WEBINAR: STATE NOL MANAGEMENT CHALLENGES AND PRACTICAL STRATEGIES

Managing NOLs using spreadsheets with thousands of complex formulas to forecast state NOLs manually can lead to lost cash tax opportunities. This is why we need to learn more about this area and identify new tools to predict the impact that state NOLs will have on cash, minimize effective tax rate (ETR), and improve corporate earnings per share.

By attending a free Bloomberg BNA webinar on March 22, 2016 at 2 pm EST, which I have the privilege of co-presenting, you can become the hero of your tax department by learning more about major hurdles of NOL management and practical strategies you can apply to effectively and efficiently track state NOLs. You’ll discover how to better manage NOL assets, including accurately predicting the burn-down of NOL assets as your company comes into profitable tax years.

This webinar will introduce BNA State Tax Analyzer with NOL Manager as a great tool that automatically computes the generation and utilization (carrybacks and carryforwards) of state NOLs across multiple years and multiple scenarios.

I hope you will join us.

are states knowingly enacting unconstitutional tax laws?

States balance their budgets each year and use the revenue they receive to run programs. When laws are ruled unconstitutional and refunds are required to be paid, it puts a state in a tough position. Sometimes states enact new retroactive legislation to mitigate or eliminate the amount of refunds that would have been required to be paid out under the reversal of an unconstitutional law. 

Note:  I wrote my thesis on this very topic as part of my masters in taxation degree several years ago. However, the issue remains alive and well today.

When a state enacts legislation that later is found to be unconstitutional, what is the appropriate remedy?

• Prospective relief only?
• Retroactive refunds for all taxpayers for all years still open under statute?
• Retroactive refunds for only those taxpayers that have filed protective refund claims?
• Or better yet, should states be allowed to change the unconstitutional legislation/statute in such a way as to make it constitutional? If yes, should states be allowed to make that change retroactive to limit the amount of refunds they will have to pay to taxpayers who paid the tax in prior years (or filed protective refund claims)?

The answers to these questions have been played out in several states over the years. Unfortunately, a state is usually allowed to enact retroactive legislation and reduce the economic pain of paying refunds. 

State Budgets + Political Pressure = Unconstitutional Taxes and Fees?

When states are concerned about their budgets and face political pressures, governors and legislatures often enact, knowingly or unknowingly, unconstitutional state taxes or fees. When states need new revenue (without "raising taxes” or political “fall-out"), certain fees or taxes become attractive alternatives. However, those alternatives may be unconstitutional.

It seems not only unfair, but perhaps “illegal,” for states to collect taxes by enacting laws later to be found unconstitutional, and then refuse to give the money back to taxpayers. A state should not be allowed to profit from collecting taxes it should not have been allowed to collect in the first place.

The Current Problem

Currently, states are knowingly enacting or attempting to enact potentially unconstitutional sales tax collection laws on remote sellers (see Alabama). States are trying to overturn or 'drive around' the Quill Corp. v. North Dakota decision that requires retailers to have a physical presence in a state before the state can require the retailer to collect sales tax on its in-state sales. States are forcing taxpayers to challenge these laws with the hopes the U.S. Supreme Court will accept a case and overturn Quill.

The U.S. Court of Appeals for the Tenth Circuit recently ruled in Direct Mktg. Ass'n v. Brohl (DMA) that Quill did not apply to Colorado's sales tax reporting requirement since Colorado's law was not requiring sales tax collection. Even though the DMA decision did not fall under the application of Quill, Quill was referred to throughout the case. Consequently, if the taxpayer appeals the case, states are hoping the U.S. Supreme Court will take the case and somehow use it to overturn Quill.

The attempt to overturn Quill by enacting laws that are obviously overreaching at best, unconstitutional at worst, puts taxpayers in a difficult predicament. The options are (1) compliance, (2) comply and challenge, or (3) explicitly refuse to comply and challenge the law in court. All of these options are a win for the state and a loss for the taxpayer.

Questions Remain

1. Will Congress enact the Marketplace Fairness Act?
2. Will the U.S. Supreme Court accept a case challenging Quill? If it does, will it overturn Quill or reinforce it?
3. Will the states continue to aggressively skirt Quill regardless of the action or inaction by Congress or the U.S. Supreme Court?

Stay tuned.

