Tax Legislation: Are We Asking The Right Questions?

State tax developments are everywhere. They happen daily. The question is - are we just reporting them or are we challenging them?

This legislative season has seen crazy proposals to raise revenue, balance budgets - all influenced by political pressures and confusion. We have policy organizations submitting reports and studies asserting that certain proposals are ridiculous or would either be unfair or detrimental to the state and specific taxpayers. This complexity not only applies to state tax legislatures, but also the federal government - as we know. The problem is that states generally have to balance their budgets every year to operate (although apparently that doesn't apply to Illinois).

One thing I noticed is that state legislative sessions are focused on raising revenue. Always asking what can or should be taxed? What new forms of business do we need to tax? What tax revenue are we missing out on?

I think those are the wrong questions. The questions we should be asking are:

• What services should the state or federal government provide?
• To what extent ($$) should the government provide those services?
• How do we prioritize those services?
• What is the cost/benefit of providing those services?
• At what point does the provision of those services cause detriment to citizens and our economy? 
• What oversight will each service have to avoid waste and efficient use of taxpayer dollars?

We don't always need more revenue. We need to rethink and revamp the purpose of government. Our governments should be lean and efficient. They should provide us with what we need most - not more or less. It's not about tax revenue, it's about efficient government. It's about the health and wealth of our country - financially, physically and spiritually. 

If we never ask the right questions, we won't get the right answers.

STATES are living in 'VIRTUAL REALITY,' are YOU?

The states are living in virtual reality. They want out-of-state companies who don't have a physical presence in the state to pay income tax, and collect sales tax.

You may know about all of the talk to enact federal legislation to require remote sellers to collect sales tax when they don't have a physical presence. You may even know about the legislation some states have enacted to require remote sellers to collect sales tax based on having 'economic nexus.'

ECONOMIC NEXUS: Economic nexus is simply having customers in a state and deriving income or sales from those customers. Economic nexus does not require the seller to have a physical presence in the state.

Before states started using economic nexus to require out-of-state companies to collect sales tax, some states enacted economic nexus legislation to require out-of-states companies to pay income tax. In addition to economic nexus, many states have adopted market-based sourcing for apportionment purposes.

APPORTIONMENT: Every company that operates in multiple states has an apportionment factor. The apportionment factor is used to determine the portion of the company's tax base that should be taxed by a state. Historically, the apportionment factor was based on a ratio of the company's in-state property/payroll/sales over the company's everywhere property/payroll/sales. Most states now use an apportionment factor solely based on sales. The property and payroll factor have become less important.

Now, back to market-based sourcing. Market-based sourcing applies to the sales of services and intangibles. It simply says that for apportionment purposes, a service provider's sales are sourced to where the customers are located. 

This leads to why it is important to know where a company's customers are located versus where the company is located for both nexus and apportionment purposes. A service company or any company that sells over the internet could have economic nexus and customers in multiple states creating a large tax liability, possibly over multiple years.

Personally, I think economic nexus and market-based sourcing should not be allowed. I think states need to stop living in virtual reality and live in the physical realm. 

Regardless, if you are a service provider or Internet retailer, please review your situation to reduce the likelihood of having a large tax assessment fall on your doorstep. Virtual reality could simply become reality.

Why Corporations Don't File State Tax Private Letter Rulings

• Taxpayers must disclose their identify before obtaining an answer from the state.
• Facts may not be accurate, or disputed later, making the answer invalid.
• Ruling may be revoked at any time.
• Timing of the proposed and prospective transaction with obtaining an answer from the state.
• Rulings are binding unless the facts are not accurate.
• Unsure as to how deep of an analysis of the law the corporation is required to provide.
• The length of time to obtain a ruling.

Why would you request a private letter ruling?

• To avoid receiving an assessment for additional tax, interest and penalties in the future

How do you file a private letter ruling?

• get your facts straight
• do it timely

Any questions?

Middle Market Companies Fight State Tax Surprises

As a CFO, controller or finance executive in a middle market company, you have a wide range of responsibilities to manage.  State and local tax matters can pop up when you least expect it and cause compliance and financial burdens.

