Ernst & Young's State and Local Tax Weekly newsletter for March 15 and 22 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

South Carolina legislation creates parameters for revenue department's use of combined reporting as an alternative apportionment method

The South Carolina Department of Revenue (Department) now have clear parameters for when corporate taxpayers can be forced to employ combined reporting as an alternative apportionment method under legislation (SB 298) recently enacted. Signed by the governor on March 11, 2024 the law takes immediate effect and applies to all open tax periods, except assessments currently under judicial review by the South Carolina Administrative Law Court, Court of Appeals, or Supreme Court.

Under South Carolina Code Section 12-6-2320(A), the Department may require, or a taxpayer can petition for, the use of an alternative apportionment method if either believes the statutory method does not fairly represent the taxpayer's business activities in the state. Available alternative apportionment methods in South Carolina include: (1) separate accounting; (2) exclusion of one or more of the apportionment factors; (3) inclusion of one or more additional apportionment factors; or (4) employment of any other method to effectuate an equitable allocation and apportionment of the taxpayer's income.

SB 298 amends the previous law by adding parameters for when the Department may require a taxpayer to file a combined return as an alternative apportionment method, when the Department must provide notice, and how taxpayers may appeal the Department's means of determining state net income.

Combined returns: SB 298 adds new South Carolina Code Section 12-6-2320(B), which lays out the circumstances under which the Department may require a taxpayer to file a combined return. Under the new subsection, the Department can, through written notice, require taxpayers to furnish information needed to accurately compute income attributable to their South Carolina business activities if the Department had reason to believe those activities were not accurately represented due to certain intercompany transactions. Taxpayers are required to respond within 90 days of the date on the notice requesting the information.

If, after reviewing the taxpayer's information, the Department determines the intercompany transactions lack economic substance or are not at fair market value (FMV), it can add back, eliminate, or adjust the intercompany transactions, or if these adjustments are insufficient, require the taxpayer to file a combined return with all members of its affiliated group comprising a unitary business. SB 298 requires the Department to consider the facts of each tax year separately.

SB 298 also requires the Department to consider, and authorizes it to use, any reasonable income redetermination method the taxpayer proposes. The Department can also agree to a taxpayer's proposed alternative filing method when it has reason to believe a separate return does not fairly represent the taxpayer's income from its South Carolina business activities due to intercompany transactions. In this instance, the Department does not have to find that the transaction lacks economic substance or is not at FMV.

If the Department determines adjustments to intercompany transactions are inadequate and a combined return is required, it can require a taxpayer to file a combined return within 90 days of the date on a written notice requesting the return. Either party can propose combining fewer than all members of a unitary group, but the Department cannot require that outcome without the taxpayer's consent. The Department can, however, require a combined return regardless of whether the affiliated group members do business in South Carolina.

Taxpayers and affiliated group members required to file a combined return must apportion their combined state net income using the apportionment formula that fairly represents the extent of their business activity in the State and fairly reflects the statutorily applicable apportionment formula.¹

SB 298 excludes the following entities from a taxpayer's combined return: (1) insurance companies, other than captive insurance companies, subject to certain taxes; (2) taxpayers not required to file a federal income tax return; (3) entities exempt from tax under IRC Section 501; (4) foreign taxpayers (other than a domestic branch); (5) taxpayers that derive at least 80% of their gross income for the tax year from active foreign business income under the version of IRC Section 861(c)(1)(B) in effect as of July 1, 2021; and (6) entities not subject to tax under S.C. Code Section 12-6-530.

Economic substance, business purposes, FMV: A transaction has economic substance under South Carolina law if it, or the series of transactions of which it is part, has one or more reasonable business purposes other than state income tax benefits, and has economic effects beyond the creation of state income tax benefits. In other words, the transaction must have significant benefits apart from state income tax benefits. This can be satisfied by demonstrating the significant business activities of the entities involved in the transaction.

In addition, the following rules apply in determining economic substance or business purpose:

• State income tax benefits that result from the transaction and are consistent with legislative intent must be considered in determining whether the transaction has economic substance and a business purpose.
• Centralized cash management of an affiliated group is not evidence that a transaction lacks economic substance.
• Financial accounting benefits will not be taken into account as a reasonable business purpose for entering into a transaction when the benefits' origin is a reduction of state income tax.

The Department is required to apply the standards in regulations adopted under IRC Section 482 when determining whether transactions between affiliated group members are not at FMV.

