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State & Local Tax Alert Breaking state and local tax developments from Grant Thornton LLP Connecticut Enacts Sweeping Tax Reform Including Mandatory Unitary Reporting Requirement On June 30, Connecticut Governor Dan Malloy signed two bills enacting budget legislation which includes mandatory unitary combined reporting for tax years beginning on or after January 1, 2016. Other corporate income tax changes limit the use of taxpayers net operating loss (NOL) attributes and extend the corporate income tax surcharge. The bills also make significant changes to the personal income tax for tax years beginning on or after January 1, 2015, and to sales and use tax provisions which become effective on various dates. 1 Unitary Reporting For years beginning on or after January 1, 2016, unitary combined reporting is required for corporations who are members of a combined group. 2 Prior law which allowed elective combined or unitary reporting will be rendered obsolete. 3 Combined group members include all persons that have common ownership (more than 50 percent of voting control owned directly or indirectly as determined in accordance with Internal Revenue Code (IRC) Section 318) and are engaged in a unitary business, where at least one person is subject to Connecticut tax. 4 Specifically, a unitary business is defined as a single economic enterprise that is made up either of separate parts of a single business entity or of a group of business entities under common ownership, which enterprise is sufficiently interdependent, integrated or interrelated through its activities so as to provide mutual benefit and produce a significant sharing or exchange of value among such entities, or a significant flow of value among the separate parts. 5 A combined unitary group will, by default, be required to file a combined return on a water s edge basis, but an election to file on a worldwide unitary or federal affiliated group Release date July 8, 2015 States Connecticut Issue/Topic Multiple Taxes Contact details Matthew DiDonato New York - Manhattan T 212.542.9960 E matthew.didonato@us.gt.com Art Burkard New York - Manhattan T 212.542.9600 E art.burkard@us.gt.com Rob Michaelis Boston T 508.983.3150 E rob.michaelis@us.gt.com Jamie C. Yesnowitz Washington, DC T 202.521.1504 E jamie.yesnowitz@us.gt.com Chuck Jones Chicago T 312.602.8517 E chuck.jones@us.gt.com Lori Stolly Cincinnati T 513.345.4540 E lori.stolly@us.gt.com www.grantthornton.com/salt 1 Public Act 15-244 (H.B. 7061), Laws 2015; S.B. 1502, Special Session, Laws 2015. 2 Id. 3 CONN. GEN. STAT. 12-222(g)(2), 12-217n(b)(2), 12-223a(e), 12-223f(b). 4 CONN. GEN. STAT. 12-213(a)(29), (31). 5 CONN. GEN. STAT. 12-213(a)(32). Any business conducted by a pass-through entity will be treated as conducted by its members, whether directly held or indirectly held through a series of pass-through entities, to the extent of the member s distributive share of the pass-through entity s income, regardless of the percentage of the member s ownership interest or its distributive or any other share of pass-through entity income, and any business conducted directly or indirectly by one.

