DC Combined Reporting and the Real Estate Investment Industry: Unintended Consequences?

The District of Columbia's (DC) combined reporting regulations are creating confusion for taxpayers and the tax practitioner community, especially when applying them to the real estate investment industry.

Several items within the regulations don't make sense when applied to the real estate investment industry. 

The overriding issue is that DC, unlike other states, applies an entity level tax on pass-through entities (unincorporated businesses) and is attempting to apply corporate income tax rules to pass-through entities (unincorporated businesses).  Hence, the normal application of combined returns (i.e., nexus, unitary rules, apportionment, elimination of intercompany transactions) is not reflected in DC's combined regulations which is causing confusion or unintended consequences. 

Hopefully some clarification or changes will occur before next year's filing season.  However, companies with transactions may need to act before year-end (12/31/2012).

If your firm or company is dealing with these issues, please contact me to discuss.

See my earlier posts for more information.

Take Advantage of Multistate Tax Year-End Issues and Opportunities

If your company or clients are wondering what state and local tax issues and/or opportunities they may want to take advantage of prior to year-end, here is a brief list:

1. DC Combined Reporting Impact Review and Planning (priority for unincorporated businesses, groups with net operating losses, etc.) 
2. California MTC apportionment election protective refund claim opportunity 
3. California planning for 2013 Apportionment changes (mandatory single sales factor and market based sourcing)
4. Virginia apportionment review and planning (manufacturer single sales factor election option, retailers single sales factor requirement planning, establishing the right to apportion, etc.) 
5. Oregon MTC apportionment election protective refund claim opportunity 
6. New York MCTMT protective refund claim opportunity 
7. Texas franchise tax amended return / refund opportunity  
8. California income tax refund opportunity for limited partnership partners 
9. Louisiana franchise tax refund opportunity for limited partnership partners 
10. Tennessee – new intangible expense addback compliance requirements 
11. Rhode Island – pro forma combined reporting compliance requirement 
12. Alternative apportionment analysis and requests 
13. Retailers – refund opportunity and planning to claim a credit or deduction for sales taxes paid on uncollectible transactions from retailer-issued credit cards

 Please contact me to set-up a meeting or call to discuss how I can help you and/or your client take advantage of these opportunities.

What Are Your Year-End State and Local Tax Needs?

Would you like to know what state and local tax services your company or clients may need help with, especially at this time of year?

If so, I have provided a brief list of discussion topics or ideas that might apply to your clients:

1. Nexus and FIN 48: At this time of year, it is a good time for companies to address their nexus position in advance of their FIN 48 analysis and year-end. We may be able to restructure operations in advance of 2013. If your client utilizes telecommuting employees or independent contractors and hasn’t addressed their nexus position in a while, this may be a good time. In addition, states are becoming more aggressive in asserting economic nexus and imposing nexus on shareholders or partners in S corporations and partnerships.
2. Sales and Use Tax: It is also a good time to conduct a reverse sales tax audit to identify sales and use tax refund opportunities and potential exposure. If your client has started to sale items over the Internet, we should talk. If your client has purchased any software, SaaS or cloud computing recently, they may want to talk to confirm there is no sales or use tax exposure. We can also help companies improve their manual process of complying with sales and use tax, and if interested, help them choose a software solution for their sales tax compliance needs.
3. Income Tax: For your C corporation clients, we could perform a reverse income tax audit to identify state income/franchise and gross receipts tax refund opportunities and potential exposure. Combined reporting, apportionment, or business v. nonbusiness income determination issues or opportunities may exist. If your client has had a federal audit that results in an amended return, most states require that corresponding state return changes be filed within 60 to 90 days. Clients generally don’t have the time or resources to comply with this requirement. We can relieve clients of this burden by preparing the various state tax returns affected by the federal audit in time to meet the required deadlines. Another popular service has been state IRC Sec. 382 limitations on net operating losses and net operating losses utilization planning.
4. Income Tax: For your flow-through entity clients, we could perform a reverse income tax audit on your client’s major states, which may include Texas, Michigan, Washington, Pennsylvania, Illinois, Tennessee, etc. As with C corporation clients, combined reporting, apportionment, or business v. nonbusiness income determination issues or opportunities may exist as well for flow-through entity clients. We can also provide nonresident withholding, composite return filing analysis and guidance.
5. Credits and Incentives: If your clients are entering into new states, hiring / training new employees, building new facilities, etc. we can assist in identifying and capturing credit and incentive opportunities in any state.
6. Transaction Due Diligence: If your clients are entering into any acquisitions of other companies or assets, we can provide state and local tax due diligence services to mitigate potential exposure and plan for future operations.
7. Residency Issues: For individual tax clients that have changed their residency to another state or are considering such a change, we can provide guidance in regards to what records they need to maintain, etc. We can also provide audit defense when necessary.
8. Unclaimed property: If your clients have a material amount of uncashed payroll and accounts payable checks, customer overpayments, gift certificates, merchandise credits and accounts receivable balances, they may have unclaimed property exposure. Generally, all businesses are required to report and remit unclaimed property, also known as abandoned property. After a certain time period, a state may acquire such property that is abandoned or remains unclaimed or uncollected by its rightful owner. The rules in this area vary by state. We can review a client’s situation to identify and quantify exposure. As necessary, we can then assist them in complying with such requirements.

