Market Based Sourcing for Services

State Tax Trends – Part II

Market Based Sourcing for Services

 

Many states have recently been trending to changing corporate tax laws to shift the tax burden to out of state businesses in an attempt to attract corporations to open locations in the state and therefore create jobs.  States are accomplishing this shift in tax burden in a number of ways including adjusting the formula they use to allocate and apportion income, updating their income sourcing rules and providing tax credits and other incentives to in-state businesses.  We will explore some of these common law changes in a three part series continuing with our discussion on market based souring for sales of services.

 

Most states have historically sourced sales for services based on where the services were actually performed.  This can result in a service corporation having a significant amount of their sales allocated to the state where the corporation’s main offices are located.  For example, under this approach a New Jersey corporation which provides services in NJ for a New York customer would treat those sales as taxable in New Jersey.

 

In order to become more tax friendly to in-state corporations, many states including New York and Pennsylvania have now changed to sourcing corporate sales of services to the state where the customer will benefit from the service.  New Jersey, however, continues to utilize the performance based method.  To go back to the earlier example, the sale by the NJ corporation would continue the be subject tax in NJ since that is where the work is performed but would now also be subject to tax in NY as the customer will benefit from the service in NY.  This difference between New Jersey and New York’s tax law effectively creates double tax on the sale.  Now let’s change the example to a New York corporation performing services in NY for a New Jersey customer.  Under this scenario neither state would tax the sale since the services are performed outside of New Jersey and the benefit from the services is received outside of New York.  As these examples illustrate, market based sourcing rules can provide a great advantage to an in-state company by only taxing sales to in-state customers rather than souring based on where the services are performed.

 

Len Nitti, CPA, MST

Principal

Wilkin & Guttenplan, PC

1200 Tices Lane

East Brunswick, NJ 08816

(732) 846-3000

lnitti@wgcpas.com

 

2016 Standard Mileage Rates

2016 Standard Mileage Rates for Business, Medical and Moving Announced

 

The IRS has released the 2016 optional standard mileage rates to be used by taxpayers to compute deductible costs of operating an automobile for business, medical, moving and charitable purposes. These rates, which are effective January 1, 2016, reflect the recent decrease in the cost of gas.

 

Business Mileage Rate

The standard mileage rate for business mileage will be 54 cents per mile, decreased by three and a half cents from the 2015 rate.

 

Medical and Moving Mileage Rate

The standard mileage rate for medical and moving expenses will be 19 cents per mile, decreased by four cents from the 2015 rate.

 

Charitable Mileage Rate

The standard mileage rate for charitable purposes remains at 14 cents.

 

The use of these optional mileage rates are subject to specific rules issued by the IRS.

 

Len Nitti, CPA, MST

Principal

Wilkin & Guttenplan, PC

1200 Tices Lane

East Brunswick, NJ 08816

(732) 846-3000

lnitti@wgcpas.com

 

State Tax Trends – Part I

Single Sales Factor

Many states have recently been trending to changing corporate tax laws to shift the tax burden to out of state businesses in an attempt to attract corporations to open locations in the state and therefore create jobs.  States are accomplishing this shift in tax burden in a number of ways including adjusting the formula they use to allocate and apportion income, updating their income sourcing rules and providing tax credits and other incentives to in-state businesses.  We will explore some of these common law changes in a three part series beginning with our discussion on the single sales factor allocation.

Each year corporations must determine how much of their income will be subject to tax in each state based on each state’s allocation and apportionment formula.  Historically, most states have utilized a three factor approach to determine how much net income of a corporation would be subject to tax in the state.  This approach focused on the percentage of the business sales to customers in the state, the percentage of payroll paid to in-state employees, and the percentage of fixed assets (real estate owned or rented, equipment, furniture, etc) located in the state.  This method of allocating income results in more tax being paid by in-state corporations since they would have significant payroll and property factors due to their in-state location.  For example, under this allocation approach a corporation which has all of their property and payroll in the same state will automatically be subject to tax on two-thirds of their income even if they do not have a single sale to the customers in the state due to the 100% payroll and property factors.  Conversely, a corporation with no property or payroll in the same state but has sold all of its products to customers in the state would only be subject to tax on 33% of their income since their in-state payroll and property factors are zero percent.

Many states including New Jersey and New York have shifted to a single sales factor formula to remove the unfavorable payroll and property factors for resident companies.  This approach is designed to more accurately reflect the taxpayer’s economic income earned in each state as it only measures the volume of sales conducted in the state.  Additionally, by only measuring sales, the states changing to the single factor approach become a more attractive place to open a location compared to a neighboring state which may still utilize the historic three factor approach due to the potential state tax savings that can be achieved.

Len Nitti, CPA, MST

Principal

Wilkin & Guttenplan, PC

1200 Tices Lane

East Brunswick, NJ 08816

(732) 846-3000

lnitti@wgcpas.com

Tax Benefits: Home Mortgage Interest Deduction for Unmarried Couples

The Ninth U.S. Circuit Court of Appeals recently ruled that unmarried individuals who purchased a home together are eligible to a home mortgage interest deduction for up to $1.1 million in debt each.

