April 03, 2013
Top 10 Multistate Tax Issues Facing Companies
When companies operate in multiple states, income taxes in each of those states can have a significant impact on the bottom line. Managing these ten common problem areas can minimize the business's overall tax burden, and help its finance team prepare for issues that may come up during an audit. These tips are from an article by Carl N. Richie, CPA, in the latest issue of Thomson Reuters Journal of Multistate Taxation and Incentives.
- Property factor issues
Contrary to popular belief, the property factor often requires more consideration than simply preparing a schedule, by location, of the company's real and tangible personal property. Some states require the property factor to be computed based on book value, fair value, or adjusted tax basis, while others look to original cost.
- Sourcing payroll
If an employee performs services in several states, an attempt is made to divide compensation among the states where services are provided. This is a significant issue when employees travel around the country regularly.
- Sourcing revenue from services and intangibles
In the past, most states followed the cost-of-performance test for sourcing sales of other than real and tangible personal property. Recently this has changed, as states have found that sourcing revenue to the state in which the taxpayer's customer is located, or where the benefit of a service is received, may bring in more revenue from out-of-state companies.
In apportioning receipts from sales of tangible personal property, many states employ the throwback rule, whereby sales are attributed to the taxing state if the goods are shipped from the taxing state to a purchaser in another state and the taxpayer is not taxable in that other state. In order to properly source these sales, one must have a good understanding of where the taxpayer has nexus.
- Interstate Commerce Tax Act
Public Law 86-272 (the Interstate Commerce Tax Act) prohibits a state from levying an income tax on taxpayers whose activity in the state is limited to mere solicitation of sales of tangible personal property. This is an often-misunderstood law, and can yield some traps for taxpayers.
- Special industries' apportionment
For most businesses, taxable income is apportioned under the standard three-factor formula, or in some states a single sales factor. Certain industries, however, are subject to different apportionment formulas. The fact that not all states use the same apportionment scheme for a particular industry can be tricky.
- Missing out on credits and incentives
When it comes time to prepare returns, it is often too late to take advantage of credits and other incentives that may have been available in particular states. Many opportunities are left on the table, often because the right questions were not asked well before the returns were prepared.
- Not carefully considering the state tax impact of major transactions
A major transaction, such as the sale of a subsidiary, can lead to problems if state issues are not properly addressed. Often, federal income tax issues are considered ad nauseam, with state income taxes being an afterthought. A transaction may be structured favorably for federal income tax purposes, only to result in a significant unexpected state income tax impact.
- Filing separate vs. combined returns
For C corporations (and in some states, S corporations), a unitary group of corporations may need to file a combined return. Many returns are filed on a single-entity basis, without consideration of whether a state requires a combined return.
- Appropriate treatment of entity partners
In many, but not all, states, a corporation that has an interest in a pass-through entity must aggregate its apportionment factors with its distributive share of the pass-through entity's factors. However, some states require apportionment at the entity level. In other states, perhaps, only for a pass-through entity with which a taxpayer has a unitary relationship may the taxpayer aggregate the apportionment factors.
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