The New York Legislature has passed  bills related to the 2015–2016 budget (S2009-B/A3009-B and S4610-A/A6721-A, collectively referred to herein as the “Budget Bill”) containing several significant “technical corrections” to the New York State corporate income tax reform enacted in 2014, along with sales tax provisions and amendments to reform New York City’s General Corporation Tax.  The Budget Bill’s technical corrections to last year’s corporate income tax reform include changes to the economic nexus, tax base and income classification, tax rate (including clarifications to rules applicable to certain taxpayers, such as qualified New York manufacturers), apportionment, combined reporting, net operating loss and tax credit provisions.  The technical corrections are effective on the same date as last year’s corporate income tax reform, which was generally effective for tax years beginning on or after January 1, 2015.

This post is the fourth in a series analyzing the New York Budget Bill, and summarizes the technical corrections to New York’s apportionment provisions.

Treatment of Excess Investment Income

As discussed in a previous blog post, the Budget Bill includes a “cap” whereby investment income cannot exceed 8 percent of a corporation’s (or a combined group’s) entire net income.  A follow-up issue is the impact of this cap and the “excess” investment income that it creates on the apportionment factor that will be applied to a taxpayer’s business income, assuming that inclusion of the excess investment income is Constitutional.

As a preliminary matter, the excess investment income will not be eligible for the 8 percent fixed sourcing election since such income cannot be considered income from qualified financial instruments (QFIs); a financial instrument that qualifies as investment capital cannot also qualify as a QFI.  Even though through operation of the cap excess investment income will be treated as business income and not investment income, there is no corresponding provision in the statute specifying that the character of investment capital that gave rise to such excess investment income will switch to business capital.  Thus, a taxpayer’s election to use the 8 percent fixed sourcing election will not apply to any excess investment income.  Instead, the excess investment income will need to be sourced under the general customer sourcing rules for financial instruments.  Under those general rules, dividends and net gains from sales of stock are not included in either the numerator or denominator of the apportionment formula, unless the Commissioner determines that inclusion is necessary to properly reflect the business income or capital of the taxpayer.  The Commissioner’s determination is governed by the Tax Law’s general provision on alternative apportionment, meaning that taxpayers can request factor representation to the extent necessary to properly reflect their business income or capital.  Interestingly, in those cases where the excess investment income is properly included in business income, inclusion in the apportionment formula should be required on Constitutional grounds (factors used in an apportionment formula must reasonably reflect how income is earned).

Description of QFI

The rule concerning what will qualify as a QFI for purposes of the 8 percent [...]

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