A new post Tax Benefits: Home Mortgage Interest Deduction for Unmarried Couples – http://taxtrustestatenews.com/tax-benefits-home-mortgage-interest-deduction-for-unmarried-couples/ has been published on September 23, 2015 at 11:22 am.

The New Internal Revenue Repair Regulations

The New Internal Revenue Repair Regulations

Effective January 1, 2014 the IRS issued final regulations that completely revamped the way a business must evaluate certain expenditures in order to determine whether the costs represent immediately deductible repair expenses or capital improvements that must be depreciated over time. In addition new guidance was issued on when a business may deduct material and supplies.

There are different types of material and supplies, and it is the nature of the item that drives when it may be deducted under the new regulations .In the first category, we have “incidental material supplies; ” those items with a cost of less than $ 200 that are so small and insignificant, it is impossible to trace when they are consumed by the business. These expenses may be deducted immediately upon purchase.

In the next category , we have ” non-incidental materials and supplies, ” these items with a value of $200 or less that are a bit more substantial , and we can trace when they are being used for the business . These materials and supplies can only be deducted when consumed by the business. Lastly, there is what is called ” rotable and emergency spare parts,” which are much bigger, more costly supplies, generally well in excess of $ 200 cost. These parts are used to avoid production down time by keeping them on hand until they are used to avoid production down time. As a result the cost is not permitted to be expensed until these parts are finally disposed of.

This new rule which is effective January 1, 2014 basically means that non incidental supplies cannot be deducted until they are used.

The regulations also define and adopt new criteria related to repair costs incurred to maintain an asset.
Basically the old rules determined that if an asset is purchased it was to be depreciated over its useful life. The grey area dealt with how to treat cost incurred to repair the asset. The rules basically provided that if expenditure increased the value of an asset or extended its useful life, the costs had to be capitalized as part of the asset cost rather than be deducted as a repair. Since there was not much guidance and much abuse of these rules the IRS developed new rules, regulations.

The new regulations require that repair costs must first be evaluated utilizing the safe harbor de minims tests , and if they meet these tests the repair costs may be deducted as opposed to capitalized as part of the asset . If the repair does not qualify for the safe harbor exceptions, than the repair costs must be evaluated through a multi step process to determine its treatment; expense or capitalization.
The costs must be evaluated as to whether the costs represent a Betterment, Restoration, or Adaptation for a new and different use, The BRA tests.

In order to make this determination a new criteria was develop by the regulations called a” unit of Property” the Denominator. The unit of property must first be defined before the repair cost can be evaluated. For example; if you were required to compare the $ 20,000 cost to replace an eight of ten HVAC units to the cost of the entire building, there’s virtually no chance the BRA test would conclude that the costs would be capitalized. Under the unit of property rules, however, the comparison is not made to the building, but rather to the “building system” that is comprised solely of the ten HVAC units. As a result, replacing 80% of the building system will require capitalization under the BRA test.

A brief explanation of what a Betterment, Restoration or Adaptation represents is follows.

There are essentially six types of betterments; repair costs to property prior to acquisition must be capitalized as betterment. The remaining five types of betterments are all interrelated. Any costs that represent a material increase to size , capacity , efficiency , strength or quality of a unit of property , a building system , or a segment or a unit of property that performs its own critical and discrete function must be capitalized as part of the property.

Restoration can be divided into three buckets; simply the first situation is the capitalization of repair costs related to the taxpayer taking a loss on the property due to abandonment or casualty. The second situation is where the property does not function for its intended use or is so run down that it can no longer function; the repair costs must be capitalized. The third relates to replacing part of a unit of property e.g. a building system , a portion of a unit of property that performs its own discrete function, the taxpayer replaces a chiller unit in the HVAC .The Regulations have numerous examples for a detailed explanation of the BRA TEST.

In summation a company must request to change its method of accounting for materials and supplies and repair costs unless the company has been applying these rules. For the majority, in order to come into compliance with these rules, a change in accounting method request must be filed with the IRS notifying them of the change commencing with tax year 2014 and making the necessary adjustments to prior tax years. Revenue Procedure 2015-20 has given relief to certain taxpayers that qualify from having to file requests with the IRS and to apply the new Regulations commencing 2014 on a going forward basis.

Submitted by Sal Schibell, Lawson, Rescinio, Schibell & Associates

IRA Rollover Rules will Change in 2015

Internal Revenue Code SECTION 408(d)(3)(B) requires one tax free roll over per year for IRA funds distributed to the IRA holder.

The distributed funds must be redeposited back into the IRA account within 60 days of the withdrawal in order to avoid taxation of the IRA distribution. Prior to this tax court ruling, the one tax free rollover per year related to each IRA account that was maintained.

