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Southeast States Respond to Federal Tax Reform and NJ Senate Leader Talks Tax Surcharge to Limit Corporate “Windfall”

by Diann Smith and Stephen P. Kranz | Mar 9, 2018 | Federal Tax, Georgia, Income Tax, Nationwide Importance, New Jersey, Tax Base, Virginia

Virginia and Georgia are two of the latest states to pass laws responding to the federal tax reform passed in December 2017, known as the Tax Cuts and Jobs Act (TCJA). Both states updated their codes to conform to the current Internal Revenue Code (IRC) with some notable exceptions.

Virginia

On February 22, 2018, and February 23, 2018, the Virginia General Assembly enacted Chapter 14 (SB 230) and Chapter 15 (HB 154) of the 2018 Session Virginia Acts of Assembly, respectively. Before this legislation was enacted, the Virginia Code conformed to the IRC in effect as of December 31, 2016. While the new legislation conforms the Virginia Code to the IRC effective as of February 9, 2018, there are some very notable exceptions. The legislation explicitly provides that the Virginia Code does not conform to most provisions of the TCJA with an exception for “any… provision of the [TCJA] that affects the computation of federal adjusted gross income of individuals or federal taxable income of corporations for taxable years beginning after December 31, 2016 and before January 1, 2018…” Thus, despite Virginia’s update of its IRC conformity date, Virginia largely decouples from the TCJA. (more…)

Update on State Responses to Federal Tax Reform: Illinois and Oregon

by Diann Smith and Stephen P. Kranz | Mar 8, 2018 | Federal Tax, Illinois, Income Tax, Nationwide Importance, Oregon, Tax Base

States are moving to advance different solutions in their efforts to address federal tax reform. Illinois recently introduced legislation to addback the new deduction for foreign-derived intangible income (a topic we’ve previously covered), and its Department of Revenue has issued its position on other aspects of federal reform. Oregon, after resolving a controversy between its senate and house, is about to pass legislation addressing deemed repatriation income and repealing its tax haven inclusion provisions.

Illinois Issues Guidance on Federal Tax Reform

On March 1, the Illinois Department of Revenue (Department) issued guidance explaining its position with respect to how various law changes made in the 2017 federal tax reform bill, known as the Tax Cuts and Jobs Act (Act), will impact taxpayers in Illinois.

While, for the most part, the pronouncement provides a cursory analysis of the provisions of the Act and a conclusory statement as to whether each provision will result in an increase or decrease in a taxpayer’s adjusted gross income (for individuals) or federal taxable income (for corporations), there are a few items that do warrant some specific mention.

With respect to Illinois’ treatment of the Act’s new international tax provisions, the Department provides some insight into treatment of deemed repatriated foreign earnings and global intangible low-taxed income (GILTI). For purposes of both the deemed repatriated foreign earnings and the GILTI, the Act provides that a taxpayer computes its taxable income by including an amount in income and taking a corresponding deduction to partially offset the inclusion. The Illinois guidance indicates that the inclusion in Illinois will be net, with both the income inclusion and the deduction taken into account in determining a taxpayer’s tax base. This is consistent with the provisions of the Illinois corporate income tax that provide that the Illinois tax base is a corporation’s “taxable income,” which is defined as the amount of “taxable income properly reportable for federal income tax purposes for the taxable year under the provisions of the Internal Revenue Code.” 35 ILCS 5/203(b)(1), (e).

Mitigating the tax impact of these provisions, the Department also takes the position that the amount included as deemed repatriated foreign earnings or as GILTI will be treated as a foreign dividend eligible for Illinois’ 100 percent dividend-received deduction. See 35 ILCS 5/203(b)(2)(O), (b)(2)(G). This rationale is in accordance with the provisions in the Illinois statute that provide a dividend-received deduction for dividends received or deemed received under Internal Revenue Code sections 951 through 965. Thus, because the deemed repatriated foreign earnings are included pursuant to section 965 and the new GILTI is included pursuant to section 951A, those amounts should both be dividends eligible for the dividend-received deduction.

In addition, the Department has specified that the new provision limiting the use of federal net operating losses (NOLs) in an amount equal to 80 percent of the taxpayer’s taxable income is a change that could provide an increased tax base or increased tax revenue to Illinois. Corporate [...]

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Illinois Responds to Federal Tax Reform Bill by Proposing Legislation to Decouple from the FDII Deduction

by McDermott Will & Emery | Mar 2, 2018 | Federal Tax, Illinois, Income Tax, Tax Base

The 2017 federal tax reform bill, known as the Tax Cuts and Jobs Act (Act), made a number of significant changes to the law, particularly to the international tax provisions of the Internal Revenue Code (IRC). Last month, Illinois joined the growing number of states responding to the Act by proposing legislation purporting to add-back the new federal deduction for foreign-derived intangible income (FDII). The FDII deduction, enacted in sub-part (a)(1)(A) of new IRC section 250, allows US corporate taxpayers a deduction in the amount of 37.5 percent of income earned from the sale of property to a person outside of the US for use outside of the US or the provision of services to a person outside of the US or with respect to property not located in the US. (For tax years beginning 2026, the deduction is reduced to 21.875 percent.)

