Ernst & Young's State and Local Tax Weekly newsletter for May 10 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.

TOP STORIES

Oklahoma law allows pass-through entities to elect to be taxed at the entity level in response to federal SALT deduction limitation; 2019 election must be made soon

On April 29, 2019, Oklahoma Governor Kevin Stitt signed into law the Pass-Through Entity Tax Equity Act of 2019 (Act) (HB 2665) which will allow a pass-through entity (PTE) filing returns in the state to elect to pay Oklahoma income tax at the entity level on behalf of its equity owners. The election can be made by any PTE required to file an Oklahoma partnership income tax return or an Oklahoma S corporation income tax return, and is available for tax years beginning on or after Jan. 1, 2019. The election, once made, is binding until revoked under procedures to be set forth by the Oklahoma Tax Commission (Commission).

The PTE tax is equal to the aggregated tax amount for all of the PTE's members for the tax year in which the election was made. For each member of an electing PTE, the PTE will calculate the tax at either 6% or the highest marginal Oklahoma personal, trust or estate income tax rate, depending on the type of member (e.g., C corporation or individual). If the PTE election results in a net entity loss for Oklahoma income tax purposes, the electing PTE can carry it back or forward.

The Commission will administer the PTE election, which is binding until revoked under the Commission's authorized (but yet to be established) procedures. For tax years beginning on or after Jan. 1, 2019 and before Jan. 1, 2020, the PTE election must be filed within 60 days of enactment, using the procedures prescribed by the Commission (which end date appears to be June 28, 2019). For tax years beginning on or after Jan. 1, 2020, the election can be filed at any time during the preceding tax year, or two months and 15 days after the beginning of the tax year.

Effective for tax years beginning on or after Jan. 1, 2019, and after a PTE makes an election to pay the PTE tax, its members, in calculating Oklahoma taxable income or adjusted gross income, may subtract any item of gain or add any item of loss that without the PTE election would be allocated to the member or indirect member. For members or indirect members to be entitled to make these adjustments, the electing PTE must account for the item in computing its Oklahoma net entity income or loss, and the tax attributable to any resulting Oklahoma net entity income must have been paid. The Commission will prescribe rules on reporting the exclusion to the electing PTE's direct and indirect members. Lastly, the adjusted tax basis of any ownership interest in a PTE is equal to its adjusted tax basis for federal income tax purposes.

For additional information on this development, see Tax Alert 2019-0915.

INCOME/FRANCHISE

Georgia: New law (HB 419) updates the state's date of conformity to the IRC to Jan. 1, 2019 (from Feb. 9, 2018), applicable to all taxable years beginning on or after Jan. 1, 2018. The state continues to decouple from certain provisions of the IRC (e.g., IRC §§118, 163(j) (Georgia decoupled from both in 2018). Ga. Laws 2019, Act 266 (HB 419), signed by the governor on May 7, 2019.

Hawaii: On April 30, 2019, the Hawaii legislature approved a bill (SB 301) that, if enacted, would temporarily disallow the dividends paid deduction (DPD) for real estate investment trusts (REITs) for Hawaii state income tax purposes for tax years beginning after Dec. 31, 2019. The disallowance provisions would be repealed on Dec. 31, 2023. The bill has been sent to Hawaii Governor David Ige for his consideration. It is not clear whether he will sign or veto the bill. Governor Ige has until July 9, 2019, to act on the measure. If the Governor does not act on the bill, it will become law without his signature. For additional information on this development, see Tax Alert 2019-0881.

Massachusetts: Subsidiaries of a nationwide cable company in calculating the sales factor of their corporate excise tax for tax years 2003–2008 are required to include sales of video and internet services to Massachusetts subscribers because the subsidiaries' income-producing activity of entering into franchise agreements with Massachusetts cities and towns occurred solely within the Commonwealth. In affirming a decision of the Massachusetts Appellate Tax Board (Board), the Massachusetts Appeals Court (Court) found that the Board adequately explained why it used the transactional approach (as opposed to the operational approach) in determining what constituted income-producing activity for sales factor purposes, considering the subsidiaries' direct costs and the fact that the subsidiaries themselves do not directly engage in any operations. Rather, the subsidiaries rely on the cable company's national network and resources to meet their license terms. The Court noted that the operational approach did not apply since there were no operations engaged in by each subsidiary. The Court rejected various arguments made by the subsidiaries, finding instead that the Board properly determined that each subsidiary's transaction was to function as a cable franchise licensee, and that each franchise license was a separate transaction between each respective subsidiary and the relevant city or town (and it is through the agreement the cable company's services could be delivered). The Court also concluded that Massachusetts was the only location where the subsidiaries' income-producing activity occurred. The subsidiaries entered into franchise agreements with cities and towns located solely in Massachusetts and, as a result of entering into these agreements, the subsidiaries received income from local subscriber payments. Lastly, even though the Court found that the Board did not have to consider the costs of performance (since it determined that the income-producing activity only occurred in Massachusetts), it nevertheless found the Board's interpretation of "direct cost" to be "reasonable" and agreed with the Board's conclusion that assuming the income-producing activity occurred inside and outside the Commonwealth, the cost of performance were greater in Massachusetts. Comcast of Mass. I, Inc. v. Mass. Comr. of Rev., No. 18-P-561 (Mass. Ct. App. April 26, 2019) (unpublished).

