17 May 2017 New York issues draft amended regulations on computation of prior net operating loss conversion (PNOLC) subtraction The New York State (NYS) Department of Taxation and Finance (Department) recently released draft Article 9-A corporate franchise tax regulations (N.Y. Comp. Codes and Regs. tit. 20, Sections 3-9)1 (hereinafter, all references to "section" are to the relevant section or sections of the draft regulation unless stated otherwise) covering the computation of the prior net operating loss conversion (PNOLC) subtraction. In 2014 and 2015, the New York legislature significantly amended Article 9-A of its general corporations tax law, which, in part, substantially changed the manner in which net operating losses (NOLs) were carried over and required NOLs generated in tax years beginning before January 1, 2015 to be converted to a PNOLC subtraction that could be used to offset a taxpayer's future business income. The draft regulations provide information on how to compute the unabsorbed net operating loss (UNOL), the PNOLC subtraction pool and the PNOLC subtraction, and how certain corporate acquisitions and liquidations affect the PNOLC subtraction. In addition, the draft regulations provide various examples for computing the UNOL and PNOLC subtraction. The draft regulations do not address the treatment of NOLs generated in a tax year beginning on or after January 1, 2015. The Department indicated that such rules will be provided in a forthcoming, separate draft regulation. Section 3-9.1 contains definitions of key terms used throughout the PNOLC subtraction draft regulations, including the following: 1. "Base year" is a corporation's last tax year beginning on or after January 1, 2014 and before January 1, 2015. 2. "Base year BAP" is either of the following, depending on which applies: (a) the taxpayer's or combined group's (base year combined group) business allocation percentage for purposes of calculating entire net income (ENI) for the base year (regardless of whether liability was in fact based on ENI), as calculated under N.Y. Tax Law Section 210(3)(a) as in effect on December 31, 2014; or (b) the taxpayer's or base year combined group's allocation percentage to calculate ENI for the base year (regardless of whether liability was in fact based on ENI), as calculated under N.Y. Tax Law Section 1454 as in effect on December 31, 2014. 3. "Base year tax rate" is the taxpayer's or base year combined group's tax rate to compute ENI for the base year (regardless of whether liability was in fact based on ENI), as calculated under N.Y. Tax Law Sections 210(1)(a) or 1455(a), as applicable, as each were in effect on December 31, 2014. 4. "First 2015 taxable year" is a corporation's first tax year beginning on or after January 1, 2015 and before January 1, 2016. 5. "Small-business taxpayer" is a corporation that satisfied the following criteria in the first 2015 taxable year as of the last day of the base year: (a) the corporation's ENI for the base year before allocation was not more than $390,000 (annualized for a base year that is a short tax year); (b) the total money and other property that the corporation received for stock, as a contribution to capital and as paid-in surplus, was not more than $1 million as of the last day of the base year; and (c) the corporation was not part of an affiliated group (IRC Section 1504), unless the group itself would have satisfied requirements (a) and (b) if it had filed a combined report. For a combined report, "small business taxpayer" is a combined group that would have satisfied in the first 2015 taxable year the criteria in (a) and (b) on the last day of the base year if the group had filed a combined report in the base year, provided that each member of such combined group would have satisfied (c) on the last day of the base year. Section 3-9.2 contains draft rules on determining a taxpayer's UNOL for the base year. A taxpayer's UNOL would be the unabsorbed portion of its NOL as calculated under Article 9-A or Article 32, as applicable,3 as in effect on December 31, 2014, that was not deductible in previous tax years (including the base year) and was eligible for carryover on the last day of the base year, including any NOL sustained by the taxpayer during the base year.4 1. First, a corporation would have to determine its federal and NYS NOLs available for carryover from tax years beginning before January 1, 2015, as of the last day of the corporation's base year (federal and NYS NOLs available for carryover) by applying various rules (see later discussion). 