19 September 2017 State and Local Tax Weekly for September 8 Ernst & Young's State and Local Tax Weekly newsletter for September 8 is now available. Prepared by Ernst & Young's State and Local Taxation group, this weekly update summarizes important news, cases, and other developments in U.S. state and local taxation. Virginia Supreme Court holds "subject to tax" add back exception applies on a post-apportionment basis; add-back required In Kohl's Department Stores,1 the Virginia Supreme Court (Court) in a 4-3 ruling held a multistate retailer is required to add-back royalties paid to an out-of-state related corporation (Illinois entity) because these payments did not qualify for the "subject to tax" safe harbor exception to Virginia's inter-company add-back statute. In so holding, the Court concluded the "subject to tax" exception "applies only to the extent that the royalty payments were actually taxed by another state" (i.e., it applies on a post-apportionment basis only). Turning to the retailer's alternative argument, the Court agreed that the Virginia Department of Taxation (Department) erred in calculating the amount of royalties that fall within the subject-to-tax exception. The Department allowed a partial exception to the extent the royalty payments were apportioned and taxed in the separate return states in which the Illinois entity filed returns. The Department asserted "that the subject-to-tax exception only applies to '[t]he corresponding item of income received by the related member.'"2 The Court rejected this assertion, finding no such statutory requirement. Thus, to the extent the royalties were actually taxed by another state (including separate return states, combined return states or addback states) the subject-to-tax exception applies, regardless of which entity paid the tax. The Court remanded the case for determination of the portion of the royalty payments excepted from the addback requirement. Three Justices in a vigorous dissent asserted that the majority of the Court "inserted an apportionment calculation" unsupported by the statute. The dissent found the statutory language unambiguous and would not have deferred to the Department's interpretation. Moreover, the dissent found the majority in adopting the Department's interpretation, inserted apportionment language reflected in proposed legislative amendments that were not enacted. The dissent also pointed to language enacted by the General Assembly in the 2014 and 2016 Budget Bills, which are not at issue in the case. This ruling provides further clarification as to the scope of the "subject to tax" exception for the related member add back provisions under Virginia law. The ruling, however, still leaves open the precise calculation of what is subject to tax, since the case was remanded to the circuit court for a determination of what portion of the royalty payments was actually taxed by another state and, therefore, excepted from the add back statute. In particular, it is not clear how combined reporting states should be treated for purposes of the post-apportionment exception. Taxpayers who have claimed this exception should review the ruling to determine whether they still qualify for the exception, and to see if additional royalty payments may fall within the exception. For additional information on this development, see Tax Alert 2017-1480. The Virginia Department of Taxation (Department) announced that its tax amnesty program will run from Sept. 13, 2017 through Nov. 14, 2017. The amnesty program is open to individuals and businesses for tax assessments issued before June 15, 2017 that are related to an amnesty eligible period (returns must correspond to an amnesty eligible period). In exchange for participating in, and fully complying with the terms of, the amnesty program, the Department will waive all civil and criminal penalties assessed or assessable and one-half of the interest assessed or assessable. Eligible tax liabilities that remain unpaid at the end of the amnesty program will be subject to a 20% penalty. Va. Dept. of Taxn., Ruling of the Tax Comm'r P.D. 17-156 (Sept. 5, 2017). Guidance issued by the Department lists the 42 different tax types and the tax periods eligible for amnesty. Eligible taxes and tax periods include, but are not limited to: — retail sales and use taxes, business consumer's use tax, direct payment permit sales and use tax, and out-of-state dealer's use tax (month of April 2017 and prior), The taxable period for the different tax types listed in the guidance has been calculated using the original due date of the return (without consideration being given to filing extensions). A taxpayer will not be eligible to participate in the