U.S. Tax Court Finds Refundable State Credits Result in Taxable Income

The United States Tax Court recently determined that certain refundable tax credits issued by New York in connection with economic development activities (EZ Credits) constituted taxable income to the recipients for federal tax purposes. Maines v. Comm’r, 144 T.C. No. 8 (Mar. 11, 2015). In reaching this determination, the Court noted that the characterization of certain of the EZ Credits as refundable taxes for New York purposes “is not necessarily controlling for federal tax purposes;” instead, the Court looked at the substance of the EZ Credits and determined that the credits were not actually a refund of previously paid state taxes, and, instead, the credits were a taxable accession to wealth since they were “just transfers from New York to the taxpayer—subsidies essentially.” The Court also considered one other refundable tax credit (the QEZE Credit), which was a credit against income tax liability for the amount of real property taxes paid, and determined that, while the amount of QEZE Credits refunded did not constitute a “taxable accession to wealth” as did the EZ Credits, the application of the tax benefit rule mandated that the refundable portion was subject to federal taxable income.

The taxpayers received the EZ Credits from New York for engaging in specific economic development activities in the state through their pass-through business entities. As the Court noted, New York labels the EZ Credits “credits” and treats them as refunds for “overpayments” of state income tax; the taxpayers in Maines received refunds of their state income tax based on their claim for the EZ Credits. Despite New York’s characterization of the EZ Credits, the Commissioner asserted that they were nothing more than cash subsidies, and thus should be treated as taxable income to the taxpayers. On the other hand, the taxpayers argued that New York’s label of the EZ Credits as overpayments was binding for purposes of federal law. The Court, noting President Lincoln’s famous quip that “if New York called a tail a leg, we’d have to conclude that a dog has five legs in New York as a matter of federal law. . . . Calling the tail a leg would not make it a leg,” agreed with the Commissioner, observing that federal law looks to the substance of legal interests created by state law, not to the labels the state affixes to those interests.

As for the QEZE Credit, the Tax Court agreed that it did not result in a taxable accession to wealth since it was really a refund of real property taxes that the taxpayer had paid to the state. However, the Court still determined that the refunded amounts would be taxable due to the tax benefit rule to the extent that a deduction had been claimed for the real property taxes paid. Under the tax benefit rule, to the extent a taxpayer obtains a refund of payments for which it received a tax benefit (such as a deduction), such refund should be taxable.

The Maines decision is one of the first Tax Court decisions to address the taxability of refundable state tax credits. After the issuance of this decision, taxpayers should analyze the effect that a refundable state tax credit will have on their federal taxable income. In making such an analysis, a taxpayer must pay careful attention to how the credit operates and not to the labels that a state uses. In addition, in determining the benefit of any potential state tax credit, taxpayers should consider the result of this decision and determine whether they lose some of the anticipated benefit they were expecting.

Tax News Flash: CA Competes Tax Credit

The California Competes Tax Credit is an income or franchise tax credit available to businesses that come to California or stay and grow in California.

Applications for the California Competes Tax Credit will be accepted at calcompetes.ca.gov from March 9, 2015, until April 6, 2015.

Go to business.ca.gov for more information on the California Competes Tax Credit.

Colorado Department of Revenue Update System Enhancements Implemented for 2014 Return Processing

The Colorado Department of Revenue (CDOR) has made the following system enhancements for the 2014 tax return processing season, as a result of discussion with COCPA members who participate on the COCPA/CDOR Joint Task Force.

New Reduced Refund/Carry-Forward Letter – This new letter will be sent when refunds or carry-forwards claimed on a return are reduced because of a penalty assessment for under payment of estimated tax during the year. The letter will show the penalty amount and the resulting net refund or carry-forward amount.

Enhanced Deceased Spouse Credit Transfer – This enhancement automates the available credit transfer in deceased spouse situations when the surviving spouse was not listed as the primary tax filer the prior year. The system will automatically transfer claimed credits for which it finds a match between the two accounts if the deceased check box is selected on the return.

New POA Correspondence Functionality – The system will automatically send the following letters to the POA on-file for the periods covered by the POA. This will be the new default for the system, but the POA or taxpayer can opt-out of this functionality by calling the CDOR call center (NOD, NOFD, Return Adjustment, Inquiry, Inquiry Resolution, Protest Resolution).

Enhanced Estimated Payments Letter – The Estimated Payments Inquiry Letter will show the date and amount of estimated payments on file with the Department. This letter generates when the taxpayer is claiming more estimated payments than are on the account.

