Navigating 10,000 Sales Tax Jurisdictions

The number of sales tax jurisdictions in the United States has risen to 9,998 –up 300 from 2011. The table below breaks out the number of sales tax jurisdictions by state:

Total Sales Tax Jurisdictions, 2014
Alabama 791
Alaska 103
Arizona 131
Arkansas 370
California 231
Colorado 307
Connecticut 1
District of Columbia 1
Florida 56
Georgia 162
Guam 1
Hawaii 2
Idaho 9
Illinois 443
Indiana 1
Iowa 994
Kansas 428
Kentucky 1
Louisiana 341
Maine 1
Maryland 1
Massachusetts 1
Michigan 1
Minnesota 35
Mississippi 3
Missouri 1242
Nebraska 209
Nevada 18
New Jersey 2
New Mexico 142
New York 84
North Carolina 105
North Dakota 137
Ohio 96
Oklahoma 587
Pennsylvania 3
Puerto Rico 79
Rhode Island 1
South Carolina 41
South Dakota 251
Tennessee 125
Texas 1515
Utah 310
Vermont 12
Virginia 174
Washington 346
West Virginia 11
Wisconsin 70
Wyoming 23

TOTALS 9998
Source: Vertex, Inc.
Despite simplification efforts on both the state and federal level, it would appear that the complexity of navigating sales tax in the United States has risen.

The Marketplace Fairness Act (MFA), a piece of legislation that would give states the authority to require remote sellers to collect and remit sales tax, overwhelmingly passed the Senate last year. Although it has been held up in the House of Representatives, pressure from numerous supporters is indicative that it, or future legislation, will eventually pass both houses. The MFA includes a provision that stipulates that certain simplifications must be made to a state’s tax code in order for states to qualify to collect online sales tax.

According to the Tax Foundation, an independent non-partisan tax research think-tank, in an attempt to convince Congress to allow jurisdictions to collect sales tax on interstate internet transactions, states have made the claim that they have simplified their sales tax systems. The Tax Foundation asserts that, while the number of jurisdictions within a state isn’t everything, “no matter how it’s measured, states haven’t yet fulfilled their promises to simplify their sales taxes.” Still, the likelihood that businesses will soon have collection liability on internet sales is becoming a more plausible reality as the MFA continues to gain traction.

Increased Payroll Scrutiny

The frequency of payroll audits has surged over the last five years and businesses are facing increased payroll scrutiny.

Most payroll audits have traditionally focused on whether or not a business is misclassifying an employee as an independent contractor, thus avoiding Social Security, Medicare and other payroll taxes. According to an article published last March by the Wall Street Journal entitled Payroll Audits Put Employers on Edge, “local businesses misclassify anywhere from 10% to more than 60% of their workers as independent contractors.”

Since the 2008 economic meltdown states have been springing into action to audit payroll taxes as a way to increase revenue. States are assessing hefty fines for misclassification. For example, Colorado passed House Bill 1301, which allows the Colorado Department of Labor and Employment to fine a business up to $5,000 for the first misclassification offense and up to $25,000 for subsequent offenses (Payroll audits increase as government seeks added revenue, Heather Draper, Denver Business Journal).

The increase in payroll audits has also been intensified by the Federal government. The U.S. Department of Labor has issued partnership agreements with California, Connecticut, Hawaii, Illinois, Iowa, Louisiana, Maryland, Massachusetts, Minnesota, Missouri, Montana, Utah and Washington to collaboratively investigate more than 6,000 employers for misclassifying employees. The U.S. Treasury estimates that if all employers were forced to properly classify employees it would result in $8.71 billion in added federal tax revenue over the next decade.

If an employer is misclassifying employees then they can take advantage of a voluntary disclosure program. The IRS is offering a Voluntary Clarification Settlement Program (VCSP) that allows employers to reclassify employees while minimizing look back, and waiving penalties and interest. Similar agreements may be negotiated at the state level.

California Franchise Tax Board Ponders New Federal Income Tax Changes

The California FTB has released a document summarizing how the new federal tax laws correspond to California law. It also details whether or not the new laws will have any effect on California’s revenue.

Read the report:

Summary of Federal Income Tax Changes 2013

SALT Issues Created by the Final Tangible Property Repair Regulations

On January 1, an additional degree of uncertainty was introduced to the area of state income taxation. Recently, the Internal Revenue Service issued final regulations on the treatment of repairs to tangible property. The rules in these regulations are collectively referred to as the “Repair Regulations,” and they clarified and added new provisions to the previous federal rules dictating the capitalization of certain repairs made to tangible property.

In typical fashion following an announcement of a substantial federal tax law change, the states are pondering the effects and have yet to issue guidance. As such, the impact of the Repair Regulations on state income taxes is still uncertain, but is bound to create another layer of complexity to tax compliance.

From a state income tax perspective, the Repair Regulations are likely to create timing differences between federal and state taxable income. In the coming months, we anticipate guidance from the states to trickle in. But until we hear otherwise, we can only surmise the treatment based on a state’s adoption, or lack thereof, of the Internal Revenue Code (IRC).

