March 30, 2021
Ohio legislature approves IRC conformity update, CAT exclusions, reduction in withholding tax rate for pass-through entities; introduces CAT repeal proposal
On March 24, 2021, the Ohio General Assembly passed Senate Bill 18 (SB 18), which would change Ohio's tax laws. Governor Mike DeWine is expected to sign the legislation, which would take immediate effect upon his signature. The tax law changes in SB 18 are summarized below.
On March 25, 2021, House Bill 234 (HB 234) was introduced in the Ohio House of Representatives. If enacted, this bill would repeal the Ohio Commercial Activity Tax (CAT) over five years.
Internal Revenue Code (IRC) conformity
Ohio's IRC conformity law (Ohio Rev. Code 5701.11) states that any reference to the IRC in the tax chapters of the Ohio Revised Code means the IRC as it exists on the effective date of the Ohio statute. SB 18 would update Ohio's IRC conformity date to the date on which the Governor signs the bill into law.
SB 18 would also adopt IRC updates made after March 27, 2020, including those made in the Consolidated Appropriations Act, 2021 (P.L. 116-260) (CAA) and the American Rescue Plan Act of 2021 (P.L. 117-2) (ARPA). Several of these changes would affect the Ohio state and local individual and school district income tax bases of many taxpayers for the 2020 tax year by increasing or decreasing federal adjusted gross income (FAGI), which is the starting point for determining Ohio state and local taxable income.
The federal changes affecting individual taxpayers would include:
Federal tax law changes affecting business taxpayers incorporated into Ohio's tax laws would include:
SB 18 would also revise an election available to taxpayers under Ohio's state, local and school district personal income taxes (Ohio Rev. Code 5747.01) and to electric and telephone companies that are subject to municipal income taxes (Ohio Rev. Code 5745.01 and 5733.04, respectively) whenever federal amendments become incorporated. Current law (Ohio Rev. Code 5701.11) authorizes a taxpayer whose tax year ended after March 30, 2018, and before March 27, 2020, to irrevocably elect to apply to the taxpayer's state tax calculation the federal tax laws that applied to that tax year. SB 18 would amend this provision and allow this election to be made for the taxpayer's tax year ending after March 27, 2020, but before SB 18's effective date. SB 18 would retain a provision specifying that similar elections made under prior versions of the law remain effective for the tax years to which the previous elections applied.
Ohio Commercial Activity Tax (CAT) exclusions
SB 18 would exclude from CAT gross receipts proceeds of forgiven "second draw" PPP loans. A similar exemption was enacted previously for proceeds of forgiven "first draw" PPP loans.
SB 182 would temporarily exclude from CAT gross receipts "dividends" paid to employers in 2020 and 2021 by the Ohio Bureau of Workers Compensation (OH BWC). Ohio law requires the OH BWC to develop a procedure for returning excess workers' compensation premiums to employers if the board of directors of the OH BWC determines that the surplus of earned premiums over losses is larger than needed to maintain solvency. These payments, known as "dividends," would otherwise be considered taxable gross receipts for CAT purposes.
Pass-through entity withholding tax
Ohio income tax applies to income received by an owner or investor in a pass-through entity3 from its business activities in Ohio. A pass-through entity must withhold4 the income tax due from its nonresident investors.5 The withholding tax is imposed directly on the pass-through entity at rates of 5% for individual investors and 8.5% for other investors. Section 7 of SB 18 would reduce the withholding rates to 3% for the pass-through entity's tax years beginning on or after January 1, 2023. The 3% rate for pass-through entity withholding would align with Ohio's 3% individual income tax rate on business income.6
Individual income tax provisions relating to unemployment benefits
Unemployment benefits are generally subject to federal, state and school district income taxes, subject to the temporary 2020 unemployment compensation exemption authorized under the ARPA. Currently, the Ohio Tax Commissioner cannot abate interest under existing law. SB 18 would authorize the Ohio Tax Commissioner to abate interest or penalties resulting from a taxpayer not making timely payment of state and school district income taxes due on unemployment benefits received in 2020 for taxpayers who timely file their annual 2020 return. If a taxpayer has interest or penalties abated under SB 18 and does not pay the tax due by June 30, 2023, however, all abated amounts would be automatically reimposed from the tax's unextended due date, unless the Ohio Tax Commissioner decides to permanently abate the penalties. A taxpayer who pays interest or penalties that otherwise would have qualified for this abatement may request a refund of the amounts paid, except for amounts reimposed for failure to pay taxes due by June 30, 2023.
SB 18 would also allow individuals to elect to have state income tax withheld from their unemployment benefits paid on or after January 1, 2022. Currently, the Ohio Department of Job and Family Services (OH DJFS) only withholds, upon claimant request, federal income tax on their benefits. The Director of the OH DJFS, in consultation with the Ohio Tax Commissioner, will determine the rates at which state income taxes will be withheld.
House Bill 234
HB 234 would repeal the Ohio CAT over five years, with the repeal fully implemented by January 1, 2026. For calendar year 2021, the CAT would still apply. The phase-out would then occur over the following four calendar years with the CAT being 80%, 60%, 40% and 20% for calendar years 2022-25, respectively. The CAT was implemented in July 2005 as part of a tax reform plan that included the phase-out of Ohio's Franchise Tax and Personal Property Tax. HB 234 does not propose anything to replace the CAT. Currently, it is unknown what the prospects are for passage of HB 234, but it is notable that its co-sponsors include the recently appointed Chair of the House Ways and Means Committee. The CAT represents about 7% of Ohio's general fund revenues. The repeal of the CAT would result in a reduction of general fund revenues of about $1.7 billion for a biennial period, which would make repeal, without a suitable replacement, seem unlikely.
Individuals who may have already filed their Ohio income tax returns should consider the implications of Ohio's updated IRC conformity provision in SB 18 to determine if they may be entitled to refunds. An Ohio business that paid CAT on OH BWC dividends received during 2020 or 2021 should also consider whether CAT refunds may be due. Businesses should also monitor the progress of HB 234 as it moves through the legislature.
1 In defining "adjusted gross income," Ohio's tax law allows a deduction for employee wages that could not be deducted from the business owners' FAGI due to the work opportunity credit. See Ohio Rev. Code 5747.01(A)(6) (allowing a deduction from FAGI for the WOTC credit under IRC Section 51).
2 SB 18, Section 6 (which is an uncodified section of SB 18).
3 A pass-through entity under Ohio law includes an S corporation, a partnership or a limited liability company treated as partnership under the federal income tax law. Ohio Rev. Code 5733.04(O) (defining "pass-through entity").
4 A pass-through entity may also elect to file a composite return on behalf of its investors and pay tax at the highest graduated rate for nonbusiness income (4.797% currently). Ohio. Rev. Code 5733.41 and 5747.02(A)(3).
5 Ohio. Rev. Code 5733.41.
6 See Ohio Rev. Code 5747.02(A)(4)(a).