On Tuesday, May 8th, the General Assembly’s Revenue Laws Study Committee released a revised version of its draft tax bill intended for introduction in the legislature’s upcoming short session. The original version of the draft bill was discussed in an Alert dated April 17th.
The revised draft includes many clarifying as well as some substantive changes to the proposed legislation. The most important changes from the prior version are described below.
FDII. As discussed in the April 17th Alert, the Tax Cuts and Jobs Act (“TCJA”) provides a deduction for corporations designed to lower the effective tax rate on income derived from sales of domestically produced services and intangibles into foreign markets (“foreign derived intangible income” or “FDII”). The original version of the draft bill purported to decouple from this provision, but the language included in the draft bill was insufficient to achieve this result. The revised draft expressly requires an add-back of the federal FDII deduction.
529 Plans. For years before 2014, North Carolina permitted taxpayers to deduct contributions to the state’s 529 plan but required those deductions to be added back to income in any year in which withdrawals from the plan were used for nonqualified purposes. The TCJA expanded IRC §529 to permit distributions from qualified tuition programs to fund elementary and secondary tuition. The revised version of the draft bill adds language to clarify that no add-back will be triggered if previously deducted amounts are withdrawn and used for these expanded purposes. The revised draft also provides that no add-back will be required if amounts are withdrawn and rolled over into an ABLE account for individuals with disabilities.
Franchise Tax Net Worth Base. Under current law, the franchise tax net worth base is calculated under GAAP. If a corporation does not keep GAAP books, the base is calculated in accordance with the accounting method the corporation uses for federal tax purposes. The revised version of the draft bill provides that, if a corporation does not keep GAAP books, assets subject to depreciation, depletion or amortization must be valued in accordance with the depreciation, depletion or amortization method used for federal income tax purposes.
Sales Factor Apportionment. Under current law, income from services is sourced under an “income-producing activities test.” The original version of the draft bill provided a statutory definition of this test similar to the definition now found in the Department of Revenue’s Technical Bulletins. The original version of the draft bill also added language regarding the sourcing of receipts from services performed in connection with sales of tangible property in North Carolina. The revised version of the draft bill clarifies that income from such services are to be sourced under the income producing activities test (and thus sourced to wherever those activities take place) and are not necessarily sourced to North Carolina simply because the tangible property to which the services relate is located here.
Franchisor Information Returns. The original version of the draft bill included a provision that would require franchisors with at least one North Carolina franchisee to electronically file an annual informational return containing information to be prescribed by the Department. This change was requested by the Department to assist in the review of cash intensive businesses. The revised version of the draft bill eliminates this provision. Franchisor reporting is still under consideration, but the issue was considered inappropriate for the upcoming short session.
Qualifying Farmers. The original version of the draft bill provided that various items such as vaccines, insecticides, defoliants and plant growth regulators, that are currently exempt only if purchased by a qualifying farmer, would also be entitled to exemption if purchased by someone other than a qualifying farmer to fulfill a service for a qualifying farmer. The purchaser would be required to provide an exemption certificate to the retailer. This change would be effective retroactively to July 1, 2014. The revised version of the draft bill provides that a person who paid tax on a purchase that was made nontaxable by this retroactive provision would be able to apply for a refund as long as the application were made by October 1, 2018.
Sales Tax Enforcement Grace Period. Current law prohibits the Department from assessing sales or use taxes on certain transactions covered by the expansion of the sales tax base as long as the taxpayer made a good faith effort to comply with the new law. The grace period covers filing periods beginning on or after March 1, 2016 and ending before January 1, 2018. The revised version of the draft bill would extend this grace period for an additional year and expand the list of transactions covered.
Insurance Regulatory Charge. Insurance companies other than captives are subject to an annual charge to fund the costs of the Department of Insurance and other insurance-related regulatory bodies. The rate of the annual charge is set each year by the General Assembly. The revised version of the draft bill would set the rate for the 2019 calendar year at 6.5%, the same as the current rate.
Electronic Filing of Information Returns. The revised version of the draft bill would add a penalty for failure to file certain information returns, principally Form NC-3, in electronic form. The amount of the penalty would be $200 per return.
For more information about these or other provisions of the draft bill, please contact a member of Smith Anderson’s Tax Group, business lawyers who understand taxation.