program if it is currently under investigation or prosecution for filing a fraudulent return or failing to file a return with the intent to evade tax. In addition, amnesty does not apply to: (1) bills and accounts paid prior to Sept. 13, 2017; (2) federal tax assessments; (3) local tax assessments; (4) tax bills with an assessment date after June 15, 2017 (certain exceptions for bills issued during the amnesty period); and (5) obligations of a taxpayer with an active jeopardy or fraud assessment. Further, any tax liability associated with a decision issued by a Virginia court issued on or after Jan. 1, 2016, is not eligible for amnesty. This prohibition applies to the Virginia circuit courts' rulings in Kohl's Department Stores Inc.3 regarding the related party intangible expense addback provisions, and Corporate Executive Board4 regarding a denied request to use an alternative apportionment formula. For additional information on Virginia's amnesty program, see Tax Alert 2017-1488. Illinois: Amended regulation (86 Ill. Adm. Code 100.3370) was updated to reflect the 1999 and 2008 statutory changes to Illinois's sales factor apportionment rules, most notably the enactment of market-based sourcing provisions. The final amended sales factor regulation contains technical corrections throughout and adds substantive interpretive guidance on: (1) rules governing receipts from patents, copyrights, trademarks and other similar items of intangible personal property (the underlying statute was enacted for tax years ending on or after Dec. 31, 1999); (2) rules governing market-based sourcing (the underlying statute was enacted for tax years ending on or after Dec. 31, 2008). In addition, the final amended sales factor regulation recognizes the Illinois Supreme Court decision in Exelon Corp.,5 by proposing a new paragraph to clarify that sales of electricity are not considered sales of tangible personal property for apportionment purposes until tax years ending on or after July 15, 2009. The final, amended version of the sales factor regulation adopted by the Illinois Department of Revenue is substantially similar6 to the proposed version of the regulation, which is discussed in-depth in Tax Alert 2017-277. The amended regulation became final on Aug. 3, 2017. For additional information on this development, see Tax Alert 2017-1418. Illinois: Amended regulations (86 Ill. Adm. Code 100.3380 and 100.3390), related to alternative apportionment, were modified to reflect statutory changes namely the adoption of market-based sourcing, and to reflect current Illinois Department of Revenue (Department) policies. Under the amended regulation, a person may petition for, or the Department may require, the use of an alternative apportionment formula if: (1) for taxable years ending before Dec. 31, 2008, the use of the standard apportionment formula does not fairly represent the extent of a person's business activity in Illinois; or (2) for taxable years ending on or after Dec. 31, 2008, the use of the standard apportionment formula does not fairly represent the market for the person's goods, services, or other sources of business income. Throughout the regulation, the phrase "a person's business activity" is expanded to "a person's business activity or market." Other amendments to the alternative apportionment regulation (specifically the exclusion from the factor of gross receipts from incidental or occasional sales found in 86 Ill. Adm. Code 100.3380(c)(2)), make clear that gross receipts from the sale of stock in a subsidiary also are excluded from the sales factor. The regulation lists various reasons why exclusion of incidental or occasional gross receipts from the sales factor is appropriate with a common theme among the reasons being that such sales are not usually in the market for the taxpayer's goods or services and inclusion would not reflect the taxpayer's market. Adopted amendments further state that sales of intangibles and gross receipts in the regular course of business are disregarded and only the net gain (loss) is included in the sales factor. For tax years ending on or after Dec. 31, 2008, however, only net gains are included in the sales factor for sales sourced under 35 ILCS 5/304(a)(3)(C-5)(iii) (dealing with interest on net gains and other items from the sale of intangible personal property). These rules became final on Aug. 3, 2017. For additional information on this development, see Tax Alert 2017-1418. Indiana: An out-of-state corporation (corporation) operating in Indiana and worldwide that licensed intellectual property to foreign affiliates in various countries was entitled to reduce its Indiana sales factor because sales into foreign jurisdictions