On March 14, 2019, House Bill 354 (HB 354), which includes various tax law changes, was sent to Governor Matthew Bevin for his consideration. The Governor has 10 days to consider whether to approve or veto legislation. The legislature resumes for one day, on March 28, 2019, to consider whether to override the Governor's vetoes, if any, or pass other last-minute legislation.

HB 354 adopted several tax-related provisions, many focused on a "clean-up" of the tax provisions adopted in 2018 through enactment of House Bill 487 (HB 487). HB 487 enacted significant Kentucky tax law changes, including the expansion of the sales/use tax base to include various services. For corporate income taxes, HB 487 adopted a single sales factor and market-based sourcing for services starting as of January 1, 2018. Effective for tax years beginning on and after January 1, 2019, the mandatory nexus-consolidated regime for corporate income taxes is replaced with mandatory unitary combined reporting with an elective consolidated election available. (See Tax Alert 2018-0911). If enacted, HB 354 would adopt provisions designed to address concerns with the legislation as originally enacted.

HB 354 would update Kentucky's IRC conformity date for 2018 to the IRC as of December 31, 2017. For 2019 and forward, Kentucky would adopt the IRC as of December 31, 2019. Regarding IRC §179 expensing, HB 354 would update to the IRC as of December 31, 2003 allowing $100,000 to be expensed when property is placed in service after January 1, 2020. Regarding the limited liability entity tax (LLET), certain smaller businesses (e.g., those with less than $6 million in gross receipts) would be subject to a $175 minimum tax versus a zero liability. In addition, the LLET statute of limitations would be modified for assessments of the tax against pass-through entities. In those cases, the individual partners, members, etc. in the limited liability entity would have 180 days from the assessment to file amended returns to allow for flow-through items stemming from the assessment.

Regarding combined reporting, HB 354 would amend the definition of a "combined group" to adopt a greater-than-50% ownership (voting stock) test (HB 487 did not specify an ownership threshold). HB 487 included corporations set up in tax havens in the combined group. HB 354 would amend the definition of "tax haven" to exclude any country that has entered into a comprehensive tax treaty with the United States. Moreover, HB 354 would provide that combined reporting applies on a water's-edge basis and that intercompany receipts are eliminated in computing combined income. HB 354 also would adopt an 80/20 test under which US-domiciled corporations earning 80% or more of their income from sources outside the United States would be excluded from the combined income computation. Although HB 354 addresses issues with the combined reporting provisions enacted in 2018, other issues remain unresolved. For instance, HB 354 does not address the inability to share tax attributes such as net operating losses or credits among members of a combined group. In addition, while HB 354 adopts a water's-edge reporting regime and provides for an 80/20 test for US-domiciled corporations, it may not have adequately made sure that all foreign income would be excluded from the report of the combined group.

As noted, HB 487 also provided for the ability to elect, in lieu of combined reporting, to file on a consolidated basis, consistent with the federal consolidated group. As originally enacted, the election was binding for 96 months. HB 354, however, would shorten the period by half to 48 months, subject to renewal by the taxpayer.

Another notable change is that the bank franchise tax would sunset after 2021. Beginning January 1, 2021, corporations subject to the bank franchise tax will be subject to the corporate income tax or the LLET, as the case may be. The bank franchise tax would be maintained during 2021 with a refundable income tax credit available for the one-year overlap.

Other tax-related changes in HB 354 include adopting marketplace provider nexus provisions for sales/use taxes. A marketplace provider would be deemed to have nexus with Kentucky if the provider makes retail sales on its own behalf or facilitates retail sales of tangible personal property, digital property, or services that are delivered or transferred electronically to a purchaser in the state in any sales combination that exceeds $100,000 or reaches 200 or more separate transaction in the preceding or current calendar year. This provision would apply to transactions occurring on or after July 1, 2019.

HB 354 also would adopt exemptions from otherwise taxable admissions charged by certain non-profit organizations, and modify, as of July 1, 2018, the application of exemption for manufacturers for energy. The exemption would apply to the extent that energy costs exceed 3% of the manufacturer's cost of production. HB 487 required a toller (defined as a person who performs a manufacturing or industrial processing activity for a fee but does not take ownership of the tangible personal property that is incorporated into, or becomes the product of, the manufacturing or industrial processing activity) to include the costs of its own tangible personal property in its computation of costs of production. HB 354 would allow, as of July 1, 2018, a toller to exclude such costs from its computation of production costs if certain requirements are met. HB 354 would make changes to some incentive programs and to the Recycling Credit. Finally, HB 354 would prevent certain Kentucky Department of Revenue guidance, including private letter rulings, from being made public.

Implications

EY will continue to monitor developments in this area and provide additional analysis of HB 354 if it is enacted.

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