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State and local tax advisor: September 2022

Authors: Mike Merkel, Ron Cook, Jeanette Tolar, Stephen Palmer

September 26, 2022 / 24 min read

Have you heard about the latest changes in state and local taxes? Check out the September 2022 roundup here.

The states covered in this issue of our monthly tax advisor include: 

All states

Corporate, personal income taxes: AICPA calls draft QIP rules restrictive

The American Institute of CPAs described the Multistate Tax Commission’s draft model act on the treatment of investment partnership income as “narrower” and “restrictive” compared to state frameworks.

In a Sept. 12, 2022, letter to the commission, AICPA said the “definitions and applications of the rules for Qualified Investment Partnerships (QIP) in the MTC’s draft model act are narrower and more restrictive than the statutory frameworks currently enacted in many states.”

The letter makes a number of recommendations: “updating the language in the MTC’s draft model act to match the less restrictive statutory frameworks currently enacted in many states that have already adopted QIP rules.”

Among the AICPA’s recommendations are:

In the recommendation for clarifying the definitions of “loan” and “debt security,” AICPA said the proposed language should “provide more specific definitions … to clarify the type of loans not included in the definition of qualified investments.”

AICPA also recommended that the model act “should follow the federal income tax treatment of financial instruments, so that a debt instrument that is treated as an equity investment for federal income tax purposes is also treated as stock under the model act,” while notes, mortgages, receivables, and other forms of debt purchased on a secondary market meeting the definition of a debt security should be considered a qualified investment.

California

Corporate, personal income taxes: 2022 rate schedules, filing thresholds, other adjusted figures released

California has released 2022 indexed income tax figures, based on an 8.3% inflation rate for June 2021 through June 2022. The Franchise Tax Board (FTB) provides indexed values for the following:

Personal income tax rates

For 2022, the indexed personal income tax rates for single taxpayers and married taxpayers filing separately range from 1.0% of the first $10,099 of taxable income (formerly, $9,325 for 2021) to 12.3% of taxable income that is $677,275 and over (formerly, $625,369 and over for 2021).

For married taxpayers filing jointly and surviving spouses with a dependent child, the rates range from 1.0% of the first $20,198 of taxable income (formerly, $18,650 for 2021) to 12.3% of taxable income that is $1,354,550 and over (formerly, $1,250,738 and over for 2021).

For taxpayers filing as heads of households, the rates range from 1.0% of the first $20,212 of taxable income (formerly, $18,663 for 2021) to 12.3% of taxable income that is $921,095 and over (formerly, $850,503 and over for 2021).

Return filing thresholds

For 2022, a single taxpayer or head of household taxpayer must file a return if the taxpayer’s adjusted gross income (AGI) exceeds an amount ranging from $16,730 to $43,215 (formerly, $15,448 to $39,898 for 2021) or if the taxpayer’s gross income exceeds an amount ranging from $20,913 to $47,398 (formerly, $19,310 to $43,760 for 2021).

The corresponding AGI and gross income thresholds requiring married couples to file a return range from $33,466 to $66,951 (formerly, $30,901 to $61,801 for 2021) and from $41,830 to $75,315 (formerly, $38,624 to $69,524 for 2021), respectively.

A surviving spouse taxpayer with dependents must file a return if the taxpayer’s AGI exceeds an amount ranging from $31,163 to $43,215 (formerly, $28,781 to $39,898 for 2021) or if the taxpayer’s gross income exceeds an amount ranging from $35,346 to $47,398 (formerly, $32,643 to $43,760 for 2021).

The number of dependents and the taxpayer’s age (under 65 or 65 or older) determine the filing threshold level that applies.

The tax threshold (the income level at which a person begins paying income taxes based on the tax rate schedule) for 2022 has risen to an AGI of $17,252 (formerly, $15,905 for 2021) for single or separate taxpayers and to $34,503 (formerly, $31,812 for 2021) for joint, surviving spouse, and unmarried head of household taxpayers.