Grant Thornton LLP - 2 basis may be made. 6 Combined unitary groups filing on a water s edge basis will generally include U.S. companies, any companies with at least 20 percent of their payroll and property in the United States, companies located in designated tax havens, and companies earning at least 20 percent of their gross income from intangible property or servicerelated activities. 7 Worldwide or affiliated group elections must be made on an original timely filed return and are binding for the original return and for an additional period of ten years. 8 A designated taxable member 9 of the combined group must file the unitary return of the combined group on behalf of all its taxable members. 10 In addition, a combined group member may be classified as a taxable member, or a nontaxable member. Taxable group members include only corporations with income tax nexus in Connecticut, while corporations which separately do not have Connecticut nexus are considered nontaxable members (though such members are not exempt from the Connecticut tax). 11 The amount of tax payable to Connecticut by the combined group is the higher of its aggregate income tax or capital base tax liability. Taxable Income Generally, Connecticut will base the taxable income of a unitary group on the aggregate income of its members as reported on a federal income tax return as if each member had filed on a separate return basis. 12 For a foreign company that does not file a federal income tax return, income is either based on an adjusted profit and loss statement, or in lieu of this procedure and subject to the Commissioner s approval, potentially may be calculated on a reasonable basis consistently applied. 13 Specifically, each member s taxable income or loss is determined by multiplying its Connecticut apportionment percentage by the combined group s net income. 14 corporation is unitary with that portion of a business conducted by another corporation through its direct or indirect interest in a pass-through entity if there is a mutual benefit and a significant sharing of exchange or flow of value between the two parts of the business and the two corporations are members of the same group of business entities under common ownership. 6 Public Act 15-244 (H.B. 7061), Laws 2015, 140(a), (b); S.B. 1502, Special Session, Laws 2015, 145. 7 Id. The Tax Commissioner is required to publish a list of jurisdictions considered tax havens by Sept. 30, 2016, which will apply to tax years beginning on or after January 1, 2016. With respect to members earning more than 20 percent of gross income from intangible property or service-related activities, such costs must be deductible for federal income tax purposes against income of other combined group members, and such members only include that specific income and apportionment factors related to such income in the combined group calculation. 8 Public Act 15-244 (H.B. 7061), Laws 2015, 140(c); S.B. 1502, Special Session, Laws 2015, 145. 9 Public Act 15-244 (H.B. 7061), Laws 2015, 138(33). The designated taxable member is generally the taxable common parent corporation. If the common parent corporation is not taxable, the group may elect a designated taxable member. If no member is selected, the Commissioner may designate a taxable member. 10 Public Act 15-244 (H.B. 7061), Laws 2015, 140(c); S.B. 1502, Special Session, Laws 2015, 145. 11 Public Act 15-244 (H.B. 7061), Laws 2015, 138(35), (36). 12 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a). 13 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(3). 14 Public Act 15-244 (H.B. 7061), Laws 2015, 139(c).

Grant Thornton LLP - 3 The legislation also provides the following instructions for computing taxable income: Pass-through entity income/loss is included in the computation; 15 Intercompany dividends are eliminated; 16 Intercompany gains are treated in a manner consistent with Treas. Reg. Section 1.1502-13 and generally deferred; 17 Charitable expenses incurred by a member of a combined group are first deducted from the combined group s income subject to the limitations set forth by IRC Section 170; 18 Generally, gains or losses from the sale or exchange of capital assets, such as those described by IRC Section 1231(a)(3), are combined and then apportioned to each member; 19 Expenses related to income which Connecticut is forbidden to tax under the U.S. Constitution are not allowed as a deduction; 20 and Intercompany charges between members of the same unitary group are not subject to the related-party addback requirements of Connecticut law. 21 Certain publicly traded members of a unitary combined group are entitled to a deduction designed to limit the impact of this law change on financial income statements. 22 Specifically, these entities will be allowed, for a seven-year period beginning with the unitary group s first income year that begins in 2018, a deduction from unitary group net income equal to one-seventh of the amount necessary to offset the increase in the net deferred tax liability or decrease in the deferred tax asset, or the aggregate change if the net income of the unitary group changes from a net deferred tax asset to a net deferred tax liability, as computed in accordance with generally accepted accounting principles, that would result from the imposition of the unitary reporting requirements, but for this deduction. 23 If not fully utilized, the deduction may be carried forward. 24 Combined groups planning to avail themselves of this deduction must notify the Commissioner by July 1, 2017. 25 15 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(4). 16 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(5). 17 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(6). 18 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(7). 19 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(8). 20 Public Act 15-244 (H.B. 7061), Laws 2015, 139(a)(9). 21 Public Act 15-244 (H.B. 7061), Laws 2015, 151 and 152; CONN. GEN. STAT. 12-218 (c)(4). 22 Publicly traded members for which these changes result in an aggregate increase to a net deferred tax liability or aggregate decrease to a net deferred tax asset or an aggregate change from a net deferred tax asset to a net deferred tax liability are eligible for the deduction. 23 Public Act 15-244 (H.B. 7061), Laws 2015, 141; S.B. 1502, Special Session, Laws 2015, 146. 24 Public Act 15-244 (H.B. 7061), Laws 2015, 141(e); S.B. 1502, Special Session, Laws 2015, 146. 25 Public Act 15-244 (H.B. 7061), Laws 2015, 141(f); S.B. 1502, Special Session, Laws 2015, 146.