in which it had nexus should not have been sourced to Indiana under the throwback rule. The Indiana Department of Revenue (Department) determined that even though the corporation filed a separate return, the nexus of its foreign subsidiaries nevertheless could be attributable to it since the Department, in a previous audit, and to prevent distortion, required the corporation to include royalty income from an intellectual property (IP) subsidiary in its total income. The Department said that as a matter of equity, it would apply the Finnigan7 concept and considered the IP subsidiary's nexus in determining where the corporation's income from foreign jurisdictions should be sourced. Here, the corporation documented that its subsidiaries' activities in eight countries exceeded the protections of P.L. 86-272. Thus, the throwback rule does not apply to sales into the eight foreign jurisdictions in which it had nexus, but does apply to the remaining 34 jurisdictions in which it did not provide proper documentation. Ind. Dept. of Rev., Letter of Finding No. 02-20160336R (Aug. 30, 2017). Oregon: New law (HB 2066) makes permanent the prohibition of using any tax credit to reduce, pay or otherwise satisfy the minimum tax on C corporations. As originally enacted, this prohibition was set to sunset in 2021. HB 2066 takes effect Oct. 6, 2017. Ore. Laws 2017, Ch. 610 (HB 2066), signed by the governor on Aug. 2, 2017. Texas: In Gulf Copper, the Texas Court of Appeals (Court) affirmed the trial court's ruling that a corporation primarily engaged in the business of surveying, manufacturing, upgrading, and repairing offshore drilling rigs is entitled to include all of its subcontractor payments in the revenue exclusion under Tex. Tax Code §171.1011(g)(3) for certain flow-through funds (the (g)(3) revenue exclusion), but held the trial court erred in ruling the corporation was entitled to include the entire amount of its subcontractor payments in its cost of goods sold (COGS) deduction. Citing Titan Transportation,8 the Court determined the corporation's contracts with its subcontractors satisfy the statutory requirement that qualifying payments be contractually mandated to someone other than the corporation. The Court also rejected the Comptroller's argument that the subcontractor payments do not qualify for the (g)(3) revenue exclusion because the work done was too remote or attenuated from the construction of the improvement on the oil well. The Court found at least part of the subcontractors' work meets the (g)(3) revenue exclusion's requirement that the work be "in connection with" construction of a real property improvement. The subcontracted labor performed essentially the same activities as the corporation's employees in its yards, and the work done on the offshore drilling rigs, which readied the rigs to perform the drilling services, is reasonably connected with the construction of that oil well. Turning to the COGS issue, the Court explained the plain language of Tex. Tax Code §171.1012 requires the Texas COGS deduction be calculated using a cost-by-cost analysis to determine whether the cost fits one of the types and categories eligible to be included in the calculation. The Court found the corporation's use of its federal income tax COGS deduction as the "starting point" for its Texas calculation failed to provide evidence that the included expenses are deductions allowed for state purposes, while the Comptroller's calculation of the COGS deduction was incorrect as a matter of law since it failed to use a cost-by-cost basis to determine the corporation's eligibility for the COGS deduction. Consequently, the Court reversed the trial court's order that the state pay the corporation the full amount it paid under protest, and remanded the case for determination of the proper refund amount. Hegar v. Gulf Copper and Mfg. Corp., No. 03-16-00250-CV (Tex. App. Ct., 3d Dist., Aug. 11, 2017). Illinois: New law (HB 821) amends the Use Tax Act, the Service Use Tax Act, the Service Occupation Tax Act, the Retailers' Occupation Tax Act, the Prepaid Wireless 9-1-1 Surcharge Act, the Public Utilities Act, and the Environmental Protection Act, to require certain tax returns filed under those Acts to be filed electronically. Vendor discounts under those Acts are allowed only for returns that are filed electronically. An exemption is provided for taxpayers without access to the internet. While the new electronic filing mandate carries no statutory penalty for failing to comply, taxpayers that continue to file on paper forfeit the vendor discount. The provisions of HB 821 took effect upon enactment. Ill. Laws 2017, Pub. Act 100-0303 (HB 821), signed by the governor