Standard deduction

The standard deduction increases for 2022 to $5,202 (formerly, $4,803 for 2021) for single taxpayers and married taxpayers filing separate returns and to $10,404 (formerly, $9,606 for 2021) for married taxpayers filing jointly, surviving spouses, and heads of households.

Personal exemptions

The personal exemption credits increase for 2022 to $140 (formerly, $129 for 2021) for single taxpayers, married taxpayers filing separately, and heads of households and to $280 (formerly, $258 for 2021) for married taxpayers filing jointly and surviving spouses. The personal exemption amount for dependents increases to $433 (formerly, $400 for 2021).

Itemized deduction reduction and personal exemption phaseout thresholds

The AGI thresholds that activate the reduction of itemized deductions and the phaseout of personal exemption credits for 2022 are:

AMT exemption

The AMT exemption amounts for 2022 increase to:

Exemption phaseouts begin at the following alternative minimum taxable income levels for 2022:

The special exemption limit for certain children under 24 in the calculation of AMT for 2022 is the child’s earned income plus $8,300 (the same as for 2021).

Miscellaneous credits

The renter’s credit for 2022 will be available for single filers with adjusted gross incomes of $49,220 or less (formerly, $45,448 or less for 2021) and for joint filers with adjusted gross incomes of $98,440 or less (formerly, $90,896 or less for 2021).

The joint custody head of household credit and the dependent parent credit increase for 2022 to the lesser of $556 (formerly, $513 for 2021) or 30% of net tax.

The qualified senior head of household credit increases for 2022 to 2% of taxable income of up to $89,931 (formerly, $83,039 for 2021), up to a $1,695 (formerly, $1,499 for 2021) maximum credit amount.

For 2022, the California earned income tax credit will generally be available to households with AGI of less than $30,000 regardless of whether the household has a qualifying child.

The maximum young child and foster youth tax credits for 2022 are $1,083 (formerly, set at $1,000, but adjusted for inflation beginning in 2022). The credits are reduced if the taxpayer’s earned income exceeds a threshold amount.

Doing business thresholds

The property, payroll, and sales factor thresholds for determining whether a multistate corporation is doing business in California for 2022 are:

Automobile depreciation deduction limitations

The depreciation limitations for passenger automobiles (that aren’t trucks or vans) placed in service in 2022 for which the IRC Sec. 168(k) additional first year depreciation deduction doesn’t apply are:

The depreciation limitations for trucks and vans placed in service in 2022 for which the IRC Sec. 168(k) additional first year depreciation deduction doesn’t apply are:

The FTB also provides indexed lease inclusion amounts.

Individual shared responsibility penalty

For 2022, the applicable dollar amount on which the individual shared responsibility penalty for adults is based is $850 (formerly, $800 for 2021). The actual amount of the penalty imposed on an uninsured individual for a month could be different from the applicable dollar amount. The actual penalty amount will take into account such factors as:

Also, the penalty will not be imposed if the applicable individual didn’t have coverage for a continuous period of three months or less. If there is more than one such continuous period in a calendar year, the exception provided will only apply to months in the first of those periods.

Taxpayers’ Rights Advocate relief

For 2022, the Taxpayers’ Rights Advocate may grant a taxpayer up to $12,900 (formerly, $11,907 for 2021) in equitable relief from penalties, fees, additions to tax, or interest.

Memorandum, California Franchise Tax Board, Aug. 26, 2022.

Colorado

Sales and use tax: Information on medical exemptions issued

Colorado has issued a publication providing information on the sales and use tax exemptions applicable to qualifying sales of drugs, medical equipment, and supplies. Many of the exemptions discussed in the publication are allowed only if the medication, equipment, or other item has been prescribed by a practitioner.

This publication provides information about exemptions applicable to: prescription and nonprescription drugs; insulin and related products; urine- and blood-testing kits; certain medical supplies; medical materials; durable medical equipment; mobility-enhancing equipment; oxygen delivery equipment; prosthetic devices; corrective eyeglasses and contact lenses; and hearing aids.