Other provisions: When adjusting intercompany transactions or requiring a taxpayer to file a combined return, the Department is required to provide the taxpayer with a statement within 90 days detailing the facts, circumstances, and reasons for why it found the taxpayer did not fairly represent its state net income attributable to its South Carolina business activity. The Department is also required to issue a proposed assessment or refund upon making any redetermination.

For more on this development, see Tax Alert 2024-0577.

INCOME/FRANCHISE

Federal: The Biden Administration's proposed FY2025 budget, released March 11, 2024 (Budget), includes numerous tax changes that would affect businesses and high-net-worth individuals (see Tax Alert 2024-0578). Most of the proposals in this year's Budget appeared in prior budget proposals or proposed legislation. While the Budget is traditionally an aspirational document, taxpayers should familiarize themselves with these proposals as they could appear in later federal legislation, which could affect corporate and individual income taxes imposed by state governments. For additional information on this development, see Tax Alert 2024-0615.

Arizona: New law (HB 2379) updates the state's date of conformity to the Internal Revenue Code (IRC) to Jan. 1, 2024 (from Jan. 1, 2023). The updated IRC conformity date applies to income tax computations for tax years beginning from and after Dec. 31, 2023. For purposes of computing income for a tax year beginning in 2024, the state conforms to the IRC in effect on Jan. 1, 2024, including provisions that became effective in 2023, with specific adoption of retroactive effective dates, but excluding changes enacted after Jan. 1, 2024. Ariz. Laws 2024, ch. 7 (HB 2379), signed by the governor on March 18, 2024.

California: The California Franchise Tax Board (FTB) did not appeal a California Superior Court (court) ruling in which it found California Technical Advice Memorandum 2022-01 (TAM 2022-01) and revised Publication 1050 — in which the FTB discussed the application of P.L. 86-272² to activities conducted over the internet — to be "invalid 'underground regulations'" in violation of the California Administrative Procedure Act (APA).³ In so holding, the court rendered void TAM 2022-01 and revised Publication 1050, saying both were regulations within the meaning of the California APA but neither was adopted in compliance with the APA's requirements. For more on the court's ruling, see Tax Alert 2023-2109.

California: In response to a taxpayer request, the California Franchise Tax Board (FTB) issued a Chief Counsel Ruling finding that subcomponents the taxpayer discretely produced as fully functioning models to evaluate and resolve technical uncertainty regarding their integration into the project are not excluded from qualification as a pilot model under IRC Section 174 applicable in Cal. Rev. & Tax. Code (CRTC) Section 24365.⁴ The FTB noted that this ruling does not address whether the taxpayer's activities constitute qualified research under IRC Section 41(d). Cal. FTB, Chief Counsel Ruling 2024-01 (March 2024).

Indiana: New law (SB 228) clarifies pass-through entity tax (PTET) provisions. A PTE electing to be subject to the PTET and that determines its tax is less than the PTET paid on its behalf, may treat tax paid on its behalf under IC 6-3-2.1-4(d). The law provides that the PTE may not treat an amount less than its own liability as PTET under IC 6-3-2.1-4(d)(1). This change is retroactively effective to Jan. 1, 2022. Ind. Laws 2024, P.L. 118 (SB 228), signed by the governor on March 13, 2024.

Michigan: The Michigan Department of Treasury (MI DOT) announced that the tax rate for flow-through entities is 4.25% for tax years beginning in 2024. Mich. Dept. of Treas., Notice: 4.25% Tax Rate for Flow-Through Entity Tax Years Beginning in 2024 (March 20, 2024).

New Jersey: The New Jersey Division of Taxation (NJ DOT) readopted Corporation Business Tax (CBT) regulation N.J.A.C. 18:7. Topics addressed by the regulations include the following: (1) corporations subject to, and exempt from, the CBT; (2) the nature of the CBT; (3) the CBT tax base and the computation of its various components; (4) CBT credits available to corporations in an Urban Enterprise Zone; (5) computation of entire net income; (6) the business allocation factor; (7) adjustments; (8) combined reporting; (9) partnerships and S corporations; (10) the alternative minimum assessment; (11) returns, including short period returns; and (12) filing fees, tax assessments, payments, refunds, liens and penalties. Without readoption, the regulation would have expired on May 18, 2024. The NJ DOT noted that it will be proposing amendments to this readopted regulation to reflect law changes enacted in 2022 and 2023. The readopted regulation took effect Feb. 20, 2024 and expires Feb. 20, 2031. N.J. Register, 56 N.J.R. 431 (March 18, 2024).