SALES & USE

West Virginia: Management services that a corporation provides and allocates to each of three single-member limited liability companies (SMLLCs) for the benefit of its respective members, are exempt from the state's Consumer Sales and Service Tax because the SMLLCs are related to the corporation. West Virginia law exempts from sales tax services performed by one corporation, partnership or limited liability company (LLC) to another corporation, partnership or LLC that is part of the same controlled group or are related taxpayers as defined in IRC § 267(b). An individual (Mr. X) owns 100% of the corporation's stock through a revocable living trust, Mr. X was the grantor of three irrevocable trusts and each trust owned directly 100% of the membership interests of each of the respective three SMLLCs. The West Virginia Tax Commissioner (Commissioner) found that the entities were related through Mr. X. SMLLCs that do not elect to be treated as corporations generally would be disregarded and, for federal income tax purposes, would not be considered to be separate from their owners. In this instance, each SMLLC is 100% owned by its respective trust and, therefore, each SMLLC has the same relationship as its respective trust has with the corporation. The Commissioner noted that the SMLLCs are not part of the same controlled group as the corporation, since they are each 100% owned by one of the three trusts, and the grantor (Mr. X) made the trusts irrevocable. There was no indication that Mr. X, the living revocable trust, or the corporation controls the trusts and the SMLLCs. W.V. State Tax Dept., Tech. Assistance Advisory 19-01 (April 4, 2019).

PROPERTY TAX

Texas: On remand from the Texas Supreme Court, the Texas Court of Appeals (Court) found that a company owned the grain in its possession on Jan. 1, 2009 for property tax purposes, when a grain purchaser never took possession of or paid for the majority of the grain bushels at issue (i.e., cancelling its order). The Court found that under the plain language of the purchase contracts and the National Grain and Feed Association's Rules, title and risk of loss for the grain would transfer to the purchaser at the time of shipment or delivery but not sooner (i.e., not upon execution of a purchase contract, as argued by the company). Here, title never transferred for the grain in the company's possession and, as such, the company was the owner of the grain on Jan. 1, 2009. The Court also rejected the company's argument that the purchaser was the equitable title holder of the grain. Sebastian Cotton & Grain, Ltd. v. Willacy Cnty. Appraisal Dist., No. 13-14-00574-CV (Tex. Ct. App., 13th Dist., April 18, 2019).

CONTROVERSY

Georgia: New law (HB 419) revises provisions related to federal partnership audit adjustments that were enacted in 2018. Changes include: (1) making a partnerships' or tiered partners' election to pay irrevocable; (2) requiring electing partnerships and tiered partners to notify each of its direct partners of their distributive share of federal adjustments; and (3) requiring the commissioner to treat any income of a tiered partner of a partnership or a tiered partner that the commissioner determines fraudulently underreported its income on a return, as being apportioned and allocated entirely to Georgia to the extent the direct and indirect partners of such tiered partner are resident partners. Ga. Laws 2019, Act 266 (HB 419), signed by the governor on May 7, 2019.