Flavors of Federal Conformity

Generally speaking, states piggyback off of federal taxable income (either before special deductions like net operating losses or after such deductions) and then make modifications to that figure. Some of these modifications are dependent upon how the state incorporates the IRC into its tax regime. States will either:

  • Adopt the IRC on a rolling basis (“Rolling Conformity”)
  • Adopt the IRC as of a fixed date (“Fixed-Date Conformity”)
  • Pick and choose provisions of the IRC that suit the needs of their taxing regime (“Hybrid”)

Setting aside those Hybrid states—which are the minority of states—most of the Rolling and Fixed-Date Conformity states decouple from IRC provisions that they don’t like. States tend to dislike provisions that accelerate deductions, and as such, we suspect add-back provisions targeting the Repair Regulations are on the horizon.

If you’re thinking that a Rolling Conformity state is going to automatically follow the federal treatment prescribed in the Repair Regulations, think again. As previously mentioned, decoupling from certain federal provisions throws a wrench in what might otherwise be a fairly easy evaluation of state tax treatment. Let’s look at some examples of how Rolling and Fixed Date Conformity states have historically handled bonus depreciation in hopes of drawing a baseline for their yet undecided handling of the Repair Regulations:

Rolling Conformity: State such as Colorado, North Dakota, and Utah adopt the IRC on a rolling basis and do not decouple from the federal bonus depreciation provisions. But then there are the states with Rolling Conformity such as District of Columbia, New York, and Rhode Island that specifically decouple from federal bonus depreciation provision.

Fixed-Date Conformity: These states are all over the board when it comes to when and what provisions of the IRC they adopt. For instance, California adopts the IRC as of a fixed date, yet decouples from the federal bonus depreciation provisions.

What’s the take away? Don’t assume Repair Regulation conformity based solely on Rolling and Fixed-Date Conformity. Take the additional step to see if the state(s) have historically decoupled from federal provisions that provided for accelerated deductions.

Basis Discrepancies

The Repair Regulations contain substantial changes regarding the capitalization of certain repairs made to tangible property, which may create discrepancies in the adjusted basis of certain items of tangible property for federal purposes, which could then be compounded at the state level. States that do not implement the Repair Regulations could create a situation where the adjusted state basis of the property is different than the adjusted federal basis.

A couple of examples where a state may choose to depart from the Repair Regulations are with the partial disposition deduction and the de minimis election. The Repair Regulations allow taxpayers to elect to deduct the net book value of a portion of an asset in certain circumstances. If a state chooses not to adopt this it would create a basis difference in an asset for federal and state purposes. Another example is the de minimis election where taxpayers may substitute a higher capitalization threshold used on their financial statements instead of the tax threshold. If a state chooses not to adopt this provision it would capitalize items as fixed assets where the federal rules allow for immediate expensing.

IRC Section 481(a) Adjustment

The Repair Regulations will inevitably lead to accounting method changes, which calls IRC Section 481(a) into play. When Section 481(a) is applied, a taxpayer must determine income for the taxable year preceding the year of change under the old method and income for the year of change and subsequent years under the new method—as if the new method had always been used. What does this mean for state income tax? It means that you’re going to pick up income or loss relating to prior years in the current year and have to decide how to apportion it. The question becomes, does it make sense to apply the current year apportionment factor to income or loss that’s related to the prior year(s)? Unfortunately, this is an undeveloped area of state taxation with little guidance. Taxpayers should consider alternative apportionment when a Section 481(a) adjustment results in a distortion of state tax liability.

It is uncertain how states will treat the new Repair Regulations, but it could create even more complexity in the way state taxes are reported. If you have questions or want additional information, please contact your Eide Bailly service provider or Kathleen Clark or John Worden in Eide Bailly’s SALT group with questions or for additional information.

MFA 2014

The backers of the Marketplace Fairness Act (MFA) are apparently planning on re-doubling their efforts to pass the legislation. According to an article from Internetretailer.com, a letter In support of the MFA, written to U.S. Rep. Robert Goodlatte (R, VA), lists “more than 300 signatories, including 174 trade associations and dozens of retailers among 137 individual companies.” The MFA would allow states to require remote sellers to collect sales tax on items that were sold within the state.

Read More:
Backers renew their push for online sales tax legislation

Same Sex Tax Guidence

The Tax Foundation has come out with a comprehensive summary on state guidance for same-sex couples  who are filing joint federal tax returns for 2013.
The summary can be found here:

States Provide Income Tax Filing Guidance to Same-Sex Couples

State and Local Tax Deduction Targeted

This article from Reuters explains why the chairman of the Ways and Means Committee, Dave Camp, is targeting the state and local tax deduction in his attempts to re-write the federal tax code:

http://www.reuters.com/article/2013/09/20/us-usa-tax-state-idUSBRE98J0HT20130920