May 11, 2023
Tennessee enacts sweeping tax changes, including phase-in of single-sales factor apportionment
On May 11, 2023, Governor Bill Lee signed into law the Tennessee Works Tax Act (HB 323/SB 275), which implements tax relief provisions he proposed as part of his budget. Changes in the law include the phase-in of a single-sales factor apportionment formula, conformity to federal bonus depreciation provisions in the federal Tax Cuts and Jobs Act of 2017 (TCJA), a three-month sales tax holiday for food, and sales and use tax sourcing provisions. The changes discussed below have various effective dates; however, unless otherwise specified, the changes took effect upon becoming law.
Single-sales factor apportionment — applicable to both the excise tax and the franchise tax
A single-sales factor apportionment formula is phased in over three years and applies for purposes of determining net earnings under the excise tax1 and net worth under the franchise tax.2 The phase-in is as follows:
A taxpayer can annually elect to use the triple-weighted receipts factor apportionment formula (i.e., property, payroll, three times receipts with a denominator of five) that applied to tax years ending before December 31, 2023. The election, however, must result in a higher apportionment ratio for the tax year than the standard apportionment formula in effect for the tax year, and the taxpayer must have net earnings (not a net loss).
For taxpayers principally engaged in the sale of telecommunications service, mobile telecommunications service, or internet access service, net earnings for a "qualified member" of a "qualified group" (as these terms are defined in Tenn. Code Ann. Sections 67-4-2012(j)) are apportioned to Tennessee using a triple-weighted receipts factor apportionment formula for tax years ending on or after December 31, 2023.
Other excise tax and franchise taxes changes
The law conforms the excise tax to federal bonus depreciation in the TCJA, applicable to assets purchased on or after January 1, 2023. For these assets, net earnings or net loss is computed under IRC Section 168 (Accelerated Cost Recovery System) as amended by the TCJA.4 The law also limits the requirements to add back or subtract certain depreciation5 deducted in computing federal taxable income to assets purchased on or before December 31, 2022.
For tax years ending on or after December 31, 2024, the law establishes a standard excise tax deduction equal to the lesser of net earnings or $50,000, provided the amount does not create or increase a net loss.6
The law amends the certified distribution sales election, expanding the definition of "certified distribution sales" to include certain sales of alcoholic beverages to affiliates and to allow the taxpayer's affiliates to qualify for the application of these provisions. These changes took effect upon becoming law and apply to tax years ending on or after December 31, 2023. Starting in 2025, the law reduces the receipts-factor threshold a taxpayer must meet from 10% to 7.5%, to qualify for the certified distribution sales election.
The law extends to 25 years from 15 years the carryforward provisions for certain franchise and excise tax credits earned in tax years ending on or after December 31, 2008.7
The law establishes a two-year pilot program during which a taxpayer may claim a state-paid family leave tax credit against excise and franchise taxes. Under this program, taxpayers must add back to net earnings or net losses any amount deducted for the federal employer tax credit under IRC Section 45S (i.e., employer credit for paid family and medical leave) and earned as a credit against Tennessee excise tax.8 Taxpayers may claim a credit against the excise tax and the franchise tax equal to the federal employer tax credit resulting from compensation paid in Tennessee during the tax period.9 The credit, however, cannot exceed 50% of the combined excise and franchise tax liability shown on the taxpayer's return before the credit is taken. Taxpayers may carry forward unused credits until taken, but not for more than 25 years. The addback is required, and the credit is allowed, for tax years ending on or after December 31, 2023, but before December 31, 2025.