Grant Thornton LLP - 4 Apportionment Each taxable member of a combined group will use existing Connecticut apportionment law, including sourcing rules, to compute its applicable apportionment factor. 26 However, in computing its denominators for each of the factors, each member will use the combined group s denominator for that factor. 27 For purposes of computing the property and payroll factor denominators, the aggregate factors from all members are included, regardless of whether or not a member would otherwise use these factors in apportioning its income. 28 Receipts from each nontaxable member assignable to Connecticut are determined based on the apportionment factor that would be applicable if the member were taxable and allocated to the numerators of the taxable members. 29 Transactions between members of the combined group are eliminated 30 and if any member of the group is taxable outside Connecticut, all members have the right to apportion income. 31 NOLs and Credits The new legislation also provides direction regarding how NOLs may be treated by related members of a combined group. Specifically, combined group NOL carryforwards generated for years beginning on or after January 1, 2016 may be shared with other taxable members of the combined group provided they were members in the year the loss was generated. 32 NOLs generated prior to 2016 by members of a combined group may be shared between the members of a pre-2016 combined filing group. NOLs earned by a member on a separate company basis may not be shared between members of the combined group. 33 Similarly, tax credit ordering rules and credit limitation rules apply separately to each taxable member. 34 Tax credits earned by members of the combined unitary group on or after January 1, 2016 may be shared with other taxable members provided they were 26 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(1). Connecticut requires the use of a threefactor apportionment formula based on property, payroll, and double-weighted sales when the net income of a taxpayer is derived from the manufacture, sale, or use of tangible personal or real property, while the use of a single sales factor apportionment formula is required for certain industry-specific taxpayers including manufacturers and broadcasters, as well as net income when derived from business other than the manufacture, sale or use of tangible personal or real property. See CONN. GEN. STAT. 12-218(b), (c), (k), (l). 27 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(1). 28 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(2). 29 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(3). 30 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(4); 158. 31 Public Act 15-244 (H.B. 7061), Laws 2015, 139(b)(5). 32 Public Act 15-244 (H.B. 7061), Laws 2015, 139(d)(2); S.B. 1502, Special Session, Laws 2015, 143. 33 Public Act 15-244 (H.B. 7061), Laws 2015, 139(d)(3); S.B. 1502, Special Session, Laws 2015, 143. 34 Public Act 15-244 (H.B. 7061), Laws 2015, 139(j)(1); S.B. 1502, Special Session, Laws 2015, 144.

Grant Thornton LLP - 5 members of the combined group for the year the loss was generated. 35 Credits generated prior to 2016 by members of a combined group may only be shared by the entities which were combined group members during the year the credit was generated. 36 Capital Tax Base Each combined unitary group is also subject to a capital base tax. To compute the capital tax base of the combined unitary group, the capital bases of all taxable and nontaxable members are combined, eliminating intercompany holdings. 37 Financial service companies are excluded from the calculation of the capital base for combined unitary groups and are instead subject to the capital base tax at the minimum $250 amount. 38 For apportionment factor purposes, the capital base denominator is the aggregate denominator for all other combined unitary group members. 39 The aggregate maximum capital base for the combined unitary group is $1 million. 40 If the total capital base tax computed for the group exceeds that amount, each member is required to prorate its separate capital base tax. 41 Other Corporate Income Tax Provisions The legislation extends through tax years beginning prior to January 1, 2018 the 20 percent corporate income tax surcharge which is currently in effect and was scheduled to expire prior to the 2016 tax year. 42 A 10 percent surcharge is included for tax years beginning on and after January 1, 2018 and beginning prior to January 1, 2019. 