INSIDE SALT
INSIDE SALT
In-Depth Coverage of Issues Surrounding State and Local Tax
INSIDE SALT
In-Depth Coverage of Issues Surrounding State and Local Tax

California Legislatively Overturns Recent Office of Tax Appeals Taxpayer Win

by , and | Jul 3, 2024 | , , , , ,

The California State Legislature overturned Microsoft’s recent win at the Office of Tax Appeals, which held that the gross amount of dividends received from foreign affiliates outside its water’s-edge group should be included in its sales factor denominator, regardless of the application of a dividends-received deduction excluding 75% of such dividends from its taxable base.

The legislation declares that FTB Legal Ruling 2006-1 “shall apply with respect to apportionment factors attributable to income exempt from income tax under the Corporation Tax Law,” and it claims that the declaration “does not constitute a change in, but is declaratory of, existing law.” Consistent with the FTB’s position in the Microsoft case, Legal Ruling 2006-1 would limit the sales factor denominator to the net dividends included in the tax base.



Governor Murphy Saddles Taxpayers With the Nation’s Highest Corporate Tax Rate

by , and | Jul 2, 2024 | ,

New Jersey Governor Phil Murphy’s proposed flip-flop, which reneges on his promise to allow the state’s 2.5% corporate business tax surtax to expire, has now passed both the New Jersey State Assembly and Senate and been signed by the governor. As a result, New Jersey will once again have the highest corporate income tax rate in the nation at 11.5%. The surtax will now apply to corporate taxpayers with “allocated taxable net income in excess of” $10 million a year, and it applies to tax years beginning in 2024. The legislation would allow the tax to expire after 2028 – but as surtax payers know, any expiration date is subject to extension.



Good News for SALT Taxpayers? Supreme Court Overturns Federal Agency Deference

by , and | Jun 28, 2024 |

On June 28, 2024, in Loper Bright Enterprises v. Secretary of Commerce, the Supreme Court of the United States ruled to overturn its four-decade-old decision in Chevron USA Inc. v. Natural Resources Defense Counsel. While the Loper case addressed deference to administrative agencies under the federal Administrative Procedure Act (APA), its outcome may give state and local taxpayers a better chance of persuading state courts that a tax authority’s interpretation of a tax statute is invalid. This is because many states have relied on the Chevron doctrine when deciding that state administrative procedure acts require deference to an agency action. State courts must now reconsider whether the eradication of Chevron deference at the federal level also applies at the state level.

BACKGROUND

Chevron set the standard that federal courts must apply binding deference to a government agency’s interpretation of the law in the absence of a clear answer within the statute itself. Under the Chevron doctrine, if a federal statute was silent or ambiguous on a question of law, and the federal agency charged with enforcing the law had provided an interpretation of that statute, a court was required to defer to the relevant federal agency’s interpretation (even if the court on its own would have reached a different result). For decades, Chevron prevented entities challenging agency action from receiving a balanced review of an issue by courts. The Chevron doctrine has historically presented significant hurdles to plaintiffs, including taxpayers, seeking to challenge actions of federal agencies (such as the Internal Revenue Service).

But in Loper, the Supreme Court decided that the holding in Chevron is inconsistent with the APA and the historical and constitutional role of the judicial branch, and thus explicitly overturned the Chevron deference standard. This means that, with respect to federal agency interpretations of law, the thumb has been taken off the scale. (Of course, there are still lots of other thumbs on this scale, such as the burden of proof is always on the taxpayer and the preference of judges to favor the state for fiscal reasons, but let’s take a win when we can!).

EFFECT ON STATE TAX CONTROVERSIES

The holding in Loper should impact the scope of state court review of state and local tax authority interpretations of law in many circumstances. This is because (a) many states have adopted language substantially similar to the federal APA at issue in Loper and (b) many state courts have specifically cited to Chevron in deferring to a tax authority’s interpretation of the law.

The potential application to states is clear based on several statements in the Loper opinion. The Supreme Court stated, “Chevron cannot be reconciled with the APA” and “[a]gencies have no special competence in resolving statutory ambiguities. Courts do.” In states that do not have specific statutory provisions providing for deference to a tax authority or specifically delegating authority for interpretation of a specific statute to a tax authority, taxpayers should raise the decision in Loper in an action challenging tax authority regulations. [...]