Beginning with tax years ending on or after December 31, 2024, the law exempts up to $500,000 of property from the property base of Tennessee's franchise tax.10
Business tax changes
The following changes were made to the business tax and apply to tax years ending on or after December 31, 2023, unless otherwise noted:
Sales and use tax changes
The law establishes a three-month sales tax holiday for food. Sales tax will not apply to retail sales of food and food ingredients sold between 12:01 a.m. on August 1, 2023, and 11:59 p.m. on October 31, 2023. This exemption, however, does not apply to sales from a micro market or vending machine or device.14
Effective July 1, 2024, sales and use tax applies to (1) repairs of tangible personal property (TPP) or computer software, (2) the laundering or dry cleaning of TPP, (3) installing TPP that remains TPP after installation, and (4) installing computer software when the repair, cleaning or installation occurs at a place outside of Tennessee and the serviced TPP or computer software is delivered to a place inside the state's physical limits for use or consumption in Tennessee.15
Effective July 1, 2024, the law repeals the sales and use tax exemptions for (1) magazines and books that are distributed and sold to consumers by US mail or common carrier16 for certain sellers, and (2) direct mail advertising materials by a person solely and exclusively in the business of providing cooperative direct mail advertising.17
The law adds new sales and use tax provisions, Tenn. Code Ann. Sections 67-6-901 through 904, which apply when determining whether a transaction is sourced to Tennessee. These provisions discuss a wide variety of transactions, such as advertising, lease or rental of a product. They apply regardless of whether the product is TPP, a digital good, a service or other taxable product and only to determine a seller's or marketplace facilitator's obligation to pay or collect and remit a sales or use tax for the retailer's retail sale of a product. The law also amends sourcing rules under Tenn. Code Ann. Sections 67-6-905, adding definitions for multiple terms related to telecommunication services. These new provisions and amendments take effect July 1, 2024.
The Tennessee Works Tax Act represents sweeping changes in Tennessee's excise, franchise, business, and sales and use tax regimes. Many aspects of the legislation will provide tax relief to various taxpayers in the coming years. Others, particularly those with substantial sales in Tennessee but minimal property/payroll in-state, may see a substantial increase in certain tax liabilities. Taxpayers should review the effects of the new law, understand timing of pertinent provisions and understand how the new law will impact tax reporting and compliance obligations.
Published by NTD’s Tax Technical Knowledge Services group; Jennifer A Brittenham, legal editor
1 Tenn. Code Ann. Section 67-4-2012(a).
2 Tenn. Code Ann. Section 67-4-2111(a).
3 Current law allows qualified manufacturers and financial asset management companies to elect single-sales factor apportionment. See Tenn. Code Ann. Sections. 67-4-2012(l)-(m) and 67-4-2111(l)-(m). These provisions though are repealed for tax years ending on or after December 31, 2025.
4 New subdivision to Tenn. Code Ann. Section 67-4-2006(a).
5 Tenn. Code Ann. Sections 67-4-2006(b)(1)(H) or (b)(2)(I), addback and subtraction, respectively. The depreciation relates to excess depreciation the taxpayer could have deducted had the taxpayer computed its depreciation under IRC Section 168 as it existed before federal changes made by the Job Creation and Worker Assistance Act of 2002.
6 New subdivision to Tenn. Code Ann. Section 67-4-2006(b)(2). This provision takes effect January 1, 2024.
7 This extension applies to credits under Tenn. Code Ann. Sections 67-4-2009, 67-4-2109(b)(1)(D), -2109(h)(8), -2109(j)(2)(A), -2109(k)(4) and -2109(q)(5).
8 New subdivision to Tenn. Code Ann. Section 67-4-2006(b)(1).
9 New subdivision to Tenn. Code Ann. Section 67-4-2009.
10 Tenn. Code Ann. Sections 67-4-2108(a)(1).
11 Tenn. Code Ann. Section 67-4-712(b)(2).
12 Specifically, a person with sales of less than $100,000 within a county/incorporated municipality is exempt from tax and licensing provisions that otherwise apply to sales sourced to that county/municipality. A person with substantial nexus in Tennessee and less than $100,000 within a county is exempt from tax on sales occurring in that county.
13 Tenn. Code Ann. Section 67-4-709(4)(A)(ii).
14 Tenn. Code Ann. Section 67-6-393(j)(2).
15 New subsection to Tenn. Code Ann. Section 67-6-203.
16 Tenn. Code Ann. Section 67-6-329(a)(6).
17 Tenn. Code Ann. Section 67-6-344.