Remember, as a Colorado Society of CPAs member, you can request assistance with particularly difficult client issues involving the CDOR by emailing the following information to COCPA CEO Mary E. Medley. Medley will forward your email and attachment(s) to the COCPA’s contact in the Department for assistance.
Taxpayer Name(s)

Colorado Account Number(s) or last four digits of the SSN(s)

Brief summary of the issue(s)

Whether you have a Power of Attorney on file – If yes, the CDOR will contact you to resolve the issue. If no, the CDOR will contact you to let you know a representative will contact your client directly.

Attached recent notice in pdf format, redacted, if you wish, to preserve client(s) confidentiality

February 2015 State Tax Credit and Incentive Update

Recent Announcements of Credit/Incentives Packages for;
Arizona and California

States’ Evaluation and Review of Credit and Incentive Programs for;
Maryland, New York and New York City

Legislative, Regulative and Gubernatorial Update for;
Illinois and Michigan

Case Law Update;
European Union v. Washington

Click here for more details: http://www.hmblaw.com/3447.aspx#.VQDlhE102Hp

More than Half of all Private Sector Workers are Employed by Pass-through Businesses

By Kyle Pomerleau, Richard Borean .

This week’s tax map comes from a report we released this morning and takes a look at the amount of private sector employment that comes from pass-through businesses.

Sole proprietorships, S corporations, limited liability companies (LLCs), and partnerships are also known as pass-through businesses. These entities are called pass-throughs, because the profits of these firms are passed directly through the business to the owners and are taxed on the owners’ individual income tax returns.

This is in contrast with traditional C corporations, which pay tax at the entity level through the corporate income tax. Their owners (shareholders) then pay tax on this income again when they receive a dividend or sell their stock and realize a capital gain.

Today, Pass-through businesses pay a significant role in the United States Economy. They account for 95 percent of all businesses and more than 60 percent of all business income.

Even more, pass-through businesses account for 55.2 percent of all private sector employment. This represents 65.7 million workers who are employed at or self-employed as pass-through businesses.

The prevalence of pass-through employment varies among U.S. states. According to 2011 Census Bureau data, pass-through businesses accounted more than 60 percent of business employment in eight states: Idaho (64 percent), Maine (62.4 percent), Montana (67.9 percent), North Dakota (60.5 percent), Rhode Island (60.6 percent), South Dakota (64.7 percent), Vermont (63.1 percent), and Wyoming (61.8 percent).

In contrast, Delaware (49.5 percent) and Hawaii (48 percent) had pass-through employment as a share of total private sector employment of less than 50 percent.

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Read more about pass-through businesses here. http://taxfoundation.org/article/overview-pass-through-businesses-united-states

Arizona’s 2015 TPT Amendments Have 99 Problems, but Origin Sourcing ain’t One

By Stephen P. Kranz, Diann Smith, Mark Yopp and Lauren A. Ferrante on January 29, 2015

Actually, there are really only two issues, but they are big issues.
Arizona’s Transaction Privilege Tax has always been an anomaly in the traditional state sales tax system. Contrary to some commentators, however, the recent amendments do not, and could not, impose an origin tax on Arizona retailers for remote sales delivered out-of-state. That is not to say that these amendments are benign. Oddly, the amendments provide incentives for Arizona residents shipping items out-of-state to purchase these items over the internet rather than visit Arizona retailers in person. Furthermore, these amendments create complexities for Arizona vendors shipping to foreign jurisdictions. Finally, these amendments create additional administrative problems for retailers that are difficult to address with existing software and invite double taxation problems that should not exist in a transaction tax world.

Background: Arizona Transaction Privilege and Use Tax
For retail sales, Arizona, like most states, has two complementary transaction-based taxes, but each tax is imposed on a different entity. The first tax, the Transaction Privilege Tax (TPT), is imposed directly on the retailer. Ariz. Rev. Stat. § 42-5001.13. A retailer will be subject to the TPT on the gross proceeds from a sale if “the location where the sale is made” is Arizona. Ariz. Rev. Stat. § 42-5034.A.9. A retailer subject to the TPT is allowed but not required to collect the amount of TPT it owes from its customers. Ariz. Admin. Code §§ 15-5-2002, 15-5-2210.

Click the link to continue reading: http://www.lexology.com/library/detail.aspx?g=12ec9044-1026-4012-bdcb-567d50fb347c

A Dash of SALT

The March 2015 edition of A Dash of SALT summarizes the taxation of contractors under the amendment to Arizona’s sales tax reform laws that Governor Ducey signed on February 24, 2015. Contractors and material suppliers, as well as the individuals and businesses who hire them, need to understand these new rules and how they apply to them.

https://www.ascpa.com/writable/uploaded_files/a_dash_of_salt_-_special_edition_-_march_2015.pdf