STATE NET OPERATING LOSS COMPLEXITY: DID YOU KNOW?

Did you know:

• a majority of states calculate state net operating losses (NOL) on a post-apportionment basis
• a handful of states calculate state NOLs on a pre-apportionment basis
• some states have no state NOL independent of the federal NOL, but may require adjustments to the federal NOL
• 29 States do not allow NOL carrybacks
• 3 States allow NOLs to be carried back 3 years
• 13 States allow NOL carrybacks to same extent as federal law or allows NOLs to be carried back 2 years
• Approximately 26 States allow NOLs to be carried forward 15 or 20 years
• 3 States allow NOLs to be carried forward 5 or 7 years
• 5 States allow NOLs to be carried forward 10 or 12 years
• 11 States allow NOLs to be carried forward to same extent as federal law 
• combined reporting and consolidated returns create tracking (by entity) issues due to NOL sharing limitations

Can you name the above states?

Which states cause you the greatest despair when it comes to net operating losses?

Does your company struggle with tracking and managing the utilization of net operating losses?

What's your greatest concern regarding state net operating losses - (1) utilization, (2) audits or (3) provision?

I have been conducting a great deal of research regarding state net operating losses during the past year, covering all of the nuances that create complexity. If your company has to deal with managing state net operating losses, I feel for you. Keep fighting. The struggle is real. Check out this article by Bloomberg BNA, "Leaping the Hurdles to Track State Net Operating Losses."

COMBINED REPORTING ON THE CLOCK IN NEW JERSEY

A bill (S 61) was introduced in the New Jersey Senate on January 12, 2016 that would require combined reporting of the corporation business tax by certain members of unitary business groups. 

According to the media, the version of the bill on New Jersey's legislature website is not accurate. The new version of the bill includes a water's-edge election and language regarding tax havens.

You may recall that a New Jersey think tank recommended New Jersey adopt combined reporting last year. The think tank estimated that New Jersey is losing out on $200 million per year to more than $400 million in tax revenue per year due to multistate corporations shifting profits out of state.

According to a New Jersey Senator, "by closing this loophole, we would end unfair -- and often unscrupulous -- tax avoidance on the part of multi-state (and in many cases multi-national) companies. In short, it's not a tax increase we're after, it's tax fairness."

The bill itself describes combined reporting as an "enhanced compliance tool." The bill also states:

"Most large businesses are structured as a family of corporations, commonly consisting of a “parent” corporation and its subsidiaries. Many corporate tax shelters depend on the relationship, or legal distance, among related corporations. Combined reporting, by effectively treating the parent and most or all of its subsidiaries as a single corporation for state income tax purposes. wipes out the intercorporate transactions that effectuate these shelters.

More than half of the states with corporate income taxes have adopted combined reporting. A major reason for states' growing interest is their recognition of how badly corporate tax shelters that exploit separate reporting are eroding state corporate income tax payments. Corporations have devised a wide variety of strategies to artificially shift profits to out-of-state subsidiaries to reduce their tax liabilities. Combined reporting largely squelches these strategies by enabling a state to tax a fair share of the profit that would otherwise be shifted into a related, out-of-state corporation.

New Jersey has been a leader in combating avoidance techniques by “traditional” means: case-by-case litigation of particular transactions and the development of anti-shelter legislation targeting classes of abusive inter-corporate arrangements. These traditional means are time consuming and labor intensive. Combined reporting, which eliminates most profit-shifting strategies, can be an important component of maintaining a fair and effective state corporate income tax."

State legislatures often use these arguments to persuade other members of the state government to enact combined reporting. However, these efforts can backfire and cause large corporations to leave the state (i.e., Connecticut combined reporting and General Electric).

INDIANA: THINKING ABOUT COMBINED REPORTING

The Indiana Senate introduced a bill (SB 323) on January 7, 2016 that would require taxpayers conducting a unitary business to file and pay adjusted gross income taxes on the combined income of the unitary group, effective January 1, 2017. 

However, the bill (SB 323) was amended on January 28, 2016 to study combined reporting instead of enact combined reporting. The amended bill requires the legislative services agency to:

1. study the combined reporting approach to apportioning income for income tax purposes; and
2. report the results of the study before October 1, 2016, to the legislative council and to the interim study committee on fiscal policy.