The TAX Court decision in Bobrow held that the one rollover applies to all IRA accounts in aggregate. The IRS reiterated that this new interpretation will not affect IRA owners ability to transfer funds from one IRA Trustee to another IRA Trustee , a Trustee to Trustee transfer, because those transactions are not considered roll over’s and not subject to the one a year rollover rule.

A rollover is a transaction where the IRA owner withdraws the funds from the IRA and within 60 days redeposit’s the funds. The aggregation rule is effective for IRA rollovers commencing January 1,2015.

Please contact me at salschibell@lrscpa.com or 732-531-8000, ext 225 for any tax issues. We are happy to perform a free evaluation of your last year’s tax returns, personal or business.

Sal Schibell, Partner at Lawson, Rescinio, Schibell & Associates, Certified Public Accountants

732-531-8000, ext 225

Payroll Fraud Prevention Act of 2014

Payroll Fraud Prevention Act of 2014

Introduced by congress May 8, 2014. Dealing with independent contractor(IC) misclassification.

The proposed bill would create a new definition of workers called “non- employees”.

If enacted this act would make misclassification of employees as Independent Contractors (IC s) anew Federal Labor offense. The bill would expand the federal Labor Standards Act to cover the new category of employees, Non -EMPLOYEES, and make it a prohibited act to wrongly classify workers.

The purpose of this bill would give present law more teeth and exposure in the constant battle over worker classification. The cost of misclassifying a worker as an independent contractor as opposed to an employee is that the government risks non reporting by the recipient if a 1099 is not issued. The employer benefits by not classifying the worker s an employee because of the savings related to not paying payroll taxes and employee benefits. Present law bears serious penalties for improper classification.

The bill has a number of key provisions as follows;

  1.  The bill would require notification t all workers as to how they are classified, e.g. Independent contractor or employee.
  2. Directing the employees to the Labor Department Web site to learn about employee rights.
  3. Directing employees to contact the Labor Department if the employee suspects that they have been improperly classified.
  4. The bill provides every employer must provide a written notice to all workers providing labor or service of their classification and to notify the Department of Labor if they suspect that they have been misclassified.
  5. Heavy fines will be imposed for non compliance. For each employee or other individual for failure to provide notices to them, a $1,100 first offense and $5,000 for second offence will be levied. The penalty could be assessed per employee and non employee.
  6. The Law will also pierce the corporate or LLC veil if the entities are being used to attempt to circumvent the law.
  7. Directs the Secretary of Labor to establish a misclassification web site.
  8. Authorize the Sectary to report to the IRS misclassifications, and implement target audits.

The above is a summary of the proposed legislation. The IRS and regulatory bodies are closing in on misclassified employees.

Present law designates an individual as an employee for federal employment tax purposes if the individual has the status of an employee under the usual common law rules applicable in determining employer- employee relationship, (section 3121(d) of the Internal Revenue Code). Generally, the question of whether an individual is an employee or independent contractor is one fact to be determined upon application of law and regulations in each case.

Among the factors used by courts in determining whether an employer – employee relationship exists are:

  1. The degree of control exercised over the details of work.
  2. The worker’s investment the facilities.
  3. The worker’s opportunity for profit or loss.
  4. Whether the type of work performed is part of the principal’s regular business and
  5. The permanency of the relationship.

All of the above factors are analyzed in making a determination as to whether the worker is an employee or independent contractor.

A more detailed analysis of the above criteria for determining employee-independent contractor status will be the subject of my next Blog.

In the interim you may reach out to me for additional assistance.

Sal Schibell, Partner, Lawson, Rescinio, Schibell & Associates

732-531-8000, ext 225

salschibell@lrscpa.com

Required Disclaimers come to an end!

Did You Know?

 

Required Disclaimers come to an end!

Circular 230 Disclaimers: Deal or No Deal?
After years of frustration among tax practitioners, relief came in the form of final Circular 230 regulations which meant the days of required disclosures attached to emails, faxes, and other correspondence had come to an end. Effective June 12, 2014, the previous covered opinion rules in section 10.35 were removed and replaced with new guidance in section 10.37. While this is welcome news to many, there are still those who have become so accustomed to having the disclosures that simply removing them elicits anxiety.

As a result, many practitioners have been slow to remove the disclaimers that are now a standard part of most outgoing email. The problem with this slow response is that Karen Hawkins, Director of the Office of Professional Responsibility, has been clear on stating that the removal of any reference to Circular 230 or the IRS is not optional. It is important that the public not be misinformed and her office will take action against preparers who continue to use the original language. The new regulations do allow for “an appropriate statement describing any reasonable and accurate limitations of the advice rendered to the client.” Each individual or firm must determine what form of disclaimer should be included in their respective emails based on the type of work being performed, so long as the specific language in section 10.35 is removed.

Does this affect you and your business?

Sal, salschibell@lrscpa.com

Sal Schibell, Partner at Lawson, Rescinio, Schibell & Associates, Certified Public Accountants

732-531-8000, ext 225