Some of those state tax surprises could be (regardless of industry):

1. State tax registration requirements - when should you register?  If you register, will that create tax filing obligations?  When can you withdraw your registration?
2. State income tax apportionment - when can your company allocate income instead of apportion income?
3. Sales taxability of digital goods, licenses, subscriptions, computer hardware, software, cloud computing, etc.
4. Sales tax audits and appeals
5. Choosing sales tax codes for your sales and purchases to correctly utilize your sales tax compliance/decision software with your ERP system
6. Knowing when your company has a filing obligation in a state
7. Filing Voluntary Disclosure Agreements to mitigate prior year tax exposure
8. Determining sales tax consequences of "bundled transactions" or "mixed transactions" (transactions that include taxable items with non-taxable items)
9. Determining sales and use tax consequences for entities that conduct transactions with governmental entities.  When does the exemption apply?  What does the exemption apply to? 
10. If my company is a service provider, is my company paying use tax on purchases?

Several of my clients have had these issues recently.  Do any of the above items sound familiar to you?  

Current State Tax Amnesty Programs

In case you missed what states have amnesty programs going on currently, I thought I would send you a link to COST's (Council on State Taxation) quick summary.

Amnesty can be a great tool for states and taxpayers, but sometimes a voluntary disclosure agreement is a better option.

What is an Amnesty Program?

An amnesty program is generally a time period established by a state to allow taxpayers who are delinquent on their taxes to come forward, and pay those taxes without penalties being imposed. Usually interest is still imposed, but sometimes it may be waived as well. Each state amnesty program is different or unique; meaning, they each contain their own set of rules, guidelines and qualifications. Amnesty programs usually pertain to certain tax periods, specific tax types, and taxpayers who meet certain criteria. In other words, "look before you leap."

Taxpayers who are eligible for an amnesty program, but don’t take advantage of the program, are often faced with harsh penalties if caught after the program has ended.

Voluntary Disclosure Agreements

When amnesty programs are not in effect, most states still have what they call “Voluntary Disclosure Agreement” (VDA) programs which allow taxpayers to come forward on an anonymous basis, limit the number of prior years required to be filed (usually 4), and pay taxes and interest. Under most VDA programs, penalties are waived, but not interest.

Remember, a voluntary disclosure agreement is only able to be utilized if the state has not already contacted the taxpayer (in most cases). If the state contacts the taxpayer first, technically, the state can make the taxpayer file returns for all previous years in which the company had nexus in the state. However, generally, the state does not require returns to be filed for all previous years. The number of years a state will require depends on the facts of each case. In addition, unlike a voluntary disclosure, there is no relief for interest and penalties.

State Taxes and The Compound Effect: Ticking Time-Bomb or Nest-Egg?

Some things change and some things remain the same.  Unfortunately, a lot of the time, the things we want to change, remain the same (and vice versa).  Hence, what can we do about it?  How can we change something, improve, and get the results we desire?  

I read a book a few years ago that I want to encourage you to read as well.  It is called, "The Compound Effect" by Darren Hardy.  It is a great book about how small actions, small differences in behavior or small changes can make a big difference over time.  

I'm sure most of us are aware of the compound effect when it comes to money, i.e., the earlier you start investing in your 401k, the bigger the "pot" in the future.  Well, the same principle applies to any area of your life that you want to change, whether it is relationships, your fitness level, finances, career, etc.  

Small changes made today and every day (completed with consistency) will produce big results at some point in the future.  Consistency is the key.  Hence, you have to have the perseverance and discipline to stick with the small change you are making on a daily basis so you see the result in the future.  The biggest reason people don't get the results they desire is because they give up too soon.  

How does this apply to state and local taxes?  Well, small errors, or areas of neglect (such as nexus, apportionment, inter-company expenses, etc.) can add up over time.  If no action is taken, an audit, a nexus questionnaire, etc. can arrive at your doorstep and the liability can be much greater than if action had been taken years earlier.  

On the flip-side, if action is taken today (i.e., restructuring, voluntary disclosure agreements, planning, etc.) cash tax savings can be achieved not only for one tax year, but on an annual basis creating additional funds (or "nest-egg") to be used in your business.

The compound effect is a great principle.  Just make sure that it is producing a "positive" effect for you and your business, instead of a "ticking time-bomb."

I leave you with this question from the book, "The Compound Effect:"  

"If you were given a choice between taking $3 million in cash this very instant and a single penny that doubles in value every day for 31 days, which would you choose?"