompany an expansion of the CFCA. Moreover, as Stone has acknowledged AB 2570 rests on the faulty premise that insider information is generally required to establish a “successful” tax enforcement claim. In his comments to the assembly, Stone stated:

No one questions the ability of the Franchise Tax Board and the California Department of Tax and Fee Administration (CDTFA) to skillfully administer the tax law within their respective jurisdictions. This bill, rather, rests on the premise that there are individuals—often current or former employees of a company—who have access to information establishing that tax authorities have been misled as to the amounts owed by the company. These cases are difficult to uncover without the cooperation of an insider because there is no other way to bring the relevant documents and information to light if a company is determined to commit fraud.

However, as evidenced by the states where an FCA has been expanded to tax cases, such as Illinois and New York, very few FCA tax cases involve internal whistleblowers, actual fraud or reckless disregard of clear law. Instead, they typically involve inadvertent errors or good-faith interpretations of murky tax law. As a result, expanding the CFCA to tax claims will only serve to hurt good-faith taxpayers who are already struggling to survive and recover from the economic impacts of COVID-19. Such legislation could force taxpayers to incur enormous costs or pressure them into settlements to make the case go away to avoid the [...]

Continue Reading




The Digital Advertising Tax Trend Continues: New York Introduces Another Bill

On April 13, S. 8166 was introduced in the New York Senate, which would expand the sales tax base to include receipts from the sale of digital advertising services. The bill would dedicate the revenue raised to student loan relief.

As introduced, “digital advertising services” would be broadly defined as “advertisement services on a digital interface, including advertisements in the form of banner advertising, search engine advertising, interstitial advertising, and other comparable advertising services which markets or promotes a particular good, service, or political candidate or message.” (With the exception of the added last clause, the definition of “digital advertising services” is identical to the definition in the digital advertising tax legislation recently passed by the Maryland General Assembly. The definition differs from the previously introduced New York digital ads tax (S. 8056) in that it is not limited only to targeted advertising.) “Digital interface” would also be defined very broadly as “any type of software, including a website, part of a website, or application, that a user is able to access.”

If enacted, the law would take effect on the 30th day after enactment, and would sunset five (5) years after the effective date.

 




Cities Providing Local Tax Relief Efforts for Small Businesses Impacted by COVID-19

From coast to coast, both state and local tax authorities are rapidly responding to the Coronavirus (COVID-19). And while many of the relief efforts are appropriately aimed at supporting individuals who have been impacted by COVID-19, recent pronouncements from local leaders demonstrate that cities are also eager to implement measures supporting small businesses within their communities.

(more…)




Maryland General Assembly Sends Digital Advertising Tax to Governor; Nearly Identical Bill Pending in New York

With gatherings larger than 50 people banned and the State House cleared of visitors, on March 18, 2020, Maryland’s legislature approved HB 732, which contains a massive new punitive tax on digital advertising services, and sent it to Governor Larry Hogan (R) for his consideration.

Digital Advertising Gross Revenues Tax

Contradicting the clear legislative trend in the advertising space to exempt the facilitation of advertising services (but tax the consumer transactions that may result therefrom), HB 732 would impose a new, one-of-a-kind tax on the annual gross revenue of digital advertising services that are deemed to be provided in the State. The proposed tax contains a tiered tax rate structure (arbitrarily determined based on the advertising service provider’s global annual gross revenues) that would allow for a tax rate of up to a whopping 10% of the annual gross revenue in the State derived from digital advertising services. As passed, HB 732 would take effect July 1, 2020, and the new tax would apply to all taxable years beginning after December 31, 2020.

(more…)




STAY CONNECTED

TOPICS

ARCHIVES