New York City: The New York City Department of Finance, for purposes of imposing the NYC Business Corporation Tax (BCT), increased to $1,128,000 the threshold at which corporations and unitary groups are deemed to be deriving receipts from activity in NYC for tax years beginning on or after Jan. 1, 2024. In addition, the threshold for determining if the corporate members of a unitary group that meet the ownership requirements are deriving receipts from activity in NYC is increased to $11,000. Members of the group meeting the $11,000 threshold must, in the aggregate, meet the $1,128,000 threshold in order for any group members to be treated as deriving receipts from activity in NYC. N.Y. City Dept. of Fin., Finance Memo. 24-2 (March 15, 2024).

Utah: New law (SB 69) reduces the corporate income and individual income tax rates to 4.55% (from 4.65%), effective retroactively to tax years beginning on or after Jan. 1, 2024. Utah Laws 2024, SB 69, signed by the governor on March 14, 2024.

SALES & USE

Colorado: The Colorado Department of Revenue issued a general information letter discussing when a retailer that does not collect Colorado sales tax (i.e., noncollecting retailer) who does not (1) maintain a place of business in Colorado or (2) solicit business in Colorado and make sales into the state sufficient to meet the economic nexus threshold, is required to comply with the state's sales and use tax notice and reporting requirements. Under these requirements, a noncollecting retailer must notify Colorado purchasers that sales and use tax is due on certain purchases they made from the retailer and that they are required to file a sales or use tax return. Colo. Dept. of Rev., GIL 24-002 (March 4, 2024).

Idaho: New law (HB 527), effective July 1, 2024, amends the definition of "drugs" to make clear that "drugs" do not include "articles intended for use in the diagnosis, cure, mitigation, treatment or prevention of disease in animals other than man." Id. Laws 2024, ch. 69 (HB 527), signed by the governor on March 18, 2024.

Indiana: New law (SB 228) modifies the economic nexus provisions by eliminating the 200 or more separate transactions threshold, retroactively effective on Jan. 1, 2024. As modified, economic nexus will be established by a retail merchant that does not have a physical presence in the state when the merchant's gross revenue from any combination of sales of tangible personal property delivered into the state, product transferred electronically into the state or a service delivered into the state, exceeds $100,000 for the calendar year in which the transaction is made or the calendar year preceding such transaction. Effective Jan. 1, 2025, the law allows a retail merchant that receives at least 75% of its receipts from sales of prepared food to elect to claim a sales tax exemption equal to 50% of the tax imposed on transactions involving electricity. The exemption applies to such electricity purchased by the retail merchant through a single meter. The election must be submitted on a form provided by the Indiana Department of Revenue. The election is irrevocable for any period for which the exemption has already been claimed, but it can be withdrawn prospectively. Ind. Laws 2024, P.L. 118 (SB 228), signed by the governor on March 13, 2024.

South Carolina: In response to a ruling request, the South Carolina Department of Revenue (SC DOR) found that sales and rentals of digital textbooks (or eTextbooks) are exempt from the state's sales and use tax under S.C. Code Section 12-36-2120(3)(a). The SC DOR noted that there is not a limitation on what form a textbook must take in order to qualify for the textbook exemption, and that "textbook" for purposes of the exemption "can include additional alternate forms of the traditional printed textbooks beyond those specifically enumerated by statute and regulation, so long as the alternate form is purchased for the same use, and contains the same information which is being taught, as a traditional printed textbook and are used as a part of a prescribed course of study." The SC DOR also considered whether charges for the eTextbook are taxable communications services. In applying the "true object" test, the SC DOR determined that students who purchase eTextbooks are paying for a "textbook" in a digital format and not for access to or use of a communications system. Thus, eTextbooks are not charges for taxable communications services. S.C. Dept. of Rev., Private Letter Ruling #24-2 (March 18, 2024).

Utah: New law (HB 32) defines, for sales and use tax purposes, "short-term rental" to mean "a lease or rental for less than 30 consecutive days." The term does not include car sharing. The law also provides that sales and use tax is imposed on short term rentals of tourist homes, hotels, motels or trailer court accommodations and services. (Prior language-imposed sales and use tax on tourist homes, hotels, motels or trailer court accommodations and services regularly rented for less than 30 consecutive days). The definition of "short-term rental" under Utah Code Section 59-12-602(12) "Tourism, Recreation, Cultural, Convention, and Airport Facilities Tax Act" is deleted. HB 32 takes effect July 1, 2024. Utah Laws 2024, HB 32, signed by the governor on March 14, 2024.