Senate Bill (SB) 3152 (linked here) proposes an amendment to Section 203(b)(2) of the Illinois Income Tax Act (IITA) that would add back to taxable income the amount of a corporate taxpayer’s FDII deduction allowed under the IRC. Absent this amendment, the FDII deduction likely automatically would be included in Illinois’ corporate tax base: Illinois is a “rolling” conformity state (IITA section 1501(a)(11)), and the FDII deduction is a “special deduction” under the IRC which is incorporated in Illinois’ starting point for taxable income (IITA section 203(b)(1), (e) (For corporations IITA imposed on “taxable income” as defined under the IRC); IRC section 63 (“taxable income” includes “special deductions”)).

SB 3152 has been assigned to the Senate Revenue committee for review. It remains to be seen how, if at all, Illinois will respond to other changes enacted by the federal Act, particularly with respect to the other new international tax provisions, including those related to the deferred foreign earnings transition tax and global intangible low-taxed income, which include both additions and deductions at the federal level.

Tax Takes Video: State Tax after Reform…Where Are We Going?

by Diann Smith and Stephen P. Kranz | Feb 21, 2018 | Allocation/Apportionment, Income Tax, Nationwide Importance, Tax Base

Determining financial statement impact from the state flow through of federal tax reform will be complicated by changes in state tax policy expected to be adopted. In our latest Tax Takes video, McDermott’s Steve Kranz and Diann Smith discuss the issues with Joe Henchman, Executive Vice President of the Tax Foundation. The group suggests options for companies to protect against negative policy changes.

State Income Tax Implications of Base Broadening Components of House and Senate Tax Reform Bills

by Diann Smith, Mark Nebergall and Stephen P. Kranz | Dec 5, 2017 | Nationwide Importance, Tax Base, Uncategorized

While there are differences between the House and Senate tax reform bills that remain to be worked out between the two chambers, both bills are positioned to broaden the tax base and reduce the tax rate. This article highlights the possible impact on state income tax liabilities stemming from the base broadening provisions.

State and Local Tax Aspects of Republican Tax Reform Framework

by McDermott Will & Emery | Sep 29, 2017 | Allocation/Apportionment, Federal Tax, Income Tax, Local Tax, Nationwide Importance, Property Tax, Tax Base, Transfer Pricing

The White House and Republican congressional leadership released an outline this week to guide forthcoming legislation on federal tax reform. The states conform to the federal tax laws to varying degrees and the extent to which they will adopt any federal changes is uncertain. This memorandum outlines some of the key areas—individual taxation, general business taxation and international taxation— with which the states will be concerned as details continue to unfold.

While Virginia Supreme Court Holds “Subject-To-Tax” Means “Actually Taxed,” Determination of “Actually Taxed” is Relatively Broad for Purposes of Addback Exception

by Jane Wells May | Sep 6, 2017 | Income Tax, Nationwide Importance, Tax Base, Virginia

On August 31, 2017, in a 4-3 split decision, the Virginia Supreme Court (Court) affirmed a circuit court’s ruling that in order for income to qualify for the “subject-to-tax” exception to its addback statute, the income must actually be taxed by another state. Kohl’s Dep’t Stores, Inc. v. Va. Dep’t of Taxation, no. 160681 (Va. Aug. 31, 2017). A copy of the Opinion (Op) is available here. The Court, however, did find for the taxpayer on its alternative argument, concluding that the determination of where income was “actually taxed” includes combined return and addback states, in addition to separate return states, and includes income subject to tax in the hands of the payor, not just the recipient. For our prior coverage of the subject-to-tax exception, see here.

The issue here was whether Kohl’s Department Stores, Inc. (Kohl’s), which operates retail stores throughout the United States (including Virginia), was required to “add back” to its income royalties it paid to a related party for the use of intellectual property owned by that party. Kohl’s deducted the royalty payments as ordinary and necessary business expenses in the computation of its federal income, and the recipient related party included the royalty income in its taxable income calculations in the states in which it filed returns, including both separate and combined reporting states. The Court considered whether the royalty payments paid by Kohl’s must be “added backed” to Kohl’s taxable income under Virginia law, or whether the royalties fell within Virginia’s “subject-to-tax” exception. (more…)

Favorable Guidance from the New Jersey Tax Court on the ‘Unreasonable’ Exception to the Related-Party Intangible Expense Add-back

by McDermott Will & Emery | Jun 29, 2017 | Audits, Income Tax, New Jersey, Nexus, Tax Base, Transfer Pricing