Aug. 24, 2017. Illinois: New law (SB 1434) amends the Use Tax Act (UTA) and the Retailers' Occupation Tax Act (ROTA) to create the Rental Purchase Agreement Occupation and Use Tax Act, which imposes a 6.25% occupation tax on the gross receipts of persons engaged in the business of renting merchandise for use by a consumer for personal, family, or household purposes, for an initial term of four months or less, that is automatically renewable. A corresponding 6.25% use tax is imposed on the privilege of using merchandise rented under a rental-purchase agreement in the state. SB 1434 exempts sales to lessors of property intended to be re-leased under rental-purchase agreements, and provides lessors a one-time transitional use tax credit for tax already paid on merchandise subject to tax under the UTA or ROTA. The credit applies to property purchased during the six months immediately prior to the effective date of the act, it has to be claimed within three months of the effective date of the act, and it can be applied against the tax imposed under the act. The provisions of SB 1434 take effect Jan. 1, 2018. Ill. Laws 2017, Pub. Act 100-0437 (SB 1434), signed by the governor Aug. 25, 2017. Missouri: An in-state company may accept an out-of-state exemption certificate from an out-of-state exempt organization for its sales to a Missouri contractor who is purchasing building materials for a project for the exempt organization. Missouri law permits an exemption from sales tax for all purchases on behalf of an entity located in another state when the entity is authorized to issue the exemption certificate for purchases to a contractor under that state's laws. Contractors making purchases on an entity's behalf must maintain a copy of the entity's exemption certificate. Mo. Dept. of Rev., LR 7861 (July 19, 2017). New York: A product used for the treatment of a permanently malfunctioning male urinary tract, as well as its clearly labeled components and replacement parts, are prosthetic aids exempt from New York's sales tax. The New York Department of Taxation and Finance found that since the product replaces a malfunctioning body part, the product as well as its component parts and clearly marked replacement parts are prosthetic aids not subject to tax. N.Y. Dept. of Taxn. and Fin., TSB-A-17(11)S (July 26, 2017). North Carolina: Customers that take advantage of a cash discount (term discount) offered by a company for prompt or early payment of a balance due on an invoice are subject to sales and use tax on the gross sales price less the discount allowed by the company. The general tax rate applies to an item's sales price (the total consideration for which tangible personal property, digital property, or services are sold, leased, or rented), and a cash discount is a reduction in the sale price. N.C. Dept. of Rev., Private Letter Ruling No. SUPLR 2017-0003 (Aug. 15, 2017). Rhode Island: The monthly service fee a restaurant pays a vendor for use of mobile point of sale devices is subject to sales and use tax as a sale at retail (which includes the lease or rental of tangible personal property). The restaurant's sale of premium content to its customers through the devices also is subject to sales and use tax because the definition of "sales" includes the furnishing, preparing, or serving for consideration of food, meals, or drinks, including any cover, minimum, entertainment, or other connected charge. Commissions for fees paid by the restaurant's customers for premium content (e.g., games, news, social media content, and songs) and shared with the vendor, however, are not subject to sales and use tax as the rental of tangible personal property because the commissions are not directly related to price reductions or sales discounts. The Rhode Island Division of Taxation noted that the vendor must apply for a retail sales permit and collect and remit tax on its sales to the restaurant. R.I. Div. of Taxn., Ruling Request No. 2017-03 (Aug. 10, 2017). Oklahoma: As a result of recently enacted legislation (HB 2377), the last day to file refund claims for several Oklahoma oil and gas gross production tax incentives is Sept. 30, 2017. Affected incentives include the following: (1) Secondary Recovery Project, (2) Tertiary Recovery Project, (3) Inactive Well, (4) Production Enhancement Project, (5) Deep Well (12,500 feet — 14,999 feet), (6) New Discovery Well, (7) 3D Seismic Shoot, and (8) Economically At Risk Wells. These incentives will no longer be available for tax remitters to utilize beginning with July 2017 production. Other recently enacted Oklahoma legislation (HB 2429) reduces the Oil and Gas Horizontal Incentive rate to 4% for the remaining life of the