State Apportionment Update Market Based Sourcing John Iannotti. September 25, 2015

Transcription

1 State Apportionment Update Market Based Sourcing John Iannotti September 25,

2 Sales Factor Market Based Sourcing for Services (2008) No Tax IPA/COP Service Performed in State (%) Market Other 2

3 Sales Factor Market Based Sourcing for Services (2015) WA Benefit of service sourcing for B&O purposes No Tax IPA/COP AZ Eff. For 2014, an election is available to phase-in market sourcing for multistate service providers OH Benefit of service sourcing for CAT purposes Service Performed in State (%) Market IPA/COP but Elective Market (MO & AZ Only) Other MO HB 128 & SB19 taxpayers electing SSF are to use market sourcing of services based on where benefit is received 3

4 Legislative Trend Toward Market Sourcing of Service Receipts As of 2015, 20 states are now market sourcing states AL, AZ (elective), CA, GA, IA, IL, MA, MD, ME, MI, MN, MO (if single sales factor apportionment elected), NE, NY, OH (pass-through entities), OK, PA, RI, UT, & WI Market sourcing enacted in TN starting in 2016 NC has enacted market sourcing informational reporting requirement for a 2015 tax year to assess revenue impact on changing statutory sourcing rules 5 states do not impose an income-based tax, but OH and WA have distinct market-based sourcing rules for their business taxes 4

5 Market Sourcing of Services Key Considerations 1. Definition of Market for sourcing purposes 2. Market states ordering rules in assigning receipts 3. Pro Rata vs. Majority Benefit Rule 4. Market States with Throw-out Provisions 5. Draft MTC Regulations 5

6 Definition of Market for Sourcing Purposes? Most market states generally look to either where the services are delivered vs. where the benefit of the services are received Market states referring to where benefit of the services are received in their statutory definition include CA, GA, IA, NY, OH (CAT), RI, UT, WA (B&O), WI Market states referring to where the services are delivered in their statutory definition include AL, MA, PA, TN (effective in 2016). This definition also resides in the most recent MTC draft regulations Determination of market may be difficult, particularly under a benefit of services received rule Intangibles (patents, trademarks, etc.) typically sources to location of use 6

7 Definition of Market - California vs. Massachusetts California - Sales from services are in this state to the extent the purchaser of the service received the benefit of the services in the state. [Reg (b)(1), 18 CCR] Massachusetts - The sale of a service is in Massachusetts if and to the extent that the service is delivered at a location in Massachusetts. [Reg. 830 CMR (9)(d)4.a] 7

8 Definition of Market - California Example Calif. Reg (c)(2)(E)1 CA 18% Payroll Services Corp PAYROLL SERVICES Customer Corp Non CA 82% Customer Corp is commercially domiciled in California Service contract between Payroll Services Corp and Customer Corp does not specify where the service will be used by Customer Corp although services will be delivered to their California headquarters Payroll Services Corp's books and records indicate the number of employees of Customer Corp in each state where Customer Corp conducts its business. 18% of Customer Corp s employees are located in California; thus, Payroll Services Corp shall source of their 18% payroll service revenues to California based on the ratio of employees on where the benefit was received 8

9 Definition of Market - Massachusetts Example Reg. 830 CMR (9)(d)4.c.ii.(A)3 Example 6 Software Corp CUSTOMER SOFTWARE DEVELOPMENT Buyer Corp (Non Mass HQ) Buyer Corp is commercially domiciled outside of Massachusetts and has several offices located outside of the state and one Massachusetts office. Buyer Corp contracts with Software Corp and orders the custom software from outside of Massachusetts Developed software is to be used by Buyer Corp at all of its business locations around the U.S. Software Corp installs the software on Buyer Corp s computer hardware located in Massachusetts 100% of the service receipts are sourced to Massachusetts based on delivery even though Buyer Corp will receive the benefit from the purchased software in multiple states where all their other offices are located 9

10 Definition of Market Other States Sourcing Criteria Illinois: Look to where service is received based on where the customer has a fixed place of business Maine & Minnesota: Look to where services are received Nebraska: Location of buyer under a derived from standard Oklahoma: Location of customers or attributable to marketplace Maryland: Impetus of the sale 10

11 Market States Ordering Rules in Assigning Receipts California Benefit of the service is received in California based on the following hierarchy 1. The contract or taxpayer s book and records indicate that the benefit of the service is in this state 2. Reasonable approximation 3. Location from which the taxpayer s customer placed the order for the service is in this state 4. Customer s billing address [Calif. CCR (c)] 11