Wisconsin: New law (SB 791) exempts from sales and use tax the sale of electricity delivered or placed by a (1) Level 3 charger or an electric vehicle (EV) charging station or (2) a Level 1 or Level 2 charger installed on or after March 22, 2024 of an EV charging station, into the battery or other energy storage device of an EV. The law also imposes an excise tax at the rate of three cents per kilowatt-hour on the electricity delivered or placed by a Level 1, 2 or 3 charger of an EV charging station into the battery or other energy storage device of an EV. The tax applies to Level 1 or Level 2 chargers installed on or after March 22, 2024. The new excise tax does not apply to electricity delivered or placed by a Level 3 charge located at a residence. The law sets forth the filing and payment requirements for the excise tax. These tax provisions take effect Jan. 1, 2025. Wis. Laws 2024, Act 121 (SB 791), signed by the governor on March 20, 2024.

BUSINESS INCENTIVES

Federal: Treasury and the IRS have released two sets of final regulations on the direct-pay elections for certain tax credits, which taxpayers can elect to apply as a payment against their federal income tax liabilities. The IRC Section 6417 final regulations (TD 9988) apply to the direct-pay elections for certain energy credits under IRC Section 6417, which was added by the Inflation Reduction Act (IRA) (along with updated frequently asked questions (FAQs)). The IRC Section 48D final regulations (TD 9989) apply to the direct-pay election of the advanced manufacturing investment credit, which was enacted by the Creating Helpful Incentives to Produce Semiconductors Act of 2022. For more information on this development, see Tax Alert 2024-0624.

California: The California Film Commission has announced application deadlines for the next film and TV tax credit program. The next application period for television series is June 3 to 5, 2024, with phase II running from June 6 to 10, 2024. The approval date for the applications for television series is July 8, 2024. (After this window, the next application windows are tentatively scheduled for Sept. 2024 and March 2025.) The next application period for films runs from July 29 to 31, 2024, with phase II running from Aug. 1 to 5, 2024. The approval date for these applications is Sept. 2, 2024. (After this window, the next application window is tentatively scheduled for Jan. 2025.) Additional information on the credit program is available here.

Utah: New law (HB 124) expands and modifies the high cost infrastructure development tax credit. The definition of a "high cost infrastructure project" is expanded to include: (1) projects for mineral processing or underground mine infrastructure (this is in addition to projects for energy delivery or fuel standard compliance), and (2) projects for emission reduction, water purification or water resource forecasting. The law modifies the requirements for qualifying for these projects listed under (1) and adds qualification requirements for projects listed under (2). The law also adds a definition for "emissions reduction project," "mineral processing project," "water purification project" and "water resource forecasting project." The definition of "energy delivery project" is expanded to include projects designed to increase the production and delivery of geothermal energy through horizontal drilling to create injection and production wells. (This is in addition to projects designed to increase: (i) the capacity for energy delivery to an energy user inside or outside the state, or (ii) the capability of an existing energy delivery system or related facility to deliver energy to a user of energy inside or outside the state.) The law makes clear that "energy delivery projects" include hydroelectric energy storage systems, utility-scale battery storage systems and nuclear power generation systems. The definition of "infrastructure" is expanded to include emissions reduction projects, mineral processing projects, water purification projects and water resource forecasting projects. HB 124 takes effect on May , 2024, and applies retroactively to Jan. 1, 2024. Utah Laws 2024, HB 124, signed by the governor on March 12, 2024.

PROPERTY TAX

Chicago, IL: On March 19, 2024, Chicago voters rejected a ballot measure that would have increased the real estate transfer tax on property with a transfer price of $1 million or more.

Utah: New law (SB 243) modifies property tax assessment provisions for property owned by airline, air charter service and air contract service (hereafter, "airline property"). The law changes the type of airline property subject to property tax assessment by the State Tax Commission (Commission) from "all operating property" to "all mobile flight equipment." The law subjects in-state airline property other than mobile flight equipment to local property tax assessment. The law also modifies the manner in which the Commission makes fleet adjustments to assess the fair market value of a fleet of aircraft or a fleet of the same aircraft type that is used as part of the airline property's mobile flight equipment. These provisions take effect for tax years beginning on or after Jan. 1, 2025. Utah Laws 2024, SB 243, signed by the governor on March 14, 2024.

Utah: New law (SB 148) modifies property tax assessment provisions for aircrafts by limiting the types of aircraft subject to central assessment by the State Tax Commission to aircraft operating under 14 C.F.R. Part 121 with a maximum takeoff weight exceeding 35,000 pounds. This change takes effect Jan. 1, 2025. Utah Laws 2024, SB 148, signed by the governor on March 20, 2024.

