November 9, 2020
New Jersey enacts technical and substantive changes to 2018 Corporation Business Tax reform that could affect returns due November 16, 2020
On November 4, 2020, New Jersey Governor Phil Murphy signed into law SB 3007 / AB 4809 (the Bill), which makes technical corrections and substantive changes to legislation reforming the Corporation Business Tax Act (CBTA), which was enacted on July 1, 2018 and amended on October 4. 2018. Some of the Bill's changes to the CBTA may affect returns due November 16, 2020. Thus, taxpayers may need to take immediate action. (See Tax Alert 2018-1342) discussing the many changes to the CBT brought about through enactment of the tax reform legislation by A4202 enacted as P.L. 2018, c.48.).
In response to a change of the CBTA made by the Bill, the New Jersey Division of Taxation (Division)1 released a notice on November 5, 2020, extending the application of group-level apportionment to the computation of the dividends received exclusion (DRE) to privilege periods ending on and after July 31, 2019 (DRE Exclusion Notice). The DRE Exclusion Notice, which also provides instructions on reporting the DRE change on Schedule R of a taxpayer's CBT tax return, reverses the Division's previous interpretation of the CBTA; that interpretation had required the DRE computation to be based on the individual recipient member's New Jersey apportionment rather than the combined-group's apportionment.
The Bill includes the following substantive changes to the CBTA:
Net operating loss (NOL) carryforwards
A member of a combined group may sell prior-net-operating-loss (PNOL) carryovers to other members of the combined group. Similarly, a member of a combined group that is an emerging technology and biotechnology corporation may sell PNOL carryovers to other members of the combined group, if otherwise applicable and allowable under N.J.S.A. 54:10A-4.2. In both cases, however, the sale of PNOL carryovers must be made at an arm's-length price as though the sale was to an unrelated taxpayer.
A taxable member (i.e., a member with New Jersey nexus) leaving a group may take its share of a combined NOL carryforward upon leaving the group.
In addition, the survival of NOL carryforwards under a merger between two combined group members now applies to mergers occurring between parties that would have been combined group members within one group-privilege period of the merger, unless there is an unforeseen delay in finalizing the merger or acquisition due to obtaining required approvals from federal or other state regulatory authorities. When there is such a delay, the corporations may petition the Division by documenting their plan to join in a combined group filing upon approval of the merger or acquisition by the federal or other state regulatory authorities. This provision does not apply to merger agreements in effect before the Bill's effective date.
For privilege periods beginning on or after January 1, 2020, IRC provisions governing the transfer of federal NOLs and NOL carryovers apply to New Jersey NOL carryovers. These include IRC provisions on mergers, acquisitions, reorganizations, spin-offs, split-offs, dissolution, bankruptcy, or any form of cessation of a business, or any other provision that limits or reduces federal NOLs and federal NOL carryovers. Thus, for the first time in the history of the CBTA, the limitation rules imposed by IRC Section 381 and the successor rules on the carryover of NOLs and other tax attributes under IRC Section 382 apply for NJ CBTA purposes.
The Bill extends the rules and regulations governing federal consolidated return NOLs and NOL carryovers for purposes of New Jersey combined NOL carryovers as though the combined group filed a federal consolidated return, regardless of how the members of the combined group filed for federal income tax purposes to the extent consistent with the CBTA.
The Bill resolves a tricky issue involving the computation of the DRE. Before the Bill passed, the CBTA was unclear on how to compute the DRE for a member of a combined group. The Division, however, interpreted the DRE law in existence before the Bill's enactment as requiring dividend income to be apportioned on a separate-company basis, using the apportionment formula of the member receiving the dividend, as opposed to the formula of the entire New Jersey combined group. Under this interpretation, a New Jersey combined group based in California had a combined apportionment to New Jersey of 5% but the member receiving the dividend might have had a zero apportionment percentage. Accordingly, the dividend income was apportioned at 5% while the corresponding DRE was apportioned at 0%. Effectively, in most cases, the taxpayer lost all benefit of the DRE.
In tax years ending on or after July 31, 2020, the revised Bill requires both the dividend income and the DRE to be apportioned using the combined group's apportionment percentage. The Bill, however, does not make a similar change for tax years ending on or after July 31, 2019 — the first combined reporting year. On November 5, 2020, however, the Division released guidance through its DRE Exclusion Notice, extending this relief to tax years ending on or after July 31, 2019.
In addition, the Bill prospectively repeals the DRE for certain subsidiaries receiving dividends from other subsidiaries and replaces it with a credit to simplify the reduction of double taxation of tiered dividends.
Effective for tax years ending on or after July 31, 2019, the Bill changes the definition of an "affiliated group" in the CBTA to include overseas companies that have US effectively connected income (ECI). This is a significant change in the law since the affiliated-group election is one of the three filing options taxpayers can select for their New Jersey combined group.
Under the original law, the members of an affiliated group were limited to US-organized entities. Under the revised law, overseas companies can be included in the New Jersey combined group under any of the three filing elections. Since the affiliated-group election is binding for six years, taxpayers may want to reevaluate the merits of making the election in TY2019 if the group's membership may expand in 2020.
The Bill also:
Real estate transfer taxes and bulk sales provisions
The controlling interest transfer tax does not apply if the transfer is executed on or after January 1, 2021, and is an intercompany transfer between combined group members as part of the unitary business. Other real-estate-transfer taxes are unaffected by this change in the law. Similarly, the bulk-sale reporting and escrow requirements do not apply to intercompany transfers that are between combined group members as part of the unitary business and entered on or after January 1, 2021.
Research and development credits
The Bill amends the New Jersey research and development (R&D) credit, making it consistent with the Division's position following the changes made under the 2018 CBTA reform legislation. Under that position, a basic research payment includes payments (including as contributions) by a taxpayer in the course of its trade or business during the privilege period to an energy research consortium for energy research.
No penalties or interest apply for tax underpayments resulting from the Bill's enactment if taxpayer's first privilege period affected by the Bill's enactment began before January 1, 2021. This change applies retroactively to privilege periods ending on or after July 31, 2020. Additional estimated payments, however, must be made by the later of the second next estimated payment after the Bill's enactment, or the second estimated payment due after January 1, 2021.
The Bill includes the following technical corrections and clarifications:
The Bill results in significant substantive and technical changes to the CBTA that may result in positive or negative tax outcomes for taxpayers. Many of these changes affect taxpayers differently based upon their specific facts and, with few exceptions, are largely effective for the 2019 privilege period. Certain of these changes (particularly the selling of PNOL carryforwards) require affirmative action by taxpayers. Taxpayers should analyze the impact of the Bill on their own New Jersey CBTA situation as soon as possible, as these changes may affect tax returns due on November 16, 2020.
1 References to "Division" also include references to the Director of the Division of Taxation.