Is There a State Tax "Fiscal Cliff"?

Everywhere you look today (Internet, television, radio, etc.), everyone is talking about the "fiscal cliff" and how action must be taken quickly to prevent falling over the edge (into recession).

Regardless of what action or solution you think our country should take, we can probably all agree that action should occur.  My question is, how will this impact state and local governments? 

States have dealt with their own "fiscal cliffs" over the past few years.  However, unlike the federal government the states have had to balance their budgets each year - whether that meant raising taxes or cutting spending.  The states did what had to be done.  Now it is time for the federal government to respond. 

If the federal government makes tax law changes, what will the states do?  Will those changes negatively impact state government budgets causing the states to look at tax reform as well?  As the states have done over the past few years, will states be forced to increase taxes or cut spending?  If I had to guess, I would say that some states will create "real reform.'" Some states may increase taxes.  Some states may actually decrease taxes due to budget surpluses.

Like the saying goes, "the only constant is change and change is inevitable."  Hence, do as the Marines say, "Improvise. Adapt. Overcome."

How Virginia Based Companies Can Reduce Their State Income Tax Liability

Is your company apportioning 100% of its activities to Virginia because it isn't doing business in any other state?  In other words, is Virginia the only state return your company is filing, and the company's entire federal taxable income is treated as Virginia taxable income?

If so, your company may want to re-examine its activities in other states and foreign countries to determine if your company has the right to apportion its income and not use a 100% Virginia apportionment factor.

FOR COMPANIES OPERATING IN VIRGINIA AND OTHER STATES

Under VA Code Sec. 58.1-405, a corporation is presumed to be doing business entirely within VA if its business activities within another state are such that the other state does not have jurisdiction to impose a net income tax, a franchise tax measure by net income, or a privilege tax measured by net income.

The actual imposition of a tax is not required, just the jurisdiction to tax.  Hence, if your company has enough activity in another state where that state would have jurisdiction to impose a net income tax, a franchise tax measure by net income or a privilege tax measured by net income, your company may be able to reduce its Virginia apportionment factor resulting in less tax being paid.

FOR COMPANIES OPERATING ONLY IN VIRGINIA AND FOREIGN COUNTRIES

According to Virginia Ruling P.D. 12-142, August 29, 2012, Virginia Code Sec. 58.1-405 also includes foreign countries.   Hence, if your company has enough activity in a foreign country where that country would have jurisdiction to impose a net income tax, a franchise tax measure by net income or a privilege tax measured by net income, your company may be able to reduce its Virginia apportionment factor resulting in less tax being paid.

NO THROWBACK RULE PROVIDES VIRGINIA TAX BENEFIT

One additional benefit is that Virginia does NOT have a throwback rule.  Hence, if your company has nexus in another state or foreign country and has earned the right to apportion, then sales originating in Virginia but destined for other states or foreign countries may be excluded from the numerator of your company's Virginia sales factor. 

As always, you should review all of your facts and circumstances and consult a qualified state tax professional before taking any new tax return filing position.  The above is provided for information purposes only.