Wisconsin: New law (SB 323) exempts the tangible personal property of a telephone company from property tax. This exemption begins with assessments as of Jan. 1, 2027. Wis. Laws 2024, Act 140 (SB 323), signed by the governor on March 21, 2024.

CONTROVERSY

Utah: New law (HB 34) allows a taxpayer that did not previously file a timely request for agency action for redetermination of a deficiency to object to a final assessment issued by the commission by (1) paying the tax, fee, or charge, penalty or interest and (2) filing a refund claim. (New material italicized.) HB 34 takes effect May 1, 2024, but is retroactively applicable to Jan. 1, 2024. Utah Laws 2024, HB 34, signed by the governor on March 14, 2024.

Utah: New law (HB 89) limits the total amount of interest that may accrue annually on a tax overpayment for an amended return where (1) the amount of accrued interest on the overpayment on or after Jan. 1, 2025 exceeds $200 in any calendar year, and (2) the amount of the overpayment exceeds 30% of the taxpayer's total tax liability as originally reported for the tax, fee or charge to which the overpayment applies. The annual interest rate on such overpayments is two percentage points below the federal short-term rate. Notwithstanding this provision, the interest rate imposed on overpayments is a rate of no less than 0% and no more than 3%, and the amount of interest accruing in a calendar year for an overpayment may not be less than $200, unless the amount of interest that would have accrued during the year is less than $200 when calculated using the simple interest rate under Utah Code Section 59-1-402(3). This limit does not apply to an overpayment provided to a federally recognized tribe or an overpayment resulting from commission error. HB 89 takes effect Jan. 1, 2025. Utah Laws 2024, HB 89, signed by the governor on March 14, 2024.

PAYROLL & EMPLOYMENT TAX

Pennsylvania: Recently enacted Act 34, Section 202.3 (HB 1300), which is effective retroactive to Jan. 1, 2023, excludes up to $5,000 per year of benefits under an IRC Section 129 dependent care assistance program from Pennsylvania income tax and withholding. According to guidance from the Pennsylvania Department of Revenue, the types of dependent care assistance benefits now excluded from Pennsylvania income tax and withholding include: (1) the fair market value of employer-provided daycare facilities; (2) an amount paid directly to a daycare facility by the employer or reimbursed to the employee to subsidize the cost; and (3) pre-tax contributions made by the employee under an IRC Section 125 dependent care assistance flexible spending account. For more on this development, see Tax Alert 2024-0586.

MISCELLANEOUS TAX

Indiana: New law (SB 180) prohibits a governmental body (e.g., agency, board, commission, department, bureau) from accepting payments made with a central bank digital currency. The law also prohibits a governmental body from requiring payment to be made with a central bank digital currency for any service, tax, license, permit, fee, information, or other amount due. The law defines central bank digital currency as a digital means of exchange, unit of account or store of value that is currently (or may be) issued or adopt by the United States Federal Reserve System, the United States government, a foreign government, a foreign reserve system, or a foreign sanctioned central bank and that is made available to consumers. This change takes effect July 1, 2024. Ind. Laws 2024, P.L. 21 (SB 180), signed by the governor on March 11, 2024.

Utah: New law (SB 156) imposes a 0.5% tax on the gross receipts of a radioactive waste facility that are derived from the disposal of uncontainerized, unprocessed class A waste received by the facility if such waste does not exceed 10% of the radioactive concentration limit for class A waste defined in 10 C.F.R. Section 61.55. The bill takes effect July 1, 2024. Utah Laws 2024, SB 156, signed by the governor on March 13, 2024.

Washington: New law (HB 2199) creates business and occupation tax and public utility tax exemptions for certain amounts received by a covered entity, opt-in entity or entity that receives no-cost allowance from the receipt, generation, purchase, sale, transfer, or retirement of allowances, offset credits or price ceiling units under the Climate Commitment Act. HB 2199 takes effect April 1, 2024. Wash. Laws 2024, ch. 115 (HB 2199), signed by the governor on March 15, 2024. Washington: New law (HB 2003) exempts from leasehold excise tax all leasehold interests in public lands used for the placement of affordable housing under the following conditions: (1) the lessee commits to renting or selling 100% of the units as permanently affordable for low- and moderate-income households, and (2) the lease term is for at least 20 years. The exemption applies for the duration of the lease. The law takes effect June 6, 2024. Wash. Laws 2024, ch. 59 (HB 2003), signed by the governor on March 13, 2024.

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.