exemption, effective for July 2017 production and thereafter. For additional information on this development, see Tax Alert 2017-1426. Oregon: New law (HB 2066) establishes new, and modifies current, tax credit provisions. Effective for tax years beginning on or after Jan. 1, 2017, the bill provides a new employee training tax credit to taxpayers located in a qualifying county who establish and implement an employee training program in collaboration with a local community college. The credit is equal to 12% of the taxpayer's expenses to establish and implement the program, it cannot exceed the taxpayer's tax liability for the year, and unused credits can be carried forward up to three tax years. In addition, the bill: (1) creates a bovine manure tax credit (based on the current biomass tax credit), applicable to tax years beginning on or after Jan. 1, 2018 and before Jan. 1, 2022; (2) sunsets the biomass tax credit for tax years beginning on and after Jan. 1, 2018 (previously, Jan. 1, 2022); (3) extends the sunset date of the reservation enterprise zone or reservation partnership zone credit to Jan. 1, 2028 (previously, Jan. 1, 2018); (4) extends the sunset date of the credit against corporate excise tax for affordable housing lenders to Jan. 1, 2026 (previously, Jan. 1, 2020), and increases the credit's annual cap to $25 million (from $17 million); (5) extends the sunset date of the fish screening tax credit to Jan. 1, 2024 (previously, Jan. 1, 2018); and (6) extends the sunset date of the rural medical provider tax credit to Jan. 1, 2022 (previously, Jan. 1, 2018). Ore. Laws 2017, Ch. 610 (HB 2066), signed by the governor on Aug. 2, 2017. Oregon: New law (HB 2191) provides that if a corporation or limited liability company (LLC) fails to comply with an order from the Oregon Secretary of State related to potential violations of Oregon's laws governing private corporations or LLCs, the Secretary of State can: (1) impose a civil penalty; (2) cancel or revoke an incorporation, or revoke a foreign corporation's authorization to transact business in Oregon, after conducting a hearing as required by statute; or (3) administratively dissolve the corporation. In addition, the Director of the Oregon Department of Revenue (Department) can recommend that the Secretary of State administratively dissolve a corporation or LLC for a failure to comply with Oregon's tax laws, unless the Director has allowed an appeal or other action by the Department related to this failure. HB 2191 covers the process for an administratively or judicially dissolved corporation's or LLC's reinstatement, as well as how an entity can appeal such an action by the Secretary of State. These provisions become operative on Jan. 1, 2018. Ore. Laws 2017, Ch. 705 (HB 2191), signed by the governor on Aug. 16, 2017. New York City: New law (I.N. 1677) repeals the current wireless surcharge and imposes a new wireless communications service surcharge at a rate of $0.30 per month on each wireless communications device in service during any part of the month. I.N. 1677 also imposes a surcharge at a rate of $0.30 per retail sale on each prepaid wireless communications service. These changes take effect Dec. 1, 2017. N.Y.C. Laws 2017, Local Law 139 (I.N. 1677), signed by the mayor on Aug. 25, 2017. International: The Nigeria Senate is currently conducting an investigation into customs and marine transport activities from 2006 to 2017 through its Joint Committee on Customs, Excise and Tariff, and Marine Transport. So far, this investigation, which is being carried out by virtue of powers granted to the committee under Sections 62(1) and 89(1) of the Constitution of the Federal Republic of Nigeria 1999 (CAP C23 Laws of the Federation of Nigeria 2004) and Section 4 of the Legislative Houses (Powers and Privileges) Act, has resulted in the identification of certain issues including wrong classification, undervaluation and underpayment of duties, inappropriate documentation, under declaration and incorrect origin. For additional information on this development, see Tax Alert 2017-1415. International: The German Ministry of Finance has issued a circular to address the application of three Supreme Tax Court decisions regarding a retroactive option to tax with regard to Value Added Tax (VAT). With an option to tax, a business may elect to charge VAT on the sale or rental of commercial property (it does not apply to residential buildings). As a result, there is a taxable supply out of what is generally an exempt supply, allowing the ability to recover VAT on related costs. For additional information on this development, see Tax Alert 2017-1443. International: The Romanian Ministry of Finance has published an Ordinance