Indiana: Modifications that the Indiana Department of Revenue (Department) made to individual taxpayers' Indiana adjusted gross income tax liabilities were limited to IRS final modifications included on the taxpayers' federal Form 870-AD, Offer to Waive Restrictions on Assessment and Collection of Tax Deficiency and to Accept Overassessment, and did not include changes incorporated into related Revenue Agent Reports (RARs). In reaching this conclusion on an issue of first impression, the Indiana Tax Court (Court) noted that Indiana law does not define "federal modification" or when "the modification is made," but the plain language of the statute "requires a federal modification to be the proximate source of the actual change to a federal return or federal tax liability." The Court concluded that the taxpayers' Form 870-AD constituted a federal modification because it was the proximate source of the change to the taxpayers' federal returns or tax liabilities, reached after the taxpayers challenged the RARs. The Court noted that "a federal RAR … is never, without more, the proximate source of a change in a taxpayer's federal return, federal tax liability, or state tax liability because additional steps must take place to result in the final federal modification." The Court also rejected the Department's request to defer to the Department's interpretation that "federal modification" means a federal RAR, finding that the Department's argument lacked sufficient authority of a generally applicable interpretation and the Department's interpretation was unreasonable. Smith v. Ind. Dept. of Rev., No. 49T10-1605-TA-00013 (Ind. Tax Ct. April 10, 2019).

PAYROLL & EMPLOYMENT TAX

Arkansas: Recently enacted legislation (SB 298/Act 512) will change the way that Arkansas determines the state unemployment insurance (SUI) wage base in the future. Effective for tax years beginning after Dec. 31, 2019, the Arkansas SUI wage base, currently set by law at $10,000, will be determined each year by the average seasonally unadjusted unemployment insurance (UI) benefit rate for the preceding fiscal year (July 1 through June 30). Depending on the UI rate, the SUI wage base could range from $7,000 to $10,000. In addition, during times when the UI trust fund balance falls below a specified level, the SUI wage base could increase to $11,000 or $12,000. For additional information on this development, see Tax Alert 2019-0895.

Mississippi: The 2019 Mississippi state unemployment insurance (SUI) tax rates continue to range from 0.0% to 5.4%, plus the 0.2% workforce investment and training surcharge. New employers continue to pay SUI taxes at 1.0% for the first year of liability, 1.1% for the second year, and 1.2% for the third year, plus the 0.2% surcharge. The SUI taxable wage base remains at $14,000 for 2019. Employers delinquent in the filing of quarterly tax and wage reports receive a penalty rate of 5.4%, plus the 0.2% surcharge. For additional information on this development, see Tax Alert 2019-0885.

Utah: The Utah state unemployment insurance (SUI) computed tax rates for 2019 continue to range from 0.1% to 7.1%. New employer rates vary, depending on the employer's industry. According to a recent newsletter issued by the Utah Department of Workforce Services (Department), approximately 75% of experience-rated employers qualify for the minimum SUI tax rate of 0.1% for 2019, paying as little as $35.30 per employee. Calendar year 2018 was the fifth consecutive year that the Department collected less in SUI taxes from Utah employers. For 2018, Utah collected approximately $169 million in SUI taxes, a 52% reduction from the $354 million collected in 2013. According to the Department, Utah's trust fund is the fifth healthiest in the nation. Mandatory electronic filing of SUI returns starting July 1, 2019. For additional information on this development, see Tax Alert 2019-0887.

MISCELLANEOUS TAX

Arizona: New law (HB 2027) modifies online lodging marketplace provisions to provide that a city, town, or other taxing jurisdiction may levy a transaction privilege, sales, use, franchise, or other similar tax or fee on an online lodging marketplace from any activity subject to tax under the model city tax code, limiting the online marketplace's tax base as provided by Ariz. Stat. §42-5076 (i.e., the gross proceeds of sales or gross income derived from the business measured by the total amount charged for an online transient lodging transaction by the online lodging operator). The tax imposed on online lodging marketplaces and online lodging operators must be uniform with all other taxpayers engaging in the same activity within the jurisdiction. HB 2027 takes effect 90 days after the legislature adjourns sine die. Ariz. Laws 2019, Ch. 124 (HB 2027), signed by the governor on April 24, 2019.

New York: The New York Supreme Court, Appellate Division (Court), affirmed a ruling of the New York City Tax Appeals Tribunal (Tribunal) that the reduced real property transfer tax (RPTT) rate generally applicable to real estate investment trust (REIT) transfers did not apply to an entity's transfer of an economic interest in real property because the transfer did not satisfy the statutory 40% Test. The Court, also determined that the Tribunal properly calculated the consideration amount subject to the RPTT. To qualify as a REIT transfer eligible for the reduced RPTT rate, the statutory 40% Test requires that: (1) an instrument transfers real property or an economic interest in real property to a newly formed REIT; (2) the value of the ownership interests in the REIT that the grantor receives as transfer consideration is at least 40% of the value of the equity interest in the real property or economic interest in real property transferred by the grantor to the grantee; and (3) the grantor retains its ownership interest in the REIT for at least two years. A different statutory provision, which would set the real property value or the value of the economic interest in real property at the estimated market value determined by the New York City Commissioner of Finance on the most recent real property assessment notice, did not supersede the 40% Test, and the entity could not apply it and then use it as a basis for classifying the transfer as a REIT transfer subject to the reduced RPTT rate. In re VCP One Park REIT LLC, et al. v. NYC Tax App. Trib., et al., 2019 NY Slip Op 03149 (N.Y. S.Ct., App. Div., 1st Dept., April 25, 2019).