The bill also requires the interim study committee on fiscal policy to hold at least one public hearing at which the legislative services agency presents the results of the study.

As of today, the bill passed the Indiana Senate and has been referred to the House.

Rhode Island Re-Issues Proposed Combined Reporting Regulations

Rhode Island has re-issued (updated) proposed combined reporting regulations. A public hearing to consider the proposed regulation will be held on February 22, 2016 at 10:30 a.m. Eastern Time at the Rhode Island Division of Taxation, One Capitol Hill, Providence, Rhode Island.

Written or oral comments concerning the proposed regulations may be submitted to Michael F. Canole, Rhode Island Division of Taxation, One Capitol Hill, Providence, R.I. 02908 or via his telephone number (401) 574-8729 or e-mail: michael.canole@tax.ri.gov. by February 22, 2016. 

The following is a high-level summary (from the preamble of the proposed regulations). 

Staying the Same

The Division of Taxation has carried forward a number of elements of Regulation CT 11-15 into the new proposed regulations:  

For example:

• Definitions of certain key terms – including “combined group” and “common ownership” – remain the same or substantially the same as in the prior regulation.
• The basic approach to determining the composition of a combined group is largely the same.
• Water’s edge” treatment is mandatory.
• The basic approach to determining the unitary business remains the same – relying largely on tests set forth in certain U.S. Supreme Court cases.
• For Rhode Island combined reporting purposes, an affiliated group is still able to elect to use the same members that the affiliated group includes in filing its federal consolidated return.
• A tracing protocol applies to net operating losses (NOLs).
• A tracing protocol applies to tax credits.
• The combined group still must appoint a designated agent. The agent is required to act on behalf of the combined group in its own name in all matters related to the combined return.
• For a combined group filing on extension, the extended due date will be seven months after the normal filing deadline. Thus, for a combined group whose return is due March 15, the deadline will be October 15.

Differences

The proposed regulation differs from the pro forma regulation in a number of ways,
partly due to changes in statute.

For example:

• While “water’s edge” treatment continues to be mandatory, and the basic approach to determining the composition of a combined group is largely the same, the following regulation incorporates a definition of the term “tax haven” to reflect the definition in statute. As a result, certain corporations may or may not have to be included in the combined group.
• Under the regulation for pro forma combined reporting, corporations had to apportion income using two methods that are named for seminal California court cases: the Joyce and Finnigan methods. As the following regulation spells out, only the Finnigan method is now used for apportionment by entities that are treated as C corporations for federal income tax purposes.
• When the prior regulation was promulgated, three-factor apportionment applied, using sales (total receipts), property, and payroll. However, for tax years beginning on or after January 1, 2015, a single factor – sales (total receipts) – is used for apportionment purposes by entities that are treated as C corporations for federal income tax purposes, whether or not part of a combined group.
• When the prior regulation was promulgated, the sales factor forapportionment purposes was determined by C corporations using the cost-of-performance method. However, for tax years beginning on or after January 1, 2015, market-based sourcing is used by entities treated as C corporations for federal income tax purposes, whether or not part of a combined group, in place of the cost-of-performance method.
• For Rhode Island combined reporting purposes, an affiliated group of corporations uses the same members that the affiliated group includes in filing its federal consolidated return. However, effective for tax years beginning on or after January 1, 2015, once the election is made, it must continue for five years, including the year the election is made. (For purposes of pro forma combined reporting, the election was binding for two years.)
• The prior regulation asked affected taxpayers to calculate a deduction, related to their balance sheets, in accordance with Financial Accounting Standard 109 (FAS 109).  However, the deduction is not prescribed by statute for purposes of Rhode Island mandatory unitary combined reporting.
• When the prior regulation was promulgated, a corporation’s Rhode Island tax was the greater of the franchise tax or the corporate income tax, and the corporate income tax rate was nine percent (9%). For tax years beginning on or after January 1, 2015, the franchise tax is repealed and the corporate income tax rate is seven percent (7%).
• The following regulation clarifies that, for purposes of combined reporting, gross receipts include, among other things, gross income from intangible personal property as well as from the performance of services.
• The following regulation makes clear that “captive insurance companies” taxed under RIGL Chapter 27-43 should not be included in a combined return.

To view more details and follow the status of the regulations, go to Rhode Island's combined reporting web page.