on the implementation of the Value Added Tax (VAT) split payment mechanism in the Official Gazette. Accordingly, taxable persons registered for VAT purposes in Romania according to art. 316 of the Fiscal Code (as well as the public institutions registered according to that article) are required to open separate accounts for the collection and payment of VAT. The VAT split payment applies to all taxable supplies of goods/services, for which the place of supply is in Romania (some exceptions are provided). For additional information on this development, see Tax Alert 2017-1414. International: Saudi Arabia's General Authority of Zakat and Tax (GAZT) has released the final Implementing Regulations to the Value-added Tax Law (VAT Bylaws) on its website. With the official publication of the finalized VAT Bylaws in the Saudi Gazette, businesses should be able to move forward with the full implementation of the VAT Law. The implementation steps will include transformation of the financial processes of the business to meet the VAT reporting requirements and the reconfiguration of IT systems to manage the compliance obligations for VAT reporting from Jan. 1, 2018 onwards. For additional information on this development, see Tax Alert 2017-1431. International: In June 2016, the Slovenian Ministry of Finance adopted amendments to the Rules on the Implementation of the Value Added Tax (VAT) Act, introducing an explicit exemption from the obligation to register for VAT purposes for foreign established taxable entities performing only supplies that are VAT-exempt with the right to deduct input VAT in the territory of Slovenia. The provision caused uncertainty, as it did not clearly confirm that it also applies to foreign established taxable entities performing exempt intra-Community (European Union) supplies in the territory of Slovenia. In August 2017, the Financial Administration of the Republic of Slovenia published official guidance on this issue. Namely, the introduced exemption from the obligation to register for VAT applies only when the VAT exemption is not conditional upon VAT registration and/or any reporting prescribed by the Slovenian VAT Act or EU VAT Directive. For additional information on this development, see Tax Alert 2017-1442. All States: On Sept. 20, 2017, from 1:00-2:30 p.m. EDT (10:00-11:30 a.m. PDT), EY will host the domestic tax quarterly webcast focused on state tax matters. On this webcast, Ernst & Young LLP panelists will discuss the following topics: (1) the importance of understanding and being engaged in state tax policy matters throughout the tax policy lifecycle; (2) hot issues in property tax, including those related to dark stores and nonprofits; (3) the latest with respect to sales and use tax nexus; and (4) an update covering major judicial and administrative developments at the state level. To register for this event, go to State tax matters. Because the matters covered herein are complicated, State and Local Tax Weekly should not be regarded as offering a complete explanation and should not be used for making decisions. Any decision concerning matters covered herein should be reviewed with a qualified tax advisor. 1 Kohl's Department Stores, Inc. v. Virginia Department of Taxation, No. 160681 (Va. S. Ct. Aug. 31, 2017). 3 Kohl's Dept. Stores, Inc. v. Virginia Dept. of Taxn., No. 760CL 12-1774 (Va. Cir. Ct., City of Richmond, Feb. 3, 2016). Note, on August 31, 2017, the Virginia Supreme Court upheld the circuit court's ruling requiring add back (Kohl's Dept. Stores, Inc. v. Virginia Dept. of Rev., No. 160681 (Va. S. Ct. Aug. 31, 2017)) (see description of this ruling above). 4 Corporate Executive Bd. v. Virginia Dept. of Taxn., No. CL13-3104 (Va. Cir. Ct., Arlington Cnty., Nov. 30, 2015), dismissed by the Va. S. Ct. (June 9, 2016). 6 Changes from the proposed amendments include 86 Ill. Adm. Code 100.3370(a)(2)(F)(i) and 100.3370(c)(5)(C)(ii) (more robust definitions for both); 100.3370(c)(6)(D)(iii)(Example 5) (inclusion of the phase "or have their ordering or billing address); 100.3370(c)(6)(D)(iv) (last bullet) (inclusion of "deemed to be received"). 7 Appeal of Finnigan Corp., Cal. St. Bd. of Equal., 88-SBE-022 (Aug. 25, 1988) (Finnigan I)); Opin . on Pet. for Rhrg, Cal. St. Bd. of Equal., 88-SBE-022-A (Jan. 24, 1990 (Finnigan II and collectively with Finnigan I, Finnigan)) (available on the Internet here (the term "taxpayer" as used in the "throwback" statute includes all members of the unitary group, and therefore, if some member of the group was taxable in the destination state, the throwback rule does not apply and the sales are not included in the origination (California) sales factor). Document ID: 2017-1513 |
