December Anti-Slumber: NYS Corporate Tax Changes and Resultant Action Items

December has arrived, and that means two things: year-end parties and year-end tax planning.

As you are likely aware, New York State passed sweeping Corporate Income Tax Reforms .  As many of these changes are effective January 1, 2015, it is worth revisiting the major changes, and whether they require immediate action.

1. Sourcing of New York Receipts from Services.  Starting in 2015 New York has adopted a market based “destination” sourcing method for receipts from services.  This is a significant change from the prior cost-of-performance method.  As a result, customer location will determine whether receipts from services are attributable to New York.  Previously, New York excluded gains from the sale of capital assets (i.e., property not held for sale in the regular course of business).  This is no longer the case.    
   • Action Item: For state apportionment purposes, corporations will need to start tracking their receipts from services based on a market sourcing approach, and evaluate the impact this change may have on its tax liabilities, as well as the related financial statement impact.
    
2. Net Operating Losses (NOLs).  Previously, NOLs were limited to the federal NOL and computed on a pre-apportionment basis.  NOLs are now computed on a post-apportionment basis and are no longer limited to the federal NOL.  NOLs may now be carried forward for 20 years and carried back for 3 years.     Pre-2015 NOLs may still be carried forward but are calculated based upon transition rules providing for a “prior NOL conversion” (PNOLC) subtraction pool.  In effect, the PNOLC subtraction pool converts pre-apportioned NOLs incurred in years before 2015 to post-apportioned NOLs that are calculated at a 6.5% rate.  Any unused conversion subtraction may be carried forward through the 2035 tax year.  Alternatively, the law permits taxpayers to make a one-time election on a timely filed return for the tax year beginning on or after January 1, 2015, but before January 1, 2016 (the 2015 year for calendar year filers), to deduct 50% of the conversion subtraction pool over a two-year period.   However, if this election is made, any unused amounts are lost after the two-year period.
   • Action Item:  Assuming there are NOL carry forwards from prior years, these changes will require the corporation to determine the “prior NOL conversion” subtraction pool, which entities are included in the combined group for the “prior NOL conversion” subtraction pool, and the potential benefit of selecting the one-time election.
    
3. Economic Nexus and Subjection to the New York Corporate Franchise Tax.    Previously, most taxpayers were only subject to the Corporate Franchise Tax if they had a physical presence in New York, with an exemption for companies whose only New York presence was a fulfilment center to store and ship inventory.  Starting in 2015, this exemption is eliminated and the Franchise Tax base will expand to include any corporation with more than $1 million in New York sourced gross receipts.  A corporate partner in a partnership operating in New York will also be subject to the Franchise Tax.
   • Action Item: This provision, coupled with the new sourcing rules for services outlined above, may subject many more services companies based outside of New York to New York taxation.  Thus, additional nexus analysis may be necessary if the service is performed in another state, and if the customer that benefits from the service is located in New York.  Further, non-service companies should also closely track their levels of New York sales if they are close to this threshold.
    
4. Combined Reporting.  Under the new law, the rules for determining when related companies should file separate or combined tax returns have once again changed significantly.  Combined reporting is mandatory for unitary businesses where one taxpayer owns or controls more than 50% of the voting stock of one or more corporations.  This brings New York in line with the majority of other states and is designed to reduce controversy.  Additionally, taxpayers may choose to make an irrevocable, 7-year election to include all corporations meeting a more-than-50 % ownership test, including non-U.S. corporations with a permanent establishment in the U.S. or income that is effectively connected with the U.S.  This election should be carefully examined from a tax-planning perspective.
   • Action Item: In addition to reviewing their unitary relationships, corporations should carefully examine the advantages and disadvantages of the 7‐year election. Corporations should also address the inclusion of alien corporations. In many instances, the combined group will change.
    
5. Other Changes.  For tax years beginning on or after January 1, 2016, the corporate net income tax rate will be reduced from 7.1 to 6.5% for most corporate taxpayers.  Small businesses can begin utilizing the 6.5% reduction in the 2014 tax year.  The new budget also, eliminates the Alternative Minimum Tax base, eliminates the deduction for income from subsidiary capital and creates new tax credits for certain industries.  Finally, “Qualified New York Manufacturers” are subject to a -0-% Business Income Tax rate.
   • Action Item: Companies should review their classification to ascertain whether they qualify as a New York Manufacturer, a Qualified Emerging Technology Company, or a Small Business.  They should also review the potential financial statement impact on items such as their deferred tax assets.