Ohio: On May 2, 2019, the House Finance Committee introduced a substitute to Governor Mike DeWine's proposed FY 2020–2021 operating budget (introduced as House Bill 166), which did not propose substantial tax changes but did propose $2.8 billion in new spending. The House version, Substitute House Bill 166 (Sub. HB 166), would add additional spending of about $526 million to the Governor's original proposal and introduces several tax changes. The tax changes consist of a mix of increased taxes on businesses and business owners and reduced taxes on some individuals. For additional information on this development, see Tax Alert 2019-0888.

GLOBAL TRADE

Federal: On May 8, 2019, the United States Trade Representative (USTR) announced through a Federal Register notice (FRN) that the United States (US) will move forward with increasing the tariffs on US$200 billion worth of Chinese imported products (List 3) from 10% to 25%, as originally intended when implemented on Sept. 24, 2018.The FRN also announced that an exclusion request process will be formally published shortly. While the US and China have engaged in numerous rounds of negotiation towards an agreement since last fall, in this announcement the USTR states that "China has chosen to retreat from specific commitments agreed to in earlier rounds." Citing the lack of progress in discussions with China, US President Trump has directed the USTR to increase the tariffs. The increase will be effective for goods exported to the US on or after May 10, 2019. For additional information on this development, see Tax Alert 2019-0892.

VALUE ADDED TAX

International: Persons carrying out business outside Saudi Arabia that incur Saudi Arabian Value Added Tax (VAT) should review their eligibility to claim a refund of the VAT paid. For VAT incurred in 2018, the deadline to apply for a refund is June 30, 2019. For additional information on this development, see Tax Alert 2019-0896.

UPCOMING WEBCASTS

Multistate: On Wednesday, May 29, 2019, from 1:00-2:30 p.m. EDT (New York), Ernst & Young LLP (EY) will host its quarterly webcast focusing on state tax matters. For our second webcast in 2019, we welcome John Ficara, the Director of the New Jersey Division of Taxation, and Alan Kline, Counsel to the Director of the New Jersey Division of Taxation, as our guests who will join EY panelists to discuss New Jersey's implementation of the significant changes to its tax law enacted during 2018. Topics that will be addressed include: New Jersey's move to mandatory combined reporting, its selective conformity to many of the provisions of the federal Tax Cuts and Jobs Act, with a special focus on conformity to the new global intangible low-taxed income (GILTI) regime and the business interest limitation under IRC §163(j). EY panelists also will provide: (1) an overview of significant legislative developments enacted in 2019, (2) an update on state responses to the U.S. Supreme Court's ruling in South Dakota v. Wayfair, (3) a synopsis of the seeming flood of petitions on state and local tax matters to the U.S. Supreme Court, and (4) a discussion of some of the more significant state and local judicial and administrative developments that have occurred since our last webcast in February 2019. To register for this event, go to State tax matters.

Multinational: On Thursday, May 30, 2019, from 1:00-2:15 p.m. EDT New York (10:00-11:15 a.m. PDT Los Angeles), Ernst & Young LLP's transfer pricing group will host a webcast on the state income tax implications of the Tax Cuts and Jobs Act (TCJA) for multinationals. Federal tax reform under the TCJA significantly affects US multistate income taxation — particularly for global corporations. Most state corporate income tax regimes leverage concepts from federal taxable income in determining the state tax base, but do not incorporate the federal tax rate. States' adoption of the TCJA's base expansion, without the corresponding rate reduction, has increased state taxes for many multinational businesses. Additionally, corporations now operate in a more complex environment for strategic transactions. US-inbound repatriation and internal reorganizations, in particular, are likely to encounter more state technical challenges post-TCJA. Topics to be addressed during this webcast include: (1) importance of state conformity to the Internal Revenue Code, (2) key TCJA issues for multinationals doing business in the states, (3) impacts for future distributions and repatriations, and (4) the changing landscape for cross-border strategic transactions and structuring. To register for this event, go to BorderCrossings.

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.