43 The surtax applies to all companies with gross income of at least $100 million, those filing combined or elective unitary returns prior to the 2016 tax year, and those filing combined unitary returns for later years. For tax years beginning on or after January 1, 2015, the amount of NOL which may be applied against income is limited to an amount equal to 50 percent of net income. 44 Similarly and effective for the same tax years, application of tax credits is limited to 50.01 percent of tax due. 45 35 Public Act 15-244 (H.B. 7061), Laws 2015, 139(j)(2); S.B. 1502, Special Session, Laws 2015, 144. 36 Public Act 15-244 (H.B. 7061), Laws 2015, 139(j)(3); S.B. 1502, Special Session, Laws 2015, 144. 37 Public Act 15-244 (H.B. 7061), Laws 2015, 139(f)(1). 38 Public Act 15-244 (H.B. 7061), Laws 2015, 139(f)(2), (h)(2). 39 Public Act 15-244 (H.B. 7061), Laws 2015, 139(g). 40 Public Act 15-244 (H.B. 7061), Laws 2015, 139(h)(1). 41 Id. 42 CONN. GEN. STAT. 12-214(b)(7)(A). 43 CONN. GEN. STAT. 12-214(b)(8)(A). 44 CONN. GEN. STAT. 12-217(a)(4). Combined groups with losses exceeding $6 billion for tax years beginning prior to 2013 are granted the ability to make an election allowing different limits to apply to unused losses incurred prior to the year beginning in 2015. 45 CONN. GEN. STAT. 12-217ZZ(a)(2). Previously, credits had been allowed to reduce taxable income by up to 70 percent.

Grant Thornton LLP - 6 Alternatively, an election is available to combined groups with unused NOL carryovers of more than $6 billion from tax years beginning prior to January 1, 2013 to allow the deductible portion of the combined group NOL carryover to reduce net income to zero in any income year beginning on or after January 1, 2017. Groups making this election must also limit the NOL carryover of the combined group to 50 percent of unused NOLs incurred prior to the tax year beginning on or after January 1, 2015 and before January 1, 2016. A combined group must make such election on its return for the tax year beginning on or after January 1, 2015 and before January 1, 2016, by the due date of its return, including extensions. 46 Personal Income Tax The law increases the marginal personal income tax rates for tax years beginning on or after January 1, 2015. Specifically, for joint filers with taxable income greater than $500,000 and single filers with taxable income greater than $250,000, the current 6.7 percent rate increases to 6.9 percent. 47 For joint filers with taxable income greater than $1 million and single filers with taxable income greater than $500,000, a new incremental rate of 6.99 percent is added. 48 In addition, the statute adopts an expansive recapture mechanism by which high-income taxpayers gradually lose the benefit of lower tax rates applied at the lower income levels of the tax rate schedule. The highest rate of 6.99 percent also applies to trusts and estates. 49 Finally, the estate tax is capped at $20 million for decedents dying on or after January 1, 2016. 50 The law delays implementation of a scheduled increase in the personal exemption to $14,500 for the tax year beginning on January 1, 2016 and $15,000 for tax years beginning on or after January 1, 2017. 51 Similarly, scheduled increases in the threshold for credit based on adjusted gross income and to the earned income percentage were delayed. 52 The law fully exempts military retirement pay for tax years beginning on or after January 1, 2015. 53 Sales and Use Tax Effective July 1, 2015, the legislation: (i) eliminates the general sales and use tax exemption for certain articles of clothing or footwear; 54 (ii) increases the sales and use tax rate 46 CONN. GEN. STAT. 12-217(a)(4)(iii). 47 Public Act 15-244 (H.B. 7061), Laws 2015, 66. 48 Id. 49 Id. 50 Public Act 15-244 (H.B. 7061), Laws 2015, 174. 51 Public Act 15-244 (H.B. 7061), Laws 2015, 67. 52 Public Act 15-244 (H.B. 7061), Laws 2015, 68, 69. The previously scheduled increases in the Connecticut gross income thresholds will now occur for the tax year beginning on January 1, 2016 rather than January 1, 2015. The earned income percentage will now increase from 27.5 percent to 30 percent after 2016. 53 Public Act 15-244 (H.B. 7061), Laws 2015, 65. Previously, military retirement income was 50 percent exempt. 54 CONN. GEN. STAT. 12-412 (119) is eliminated by Public Act 15-244 (H.B. 7061), Laws 2015, 222. Instead, an exemption from the third Sunday in August until the following Saturday is allowed for similar items with a price of less than $100 as enacted by CONN. GEN. STAT. 12-407e.