Sales & Use Tax Topics: Medical Exemptions, Colorado Department of Revenue, July 2022.

Illinois

Sales and use tax: Sourcing of local retailers’ occupation tax discussed

The Illinois Department of Revenue (department) issued a letter ruling regarding the sourcing of local retailers’ occupation tax on sales of products by a taxpayer, a subsidiary of an online retailer. Generally, a retailer engaging in three or more primary selling activities in one location in the state or outside of the state for a particular sale shall remit either the retailers’ occupation tax imposed at that in-state location or use tax for the out-of-state location.

The taxpayer requested a ruling on whether, for purposes of retailers’ occupation tax, all of its Illinois sales would be sourced to a city in Illinois once its new fulfillment center opened in that city. The department clarified that, for periods after the opening of the new fulfillment center, the taxpayer’s sales of items in the state and sales in which items were drop-shipped directly by an out-of-state vendor to the taxpayer’s customers should be sourced to the city in Illinois.

Private Letter Ruling, ST 22-0005-PLR, Illinois Department of Revenue, May 3, 2022, released July 2022.

Corporate, personal income taxes: Changes to foreign country apportionment rule adopted

Illinois adopted amendments to an apportionment rule for determining if:

Under the amended rule, a taxpayer is subject to tax in a foreign county even if a treaty with the United States exempts its activities from taxation. Illinois no longer considers a treaty as a restriction on the foreign country’s jurisdiction to impose an income tax.

The Illinois Department of Revenue added an example to the amended rule after public comment.

86 Ill. Adm. Code Sec. 100.3200, Illinois Department of Revenue, effective Aug. 24, 2022.

Sales and use tax: Membrane structure qualified for building materials exemption

The building materials used in the construction of a membrane structure qualified for an Illinois sales and use tax exemption because the structure was permanently affixed to the real estate. Generally, an exemption from Illinois retailers’ occupation tax liability exists for gross receipts from qualified sales of building materials that will be incorporated into real estate located in an enterprise zone. In this matter, the Department of Revenue noted that the membrane structure was permanently affixed to the real estate and qualified for the building materials exemption under the applicable statute. Further, the fire suppression and detection system, the medium voltage electrical room, restrooms, break areas, and utilities such as power, water, electrical, natural gas, and compressed air would also qualify for the exemption if permanently affixed to the walls, roof, or the building’s structural steel.

Private Letter Ruling, ST 22-0003-PLR, Illinois Department of Revenue, April 12, 2022, released July 2022.

Michigan

Income tax: Out-of-state holding company not subject to Detroit income tax

A taxpayer did not have nexus with the City of Detroit under either a pre- or post-Wayfair analysis to justify the imposition of Detroit income taxes on its dividends and gains. The Michigan Tax Tribunal reached this decision on remand of the case from the Court of Appeals.

The taxpayer was a Delaware company created merely to hold stock in a Canadian company. The taxpayer had a Delaware mailing address, but on an annual report filed in Delaware, it listed a principal place of business in Detroit. The taxpayer received dividends from the Canadian company and later sold its interest in the company. The city assessed income taxes on the dividends and gain. The taxpayer stated that it had no office, property, or employees, made no sales, and hand no market in Detroit. It said that one of its shareholders accepted mail on its behalf at an office in Detroit for administrative convenience.

The city asserted that the taxpayer’s commercial domicile was in the city, because that was where it managed its business and had a business office. Alternatively, the city argued that even if the taxpayer was domiciled out of state, it had agents in the city conducting activities on its behalf, and their physical presence created nexus with the city. The city further contended that nexus was established because the taxpayer was part of its parent’s Detroit unitary business.