In a recent decision, the New Jersey Tax Court provided some long-awaited guidance on the “unreasonable” exception to the state’s related-party intangible expense add-back provision. In BMC Software, Inc v. Div. of Taxation, No 000403-2012 (2017), the Tax Court held that payments made by a subsidiary to its parent for a software distribution license were intangible expenses that were subject to the add-back provision, but that the statutory exception for “unreasonable” adjustments applied so that the subsidiary was able to deduct the expenses in computing its Corporation Business Tax (CBT). The court first determined that the expense was an intangible expense and not the sale of tangible personal property between the entities because the contract specifically called the fee a royalty, the parent reported the income as royalty income and the parent retained full ownership of the intellectual property rights indicating that no sale had taken place. Thus, the court determined that the intangible expense add-back provision did apply. The most interesting aspect of this case, however, was the court’s application of the “unreasonable” exception to the intangible expense add-back provision because that had not yet been addressed by the courts in New Jersey.

The Tax Court established two critical points with respect to the add-back of related-party intangible expenses: first, that the “unreasonable” exception does not require a showing that the related-party recipient paid CBT on the income from the taxpayer; and secondly, that a showing that the related-party transaction was “substantively equivalent” to a transaction with an unrelated party is sufficient evidence that the add-back is “unreasonable.” (more…)

NCSL Task Force on SALT Meets in Anticipation of Active Legislative Sessions

by McDermott Will & Emery, Eric D. Carstens and Stephen P. Kranz | Jan 17, 2017 | Audits, Constitutional Issues, Federal Tax, Income Tax, Nationwide Importance, Nexus, Sales Tax, Tax Base, Transaction Taxes

On Saturday, January 14, the National Conference of State Legislatures (NCSL) Task Force on State and Local Taxation (Task Force) met in Scottsdale, Arizona to discuss many of the key legislative issues that are likely to be considered by states in 2017. The Task Force consists of state legislators and staff from 33 states and serves as an open forum to discuss tax policy issues and trends with legislators and staff from other states, tax practitioners and industry representatives.

Below is a short summary of the key sessions and takeaways from the first Task Force meeting of 2017. PowerPoints from all sessions are available on the Task Force website.

Nexus Expansion Legislation Expected to Continue

With lawsuits pending in South Dakota and Alabama over actions taken by states in 2016, MultiState Associate’s Joe Crosby provided an overview of 2016 nexus expansion legislation (as well as legislation introduced thus far in 2017), with NCSL’s Max Behlke pointing out that he expects a lot of states to act on this trend this year.

In particular, it was pointed out that the US Supreme Court’s denial of cert in DMA v. Brohl (upholding the decision of the 10th Circuit) should give states confidence about their ability to constitutionally adopt similar notice and reporting laws. Last month, Alabama Revenue Commissioner Julie Magee publicly stated that Alabama plans to introduce notice and reporting legislation similar to Colorado, along with at least two other states.

Economic nexus laws directly challenging Quill, similar to South Dakota SB 106 passed last year, are also expected to be prevalent in 2017—with five states (Mississippi, Nebraska, New Mexico, Utah and Wyoming) already introducing bills or formal bill requests that include an economic nexus threshold for sales and use tax purposes. Notably, the Wyoming bill (HB 19) has already advanced through the House Revenue Committee and its first reading by the Committee of the Whole and is expected to receive a final vote in the House this week. The Nebraska bill (LB 44) takes a unique approach in that it would impose Colorado-style notice and reporting requirements on remote sellers that refuse to comply with the economic nexus standard.

Behlke pointed out that he doesn’t see Congress acting on the remote sales tax issue in early 2017 due to other priorities—including federal tax reform. With a final resolution of the kill-Quill efforts by the US Supreme Court most likely not possible until late 2017 (or later), state legislatures are likely to feel the need to take matters into their own hands. From an industry perspective, this presents a host of compliance concerns and requires companies currently not collecting based on Quill to closely monitor state legislation. This is especially true given the fact that many of the bills take effect immediately upon adoption.

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Digital Tax Update – Local Edition

by McDermott Will & Emery, Eric D. Carstens and Stephen P. Kranz | Oct 20, 2016 | Alabama, Audits, California, Colorado, Local Tax, Nationwide Importance, Sales Tax, Tax Base, Transaction Taxes

After the highly publicized administrative lease transaction and amusement tax expansions in Chicago last year, more cities around the country are taking steps to impose transaction taxes on the sale or rental of digital content. Unlike tax expansion efforts at the state level (such as the law recently passed in Pennsylvania), which have almost all been tackled legislatively, the local governments are addressing the issue without clear legislative authority by issuing administrative guidance and taking aggressive positions on audit. As the local tax threat facing digital providers turns from an isolated incident to a nationwide trend, we wanted to highlight some of the more significant local tax developments currently on our radar.

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