Grant Thornton LLP - 7 imposed upon luxury goods from 7.0 percent to 7.75 percent; 55 (iii) adds car wash services, including coin-operated washes, to the list of services subject to tax; 56 (iv) eliminates the exemption for water company sales; 57 and (v) eliminates the exemption for motor vehicle parking in all seasonal non-metered parking lots and hospital garages with at least 30 parking spaces, excluding certain employer-operated lots for its employees. 58 Sales of computer and data processing services remain subject to tax at a rate of 1 percent. 59 However, as of October 1, 2015, the term is expanded to include Web design services such as the creation, development, hosting and maintenance of an Internet Web site. 60 Thus, Web design services provided on or after that date will be subject to sales tax. Commentary The initial budget bill, H.B. 7051, was passed by the legislature on June 3 at the conclusion of the regular legislative session by a slim margin, 61 despite significant efforts from large Connecticut-based corporations to thwart its passage. Before the initial budget bill was signed into law by Governor Malloy, several prominent Connecticut-based companies voiced significant concern regarding its tax implications and threatened to move their operations outside the state. As a result, the legislature was called into special session to enact S.B. 1502 implementing the budget and altering some of the more controversial provisions included in the original law. Specifically, the new legislation delayed implementation of the unitary combined reporting requirement and discarded a proposed increase to the sales and use tax rate applicable to sales of computer and data processing services. Despite these changes, the budget is expected to raise substantial additional revenue for the state and includes a record investment in Connecticut s transportation infrastructure. 62 It is interesting to note that the legislation includes a recapture provision intended to make the personal income tax more progressive. By effectively subjecting the income of higher income taxpayers to higher rates, the state has shifted some of the overall tax burden to this demographic group. New York has also enacted a similar provision eliminating the benefit of lower marginal tax rates for high-income taxpayers. For financial statement purposes, since the legislation was enacted on June 30, the adoption is considered a second quarter 2015 event. Thus, calendar-year taxpayers will 55 CONN. GEN. STAT. 12-408(1)(H). This tax applies to motor vehicles costing more than $50,000, jewelry costing more than $5,000, and clothing and other articles exceeding $1,000. 56 CONN. GEN. STAT. 12-407(a)(37)(OO). 57 Public Act 15-244 (H.B. 7061), Laws 2015, 222 (eliminating CONN. GEN. STAT. 12-412(90)). 58 CONN. GEN. STAT. 12-407(a)(37)(N). 59 CONN. GEN. STAT. 12-408(1)(D). 60 CONN. GEN. STAT. 12-407(a)(37)(A). 61 The legislation was approved by the Senate by a 19-17 vote just before the scheduled expiration of the legislative session on June 3. House members had approved the bill by a vote of 73-70 earlier the same day. 62 Press release, Governor Dannel P. Malloy, Jun. 30, 2015.

Grant Thornton LLP - 8 need to consider the impact of these changes to their financial statements for the second quarter. The information contained herein is general in nature and based on authorities that are subject to change. It is not intended and should not be construed as legal, accounting or tax advice or opinion provided by Grant Thornton LLP to the reader. This material may not be applicable to or suitable for specific circumstances or needs and may require consideration of nontax and other tax factors. Contact Grant Thornton LLP or other tax professionals prior to taking any action based upon this information. Grant Thornton LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. No part of this document may be reproduced, retransmitted or otherwise redistributed in any form or by any means, electronic or mechanical, including by photocopying, facsimile transmission, recording, re-keying or using any information storage and retrieval system without written permission from Grant Thornton LLP. This document supports the marketing of professional services by Grant Thornton LLP. It is not written tax advice directed at the particular facts and circumstances of any person. Persons interested in the subject of this document should contact Grant Thornton or their tax advisor to discuss the potential application of this subject matter to their particular facts and circumstances. Nothing herein shall be construed as imposing a limitation on any person from disclosing the tax treatment or tax structure of any matter addressed.