According to the Tribunal, although the taxpayer was doing business under the broad statutory definition, the taxpayer lacked nexus with the city because it had no physical presence or minimum connection with the city, nor did it substantially avail itself of the Detroit marketplace. The taxpayer’s only contact with the city was through its officers and directors. Under the city’s own regulations, the activities and presence of these agents were excluded from the doing business determination. In addition, the Tribunal rejected the city’s reliance on the commercial domicile concept, as that term didn’t appear in the City Income Tax Act and was otherwise irrelevant to the determination of whether the taxpayer was doing business in the city. The Tribunal also found that the city’s reliance on the unitary business concept was misplaced, because the City Income Tax Act did not include that concept, nor was there any language that would allow a unitary business to create a nexus link to a corporation.

Apex Laboratories International Inc. v. City of Detroit, Michigan Tax Tribunal, No. 16-000724-R, August 19, 2022.

Sales and use tax: Precision oncology company did not qualify for industrial processing exemption

A precision oncology company’s (taxpayer’s) purchases of certain equipment and supplies didn’t qualify for the industrial processing exemption from Michigan sales and use tax because the taxpayer failed to establish that it used the purchased items to perform “an industrial processing activity for or on behalf of an industrial processor” or that it performed research or experimental activities for pharmaceutical partners who were industrial processors.

Upon review, the Tax Tribunal agreed with the Department of Treasury’s argument that the taxpayer didn’t use the purchased items to perform an industrial processing activity for or on behalf of an industrial processor. Further, the taxpayer’s activities didn’t meet the requirements of a research or experimental activity. Accordingly, the tribunal determined that there was no genuine issue of material fact and granted the department’s motion for summary disposition.

Strata Oncology Inc. v. Department of Treasury, Michigan Tax Tribunal, No. 20-002555, July 14, 2022, released August 2022.

Corporate, personal income taxes: Additional time provided to report and pay tax on partnership audit adjustments

Michigan will allow partnerships and partners additional time to comply with the state income tax reporting and payment requirements for final federal adjustments that arise from a partnership level audit or administrative adjustment request. Act 148 (S.B. 248), Laws 2022, introduced the new requirements, generally applicable to tax years beginning on or after Jan. 1, 2018.

Because the law was given retroactive effect, it will apply to federal adjustments that have a final determination date both prior to and after its enactment. This has created new and, in some cases, immediate obligations for taxpayers. Meanwhile, the forms, systems, and procedures for fulfilling those obligations haven’t yet been fully implemented.

The Department of Treasury expects that these will all be in place no later than Jan. 1, 2023. For federal adjustments that are required to be reported under the new law and that have a final determination date prior to Jan. 1, 2023, the Department will provide additional time to comply with the new requirements. For these federal adjustments, the reporting and payment deadlines will be determined as if Jan. 1, 2023, was the final determination date.

Notwithstanding the additional time provided to comply, some taxpayers may wish to report their federal adjustments immediately, and either pay any additional tax or claim a refund. Before doing so, however, their state partnership representative must contact the Business Taxes Division at (517) 636-692 for special instructions.

Notice Regarding the Implementation of 2022 Public Act 148, Michigan Department of Treasury, Aug. 26, 2022.

Oregon

Corporate income tax: Return of goods, pre-book orders creates nexus

A cigarette manufacturer’s activities including return of goods and “Pre-Book Orders” created nexus for purposes of Oregon’s corporation excise tax.

How did the taxpayer conduct business?

The taxpayer sold its products to wholesalers located in Oregon that sold the products to retailers in Oregon. The taxpayer filed Oregon returns and asserted that P.L. 86-272 immunized its income from the corporation excise tax because its activities were limited to the solicitation of sales. Oregon audited the taxpayer’s return and concluded that P.L. 86-272 didn’t protect the taxpayer.

Under P.L. 86-272, solicitation of sales doesn’t create nexus for tax purposes. Oregon determined the taxpayer lost immunity when:

Was the required acceptance of returns outside P.L. 86-272 protection?