2. Then, it would have to determine its federal and NYS carryover amounts as of the last day of its base year (its eligible NOL carryover amounts), to be used in the UNOL computation, by applying various additional rules (see later discussion).5 The following rules would be used to determine a taxpayer's federal and NYS NOLs available for carryforward:6 — NOLs would be carried back and carried forward to tax years beginning before January 1, 2015, and would be included in calculating deductible NOLs and remaining NOLs available for carryover, subject to NOL deduction limitations imposed under Article 9-A and Article 32, as applicable, and the Article 9-A regulation, as all were in effect on December 31, 2014.7 — NOLs available for carryover would not include NOLs that were deductible in a tax year beginning before January 1, 2015, regardless of whether the corporation actually deducted the NOL. If, however, an NOL amount actually deducted in any tax year is greater than the amount deductible, the NOL available for carryover would be reduced by the excess amount deducted. — NYS NOLs would apply against ENI to reduce ENI to zero or the greatest extent possible, regardless of the tax base on which the tax was actually paid.8 — If an NOL's carryforward period ends before or on the last day of the corporation's base year, no portion of the NOL would be included in the NOLs available for carryover as of the last day of the corporation's base year. After computing its federal and NYS NOLs available for carryover, the corporation would then compute its "eligible NOL carryover amounts" to be used in computing the UNOL. The computation would be subject to the following rules and limitations, among others: there must be both a federal and NYS NOL sustained in the same tax year; Separate Return Limitation Year (SRLY) rules; application of IRC Section 381; and IRC Section 382 annual limitations. Regarding the SRLY rule, a corporation's federal NOL sustained in a SRLY beginning before January 1, 2015, and any corresponding NYS NOL that was not deductible in tax years beginning before January 1, 2015, and that was available for carryover as of the last day of the corporation's base year, would be included in the eligible federal and NYS NOL carryover amount. Regarding IRC Section 381, if a corporation, in a tax year beginning before January 1, 2015, succeeded to the tax attributes of another corporation, and such acquiring/successor corporation also succeeded to the NYS NOL carryovers of the acquired/predecessor corporation, then any such federal and NYS NOLs that were not deductible by the acquired/successor corporation in tax years beginning before January 1, 2015, but were available for carryover as of the last day of the corporation's base year, would be included in the eligible federal and NYS NOL carryover amount. A corporation's federal NOLs subject to the limitations imposed by IRC Section 382 that were not deductible in tax years beginning before January 1, 2015, but were available for carryover as of the last day of the corporation's base year, are includible in the eligible federal NOL carryover amount, but only to the extent such pre-change losses do not exceed the following amount: (A) the applicable annual IRC Section 382 limitation in a post-change year for such ownership change, multiplied by 20; less (B) any such pre-change losses that were deductible in tax years beginning before January 1, 2015. Once a corporation has applied all of the necessary rules related to these calculations, generally, the lesser of the eligible federal and NYS NOL carryover amounts would be the corporation's UNOL.9 For combined groups, the UNOL of the base year combined group would be computed in accordance with the rules discussed previously, and then each corporation included in the base year combined group would then compute its own UNOL for its base year. Lastly, any change in a corporation's UNOL amount would have to be made within the applicable statute of limitations10 for the report on which a PNOLC subtraction, as computed and discussed later, is first claimed. Any federal changes finalized after the statute of limitations has expired would not be considered in the UNOL computation.11 Section 3-9.3 of the draft regulations includes examples that illustrate the application of the rules in computing the eligible federal and NYS NOL carryover amounts and the amount of the UNOL for a corporation or combined group. Section 3-9.4 and 3-9.5 — PNOLC subtraction overview and corporations not allowed a PNOLC subtraction After computing a corporation's UNOL, determined previously, Section 3-9.4 provides that a corporation would then have to convert the UNOL to a PNOLC subtraction pool.12 After the computation of the PNOLC subtraction pool, a taxpayer or combined group, in the case of a combined group, would be allowed a PNOLC subtraction, discussed later, applied before the NOL deduction, in the computation of its business income base for tax years beginning on or after January 1, 2015. Section 3-9.5, however, provides that the following corporations would not be allowed to take a PNOLC subtraction: (1) a corporation that lacks a UNOL; (2) a corporation with a base year BAP of 0%; (3) a corporation that has a base year tax rate of 0%; (4) a corporation that, in its base year, was not a member of a combined group that was subject to tax under Article 9-A or Article 32 and that was not subject to tax itself under Article 9-A or Article 32; (5) a corporation that was a regulated investment company in its base year; and (6) a corporation that was a New York S corporation in its base year.13 Section 3-9.6 contains rules for computing the PNOLC subtraction pool for both: (1) a taxpayer that was not a member of a combined group in its base year and (2) a