12 Market States Ordering Rules in Assigning Receipts Illinois Service is received in Illinois based on the following hierarchy 1. Initially, receipts from services provided to corporation, partnership, or trust may only be attributed to a state where that corporation, partnership, or trust has a fixed place of business 2. If the state where the services are received is not readily determinable, then the services are deemed received at the location from which the services were ordered 3. If ordering office cannot be determined, then location where bill is sent [ILCS Chapter 35 5/304(a)(3)(C-5)(iv)] 12

13 Market States Ordering Rules in Assigning Receipts Maryland Receipts from service included in the numerator if derived from customers within Maryland. 1. Customers within Maryland based on the domicile of the customer (i.e. place of business the principal impetus for the sale) 2. Catchall if location providing principal impetus cannot be identified, then customer domicile is location of HQs of principal place of business 3. Maryland Regulations Examples in the regulation reflect: The principal impetus analysis being based on where the benefit of the service is received A look-through approach in that receipts should be sourced to ultimate recipient of the service [Md. Reg ] 13

14 Market States Ordering Rules in Assigning Receipts Pennsylvania Sales of services are allocated to the state if it is delivered to a location in the state but if the service is delivered to both a location in and outside the state, the sale is apportioned to Pennsylvania based upon the percentage of total value of the service delivered in the state. 1. If the state of states [of delivery] cannot be determined for a customer who is an individual that is not a sole proprietor, a service is deemed to be delivered at the customer s billing address. 2. If the customer is a sole proprietor or business, a service is deemed to be delivered at the location from which the services were ordered in the customer s regular course of operations. If the location from which the services were ordered in the customer s regular course of operations cannot be determined, a service is deemed to be delivered at the customer s billing address. [72 P.S. 7401(3)2(a)(16.1)(c)] 14

15 Does the State Have a Pro Rata or Majority Benefit Rule? Same approach as COP Examples: California: (1) Sales from services are in this state to the extent the purchaser of the service received the benefit of the services in the state..... (8) To the extent means that if the customer of a service receives the benefit of a service.... in more than one state, the gross receipts from the performance of the service... are included in the numerator of the sales factor according to the portion of the benefit of the services received.... [Reg (b), 18 CCR] 15

16 Does the State Have a Pro Rata or Majority Benefit Rule? A single contract resulting in a multistate benefit Multiple ways to determine a benefit State 1 (25%) State 4 (5%) Service Provider State 2 (30%) State 3 (40%) 16

17 Does the State Have a Pro Rata or Majority Benefit Rule? Utah: A receipt from the performance of a service is considered to be in this state if the purchaser of the services receives a greater benefit of the service in this state than in any other state. [R865-6F-8(10)(g), Utah Admin. Code)] More than half of the benefit is not required. 17

18 Does the State Have a Pro Rata or Majority Benefit Rule? Utah would get 100% of the benefit More than 100% of the revenue sourced State 1 (25%) State 4 (5%) Service Provider State 2 (30%) Utah (40%) 18

19 Throw-Out Rule: Receipts Assigned to a Nontaxable State Alabama Art.IV.17(a)(3) The taxpayer's market for a sale is in this state in the case of a service the case of sale of a service, if and to the extent the service is delivered to a location in this state. (b) If the state of assignment cannot be determined under subsection (a), it shall be reasonably approximated. (c) If the taxpayer is not taxable in a state to which a sale is assigned under subsection (a), or if the state of assignment cannot be determined under subsection (a) or reasonably approximated under subsection (b), the sale shall be excluded from the denominator of the sales factor. Art.IV.3. For purposes of allocation and apportionment of income under this article, a taxpayer is taxable in another state if 1) in that state he or she or it is subject to a net income tax, a franchise tax measured by net income, a franchise tax for the privilege of doing business, or a corporate stock tax, or 2) that state has jurisdiction to subject the taxpayer to a net income tax regardless of whether, in fact, the state does or does not. [Alabama Ala. Code ] 19

20 Throw-Out Rule: Receipts Assigned to a Nontaxable State Massachusetts (d)(4) The sale of a service is in Massachusetts if and to the extent that a service is delivered at a Massachusetts location. (d)1.f.ii. In any case in which a taxpayer can ascertain the state or states to which a sale is to be assigned pursuant to the applicable rules set forth in [this regulation], but the taxpayer is not taxable in one or more such states, the sales that would otherwise be assigned to such states where the taxpayer is not taxable shall be excluded from the numerator and denominator of the taxpayer's sales factor. [Massachusetts Reg. 830 CMR (9)] 20