Yes, because all of the returns counted as part of the wholesalers’ activity on the taxpayer’s behalf. Based on agreements signed with taxpayers, wholesalers were required to accept certain returns from retailers. If the wholesalers acted in their own interests when accepting the returns, it could eliminate the possibility that they acted for the taxpayers. However, nothing in the record established that wholesalers of goods followed a “best practice” of accepting all returns of goods, salable or unsalable, and “for any reason.” The taxpayer required wholesalers to accept all returns, and there was no evidence they would have accepted all returns if the taxpayer hadn’t required them to. Thus, by requiring the Oregon wholesalers to accept and process returns of all products regardless of reason, as a condition of buying any products from the taxpayer, the taxpayer obligated the wholesalers to accept the returns on its behalf.

The taxpayer further argued that, even if the wholesalers acted on its behalf in accepting returns, their conduct remained within the bounds of making sales. Applying the reasoning in the U.S. Supreme Court’s decision in Wisconsin Department of Revenue v. William Wrigley, Jr, and in the absence of evidence that the wholesalers would have accepted all returns for any reason if not required to do so, the court concluded that the wholesalers’ acceptance of returns was not ancillary to “making sales” and destroyed the taxpayer’s immunity from Oregon corporation excise tax.

Did the “Pre-Book Order” process exceed the solicitation of orders?

Yes, requiring its representatives to perform the task of facilitating the placement of orders by means of the “Pre-Book Order” process exceeded the P.L. 86-272 protection of solicitation of orders. As part of the process, representatives wrote down and forwarded the order for the retailer on the spot. This made the difference between a potentially meaningless oral “yes” and an actual order that was more likely to result in a sale. The task served an independent business purpose for the taxpayer and thus destroyed taxpayer’s immunity from Oregon corporation excise tax. Addressing retailers’ failure to follow through with orders was something the taxpayer had reason to do apart from soliciting orders.

Where both activities more than de minimis?

The court concluded that neither the acceptance of returns nor the making of “Pre-Book Orders” occurred at a de minimis level. Thus, each of the activities independently destroyed taxpayer’s immunity from Oregon corporation excise tax.

Santa Fe Natural Tobacco Co. v. Department of Revenue, Oregon Tax Court, No. TC 5372, Aug. 23, 2022.

Pennsylvania

Sales and use tax: Nonresident businesses’ storage of merchandise in fulfillment centers did not create sufficient contact with state

The Commonwealth Court of Pennsylvania granted a cross-application for summary relief of a trade association of online businesses (taxpayers) because the Department of Revenue (department) failed to establish that the taxpayers had sufficient contacts with the Commonwealth to mandate the collection and remittance of sales tax.

In this matter, the taxpayers sold merchandise through an e-commerce retailer’s fulfillment program and stored their merchandise in the retailer’s warehouses located in the Commonwealth. The primary issue before the court was whether nonresident businesses that sold merchandise through the fulfillment program were required to collect and remit Pennsylvania sales tax. The taxpayers argued that sufficient minimum contact didn’t exist that would bring them within the department’s jurisdictional reach because the retailer controlled the storage and shipment of goods in the fulfillment program, and the taxpayers’ mere participation in the program didn’t create meaningful contacts with the Commonwealth. The department asserted that the Business Activities Request sent to the taxpayers was not a demand for tax payments; rather, it was a “demand for information concerning potential tax liability” and that the taxpayers’ due process claim was premature because no tax assessment was issued by the department.

The court disagreed with the department’s argument that the Business Activities Request was merely a “demand for information.” Further, the applicable statute doesn’t grant the department unfettered authority to seek business information from any person or entity it desires for the purpose of determining its status as a taxpayer. Due process requires a connection between the taxing authority and the person or entity it seeks to tax and “some act” indicating the alleged taxpayer has availed itself of the taxing authority’s protections, opportunities, and services. Here, while the taxpayers initially shipped their merchandise to a Pennsylvania warehouse owned and operated by the retailer, they had no control over the merchandise once the retailer received it. Hence, the storage of the nonresident businesses’ merchandise by a retailer in one of its Pennsylvania warehouses did not create sufficient contact with the Commonwealth to mandate the collection and remittance of tax. Accordingly, the taxpayers’ cross-application for summary relief was granted.