corporation that was a member of a combined group in its base year, whether or not such corporation was a taxpayer in that base year. For a taxpayer that was not a member of a combined group in its base year, the PNOLC subtraction pool would be calculated by: (1) determining the tax value of the taxpayer's UNOL (i.e., the product of the amount of the taxpayer's UNOL, the taxpayer's base year BAP, and the taxpayer's base year tax rate); and (2) dividing the tax value of the UNOL by 6.5%, the conversion percentage. The result is the taxpayer's PNOLC subtraction pool. Similar rules would apply for corporations that are members of a combined group except that, in determining the tax value of the UNOL, a corporation uses the combined group's base year BAP and base year tax rate. In either case, a change in the base year tax rate or base year BAP would be made within the statute of limitations for the base year as determined with regard to any extensions.15 Section 3-9.7 contains rules to determine: (1) the PNOLC subtraction available for use; (2) the tax period PNOLC subtraction allotment; (3) the maximum amount of the PNOLC subtraction to be deducted; (4) the PNOLC subtraction; and (5) the unused PNOLC subtraction carryforward. For a taxpayer that is not a member of a combined group, a PNOLC subtraction available for use in the first 2015 taxable year would equal its tax period PNOLC subtraction allotment for the tax year (see later discussion). For any tax year following that, the PNOLC subtraction amount available would equal the taxpayer's tax period PNOLC subtraction allotment for the tax year, plus any of the taxpayer's unused PNOLC subtraction carryforward. Similar rules would apply to members of a combined group. A corporation's PNOLC subtraction allotment would be a percentage of its PNOLC subtraction pool (either 100% for a small-business taxpayer, 50% for corporations making the election to utilize their PNOLC subtraction pool in tax years beginning before January 1, 2017, and 10% for all other corporations) that a corporation may claim in a tax year.17 The unused portion of a tax period PNOLC subtraction allotment may be considered an unused PNOLC subtraction carryforward (see later discussion). A small-business taxpayer's PNOLC subtraction allotment for the first 2015 taxable year would be 100% of its PNOLC subtraction pool and it would have no tax period PNOLC subtraction allotment after the first 2015 taxable year. A taxpayer or designated agent that elects the 50% allotment method would have to make such election on an original, timely filed return for the first 2015 taxable year, determined with regard to extensions of time for filing. A taxpayer or designated agent of a combined group, however, could revoke the election by timely filing an amended return for each year the taxpayer or combined group claimed the 50% election. A corporation making this election would have a tax period PNOLC subtraction allotment in each of its first two tax years after its base year equal to 50% of its PNOLC subtraction pool and would have no tax period PNOLC subtraction allotment in its third tax year after its base year and in all tax years thereafter. If the corporation is not a small-business taxpayer and the 50% election is not made, then the tax period PNOLC subtraction allotment would equal 10% of the corporation's PNOLC subtraction pool in each of its first 10 tax years after the base year. There is no tax period PNOLC subtraction allotment in the 11th tax year following its base year and in all tax years thereafter. Taxpayers not in a combined group calculate the maximum amount of the PNOLC subtraction to be deducted in a tax year as follows: (1) multiply the business income tax rate for the tax year by the apportioned business income before the PNOLC subtraction and the NOL deduction for the tax year; (2) from this amount, subtract the greater of the capital base tax or the fixed dollar minimum tax for the tax year; and (3) then divide that result by the taxpayer's business income tax rate for the tax year. In the case of a combined report, the maximum amount of the PNOLC subtraction to be deducted in a tax year would be computed as follows: (1) multiply the business income tax rate for the tax year by the combined apportioned business income before the PNOLC subtraction and the NOL deduction for the tax year; (2) from this amount, subtract the greater of the capital base tax or the fixed dollar minimum tax attributable to the designated agent for the tax year; and (3) then divide that result by the combined group's business income tax rate for the tax year. In the case of a corporation utilizing the 50% allotment method, the PNOLC subtraction in a tax year would be the smallest of: (1) the PNOLC subtraction available for use; (2) the maximum amount of PNOLC subtraction; and (3) 50% of its subtraction pool. A PNOLC subtraction would only be allowed for such corporations in tax years beginning before January 1, 2017. In the case of small-business taxpayers and corporations utilizing the 10% allotment method, the PNOLC subtraction in a tax year would be the lesser of: (1) the PNOLC subtraction available for use; and (2) the maximum amount of PNOLC subtraction. For all such corporations, a PNOLC subtraction may be claimed for no longer than 20 tax years or the tax year beginning on or after January 1, 2035, but before January 1, 2036, whichever comes first. If the PNOLC subtraction in a tax year is less than the PNOLC subtraction available for use in that tax year, the difference would be the unused PNOLC subtraction carryforward. For a corporation utilizing the 50% allotment method, any unused PNOLC subtraction carryforward would be forfeited and could not be carried forward to any tax year beginning on or after January 1, 2017. A taxpayer that is not a member of a combined group in a tax year beginning on or after January 1, 2015, but joins a combined group in a later tax year, would add its PNOLC subtraction allotment and unused PNOLC subtraction carryforward to those of the combined group, subject to applicable rules.18 In addition, a corporation that is a member of a combined group for any tax year beginning on or after January 1, 2015 and leaves that group in a later tax year would take its own PNOLC subtraction allotment with it to use in future tax years. It also would take its own share of the combined group's combined unused PNOLC subtraction carryforward, based on its share of the combined group's PNOLC subtraction available for use in the last year it was included in the combined group. If that corporation joins a different combined group, it would add its PNOLC subtraction allotment and unused PNOLC subtraction carryforward to those of the combined group, subject to applicable rules. If such corporation does not join another combined group, it would be allowed its PNOLC subtraction allotment and unused PNOLC subtraction carryforward on a separate basis, subject to applicable rules.19 When IRC Section 381(a) applies (pertaining to carryovers of tax attributes in certain corporate transactions such as tax-free liquidations, mergers, acquisitions and contribution transactions) to a transaction, the acquiring corporation succeeds to the distributor/ transferor corporation's balance of the PNOLC subtraction allotments and unused PNOLC subtraction carryforward. In that case, the acquiring corporation would be subject to the same restrictions and limitations on the unused PNOLC subtraction allotments and unused PNOLC subtraction carryforward as the distributor/transferor corporation.21 Under this section, a taxpayer or combined group with a PNOLC subtraction pool must not only attach to its report a Form CT 3.3 (PNOLC Subtraction form) but also attach: (1) a detailed schedule showing the computation of the UNOL, amount of unused PNOLC subtraction allotment carryforward and, in the case of a combined group, each member's UNOL and amount of unused PNOLC subtraction allotment carryforward; and (2) all material and pertinent facts related to the taxpayer's or combined group's claim. These records would have to be retained during the period in which the statute of limitations for a change to the PNOLC subtraction may be made by the taxpayer or the Department.22 The draft regulations provide taxpayers with more clarity regarding how to calculate PNOLC subtractions, but they do not address post-2014 NOLs.23 In addition, these provisions have implications for prior year tax returns (such as potential amendments or issues that could arise on audit), current year tax returns (including estimates), and provisions. New York City is likely to generally follow these proposed regulations. Because these rules are not yet final, taxpayers should consider submitting comments to the Department before the August 3, 2017 deadline. Consideration should be given to the effect on taxpayers of limiting changes to the PNOLC subtraction pool and the UNOL related to federal changes finalized after the expiration of the statute of limitations for the report on which a PNOLC subtraction is first claimed, including whether there is statutory authority for such a provision. Due to the complexity in applying these rules, as well as the possibility that a statute of limitations will apply to limit the taxpayer's ability to modify such UNOLs, potentially without the ability to apply federal audit changes, we suggest it prudent to verify the computation of UNOLs presently to determine their accuracy.
1 The draft regulations renumber the current Subpart 3-9 (related to Domestic International Sales Corporations), which will move to Subpart 3-14. 3 N.Y. Tax Law Sections 208(9)(f) (definition of ENI as related to NOLs) or 1453(k-1) (ENI with NOL calculation), as in effect on December 31, 2014. 7 See N.Y. Tax Law Sections 208(9)(f) or 1453(k-1) and N.Y. Comp. Codes and Regs. tit. 20, Section 3-8. 8 This is consistent with the recent decision In the Matter of the Petition of TD Holdings II, Inc., DTA No. 825329 (N.Y. Tax App. Trib. April 7, 2016). 10 The SOL is determined under N.Y. Tax Law Section 1083(a) and is determined with regard to an extension of such time period agreed to under to N.Y. Tax Law Section 1083(c)(1)(D). 18 N.Y. Tax Law Section 210.1(a)(viii)(B) and Draft N.Y. Comp. Codes and Regs. tit. 20, Section 3-9.8. Document ID: 2017-0809 | |||||||||||||||