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Colorado Changes Rules for Determining Members of Combined Filing Group

by , and | May 20, 2024 | , , ,

Colorado Governor Jared Polis has signed legislation that would replace Colorado’s unique “3 of 6” rule for determining the members of a unitary group for combined reporting purposes and instead adopt what Legislative Council Staff has called “the Multistate Tax Commission’s standard” for determining the members of a combined filing group.

Under current law, a combined report may only contain those members of an affiliated group of corporations as to which three of the following six facts have been in existence in the tax return year and the two preceding years:

  1. Sales or leases between one affiliate and another constitute 50% or more of the gross operating receipts or cost of goods sold of the entity making the sales/leases
  2. Certain back-office services are provided by one affiliate for the benefit of another
  3. Twenty percent or more of the long-term debt of one affiliate is owed to or guaranteed by another affiliate
  4. One affiliate substantially uses certain intellectual property of another affiliate
  5. Fifty percent or more of the board of one affiliate are members of the board or are corporate officers of another affiliate
  6. Twenty-five percent or more of the 20 highest ranking officers of an affiliate are members of the board or are corporate officers of another affiliate.

Under the new law all members of a “unitary business” will be required to file a combined report. A “unitary business” is defined as an affiliated group of entities “that are sufficiently interdependent, integrated, and interrelated through their activities so as to provide a synergy and mutual benefit that produces a sharing or exchange of value among them and a significant flow of value to the separate parts.”

The new law keeps Colorado’s water’s-edge rule in place, but it’s notable that said rule provides an exception for any entity “incorporated in a foreign jurisdiction for the purpose of tax avoidance” while identifying a list of nations where a corporation will be presumed to be incorporated for tax avoidance purposes (including the Cayman Islands, Luxembourg, Monaco, etc.).

Presuming Colorado voters don’t file a referendum petition and get the legislation overturned in November, the new standard would go into effect for tax years beginning on or after January 1, 2026.



California Legislator Considers Digital Advertising Tax

by , , and | Mar 29, 2024 | , , , , , ,

Senator Steven Glazer, chair of the California State Senate Revenue and Tax Committee, is treating data like the next gold rush and taking bold steps to mine this new vein of wealth with his proposed “Digital Data Extraction Tax Law.” While couched as a tax on “data extraction,” the base for the tax is digital advertising revenue. The draft proposal contains several gaps, including the tax rate and effective date, and we understand that Senator Glazer is not certain he will file it.

Senator Glazer modeled his proposed tax on Maryland’s digital advertising gross receipts (DAGR) tax approach but with a twist, aligning it with Tennessee’s digital barter tax proposal (House Bill 2234/Senate Bill 2065). While California’s bill attempts to cure the numerous legal infirmities present in Maryland’s DAGR tax, it suffers from many of the same fatal weaknesses.

LEGISLATIVE BACKGROUND

The bill’s stated intent is to tap into the supposedly “enormous economic rents” that the “largest” internet companies generate from the personal data they “extract” from their users. The draft bill would introduce a new tax on gross receipts from the sale of digital advertising services (digital ad tax). The digital ad tax would be imposed on persons engaged in “digital data extraction transactions,” defined as transactions where:

(i) a person sells advertisers information about or access to users of the person’s services, [and]

(ii) the person engages in a digital barter by providing services to a user in full or partial exchange for displaying advertisements to the user or collects data about the user.

Under the bill, persons with digital advertising revenue above a certain level would be deemed engaged in taxable activity. Additionally, the digital ad tax would only apply to persons with advertising revenue above a certain (currently unspecified) level but would provide a carve-out for news media entities. Revenue from the tax would be earmarked for a fund that supports local newspapers.

A troubling feature of the draft bill is its sourcing regime. The bill would require that those subject to the digital ad tax use personally identifiable information about those to whom the ads are served to source revenue from the advertising to either California or somewhere else. Specifically, the bill requires that sellers of digital advertising services capture and retain information, such as users’ GPS locations or IP addresses. A seller would be required to produce this information to tax authorities on audit. These requirements raise profound privacy issues.

Perhaps recognizing the myriad of legal challenges faced by Maryland’s DAGR tax, California’s bill attempts to limit its application to entities based on their revenue derived in the state. It also attempts to ward off challenges that the digital ad tax is a discriminatory tax on electronic commerce barred by the Internet Tax Freedom Act (ITFA) by adding a bare statement that the “Legislature finds and declares . . . . [t]hat digital advertising is not substantially similar to traditional print [...]

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