Online Merchants Guild v. Hassell, Commonwealth Court of Pennsylvania, No. 179 M.D. 2021, Sept. 9, 2022.

South Carolina

Miscellaneous tax: Domicile-based classification of businesses for business license tax purposes discussed

The South Carolina Attorney General’s Office (AGO) has issued an advisory opinion on whether counties may make classifications based on domiciles of businesses, for business license tax purposes. Under the applicable statute, business license taxes are required to be levied in an identical or consistent way. However, the AGO has previously opined that the statute doesn’t “preclude the classification of persons or businesses upon some reasonable basis.” Additionally, South Carolina courts have also recognized counties’ ability to charge different businesses different tax rates.

The AGO concluded that while classification of businesses is not permitted or prohibited under the applicable statute, such a classification may be permissible provided: (1) the classification bears a reasonable relationship to the legislative purpose; (2) the members of the class are treated alike under similar circumstances and conditions; and (3) the classification rests on some reasonable basis.

Opinion, South Carolina Attorney General, July 19, 2022.

Texas

Corporate income tax: Net proceeds from sales of commodity futures contracts included in apportionment calculation

Only the net proceeds from sales of commodity futures contracts and options on commodity futures contracts could be included in a taxpayer’s apportionment calculation for Texas franchise tax purposes. Usually, only the net proceeds from the sale of loans or securities may be included in the apportionment calculation. The gross proceeds from the sale of loans or securities may be included if the loan or security is treated as inventory of the seller for federal income tax purposes.

Noninventory securities

The commodity futures contracts and options that the taxpayer sold met the statutory definition of a “security.” But, because they were not purchased or sold to the taxpayer’s customers in the ordinary course of its business, they were not held as “inventory.”

The taxpayer argued that its noninventory securities were, in substance, inventory because it used the commodity hedges to manage the cost of the raw materials it used to manufacture the products ultimately sold. According to the taxpayer, the relationship between the raw materials and the commodity hedges was such that the commodity hedges were, in substance, a substitute for the raw materials. But, the trial court found, and the taxpayer didn’t dispute, that the noninventory securities weren’t merchandise, stock in trade, raw materials, works in process, finished products, or supplies that were physically a part of the food products sold to its customers. This unchallenged finding foreclosed any argument that the noninventory securities were, in substance, a substitute for the raw materials that constitute inventory for federal income tax purposes.

Conagra Brands, Inc. v. Hegar, Court of Appeals of Texas, Third District, Austin, No. 03-21-00111-CV, Aug. 24, 2022.

Franchise tax: Refund denied because taxpayer’s method of reporting income didn’t comply with federal tax law

A construction company (taxpayer) was properly denied a refund of Texas franchise tax because the taxpayer failed to demonstrate that its reported income from long-term contracts for the tax years at issue complied with federal tax law. In this matter, the taxpayer filed amended franchise tax returns that resulted in a reduction of the taxable margin for each report year, and thus the taxpayer requested a refund of tax remitted for the tax years at issue. The Tax Division denied the claims, and the Administrative Law Judge (ALJ) upheld the refund denial because the taxpayer failed to substantiate its claims.

The division determined that the taxpayer’s reporting of income on the federal income tax returns for tax years 2013–2015 didn’t comply with federal tax law and, as a result, the amended franchise tax returns for report years 2014–2016, based on those returns included incorrect calculations of the taxable margin for each report year.

Upon review, the Comptroller noted that the taxpayer failed to demonstrate that its reporting of income from long-term contracts for the tax years at issue complied with federal tax law and therefore failed to prove that the total revenue included in the amended returns for each report year was properly calculated. Accordingly, the refund denial was affirmed.

Decision, Hearing No. 202205024H, Texas Comptroller of Public Accounts, May 3, 2022, released August 2022.

The information provided in this alert is only a general summary and is being distributed with the understanding that Plante & Moran, PLLC, is not rendering legal, tax, accounting, or other professional advice, position, or opinions on specific facts or matters and, accordingly, assumes no liability whatsoever in connection with its use.  
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