21 Throw-Out Rule: Receipts Assigned to a Nontaxable State Massachusetts (a) A taxpayer is considered taxable in another state if the taxpayer is "subject to" a net income tax, a franchise tax measured by net income, a franchise tax for the privilege of doing business, or a corporate stock tax imposed by that state. Whether or not a taxpayer is subject to any such tax depends upon the nature and substance of the tax and not upon its form or title OR (b) A taxpayer is considered taxable in another state if that other state has jurisdiction to subject the taxpayer to a net income tax, regardless of whether, in fact, the state does or does not impose such a tax on the taxpayer. [Massachusetts Reg. 830 CMR (9)] 21

22 Throw-Out Rule: Receipts Assigned to a Nontaxable State D.C. (A)(iii) Sales, other than sales of tangible personal property, are in the District if the taxpayer's market for the sales is in the District if and to the extent the service is delivered to a location in the District (B) If the state or states of assignment under subparagraph (A) of this paragraph cannot be determined, the state or states of assignment shall be reasonably approximated. (C) If the taxpayer is not taxable in a state in which a sale is assigned under subparagraph (A) or (B) of this paragraph, or if a state of assignment cannot be determined under subparagraph (A) of this paragraph or reasonably approximated under subparagraph (B) of this paragraph, the sale shall be excluded from the denominator of the sales factor. [D.C. Code (g)(3)] 22

23 Throw-Out Rule: Receipts Assigned to a Nontaxable State NC / SC Clients 35% delivered ($1,750,000) NC / SC Architecture Design Firm TX Client MA Client 50% delivered ($2,500,000) 15% delivered ($750,000) Total Revenue equal to $5,000, % of services are performed in NC and SC No travel involved to visit & serve clients in MA or TX Not subject to TX franchise tax due to lack of physical presence in state 23

24 Throw-Out Rule: Receipts Assigned to a Nontaxable State Without Throw-out Rule Mass. Receipts Factor = 15% ($750,000 / $5,000,000) With Throw-out Rule Mass. Receipts Factor = 30% ($750,000 / ($5,000,000- $2,500,000)) 24

25 Throw-Out Rule: Receipts Assigned to a Nontaxable State Considerations: Texas is a physical presence standard nexus state for franchise tax purposes. Alabama (eff. 2015) & Massachusetts apply economic nexus standards for income tax purposes. D.C. follows guidance from the MTC to lean toward an economic nexus assertion although not as clear. Will the throw-out market sourcing state apply their broader home state economic nexus standards in assessing whether or not such sales are taxable or look to that delivered to state s specific nexus standard in making their throw-out assessment? 25

26 Throw-Out Rules Illinois & Tennessee Illinois Same premise as Alabama, D.C. & Massachusetts If the taxpayer is not taxable in the state in which the services are received, the sale must be excluded from both the numerator and the denominator of the sales factor. [35 ILCS 5/304(a)(3)(C-5)(iv)] Tennessee If the state of assignment cannot be determined or reasonably approximated.., such sale shall be excluded from the numerator and denominator of the sales factor. [Tenn. Code Ann (i) as effective 1/1/2016] Unlike other market states throw-out provisions, Tennessee s only applies with respect to sales that cannot be determined or reasonably approximated and not with sales to non-taxable in states based on where services are delivered. 26

27 Multistate Tax Commission s Model Regulations Background Work group formed in August 2014 Work group s purpose is to develop model market-based sourcing regulations Massachusetts s market-based sourcing regulations used as a starting point Work group s draft regulations are almost complete Work group formed subcommittee to study impacts on separateentity reporting systems Draft regulations must still undergo remaining steps of the 8-step uniformity process (currently performing step 2) 27

28 Multistate Tax Commission s Model Regulations General Rules of Application To determine whether and to what extent the market for a sale other than the sale of TPP is in a state Reasonably approximating the state of assignment where such state cannot be determined Excluding the sale from the receipts factor numerator and denominator, where the state of assignment either cannot be determined or reasonably approximated or the sale is assigned to a state where such sales are not taxable. (e.g. Throw-out Rule) 28

29 Multistate Tax Commission s Model Regulations Noteworthy Items and Unresolved Issues Should model regulations include a definition of subject to tax? Examples included in or excluded from model regulations? Lack of guidance with respect to special industry regulations Establish rules for sourcing related party transactions? 29

30 Multistate Tax Commission s Model Regulations Hypothetical State adopts MTC regulations as currently drafted State does not currently provide special apportionment rules for banks Literal interpretation of the MTC regulations might result in exclusion of interest income on securities from the receipts factor Interest income on securities does not meet any specified receipt in the regulations Under general rules of application, receipts that cannot be assigned pursuant to the regulations are excluded Results in the exclusion of a material amount of a bank s total receipts from the receipts factor 30

31 Presented By: John Iannotti, Partner Tax Advisory Services, SALT Specialty T