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SALT Considerations in the Time of COVID-19

April 2, 2020

As we all work to navigate the vast changes to business and personal life during the COVID-19 pandemic, there are a number of state tax issues to consider while preparing for future reporting requirements and state legislative action. Over the coming weeks, we will be discussing a series of topics that address the expected impact of COVID-19 on state tax.

Nexus & Apportionment

Business operations have fundamentally changed in recent weeks. In many cases, businesses that had no remote workforce are now fully operational with a remote staff. And, while nexus has been an important topic in state tax since the Wayfair decision, a dramatic shift in where business takes place may have significant implications for increased filing requirements with regard to income, payroll, sales/use, and property tax bases. States will have to consider whether presence arising from telework will continue to be a nexus creating activity for businesses during this time. The decision to waive nexus for telework activity is gathering traction as another relief effort. Currently, New Jersey, Mississippi, Pennsylvania, and the District of Columbia have all indicated that telework will not create income tax nexus during COVID-19 safety measures.

Just as businesses need to consider changes to nexus, individuals must also understand the impact of any personal changes to domicile, residency, and statutory residency as a result of COVID-19 safety measures. In most cases, domicile is not expected to change with short term responses to COVID-19, but an individual may unknowingly qualify as a resident, statutory resident, or requisite non-resident filer in a new state depending on duration of time spent in the jurisdiction. Such qualification can result in (often surprising) additional mandatory state income tax withholdings and filing requirements.

From an apportionment perspective, remote employees may also have an impact on payroll and sales factor calculations due to changes in employee work location and where services are being provided. Changes to a payroll factor may be a more straightforward adjustment, but less obvious will be potential changes to the sales factor. For those that engage in the sale of services in states that use a costs of performance method to determine revenue sourcing, costs related to the provision of services may now shift based on the employee’s remote work location.  When service locations change, consideration should be given as to whether corresponding adjustments to majority or pro-rata costs of performance determinations are warranted.

Due Date Extensions

The decision to extend state filings deadlines has not been an easy one for state administrators concerned with state budgets and liquidity. While most jurisdictions have quickly (and admirably) agreed to extend income tax filing deadlines to the federal date of July 15, as announced by Secretary Mnuchin on March 20, there are certain jurisdictions that continue to maintain an income tax due date that is different from federal or that differs between individual and non-individual taxpayers. Outside of income tax, sales tax and property tax filings have seen more limited relief measures with shorter or no extensions granted in some cases. Careful tracking of timing for filing requirements and administrative flexibility for penalty and/or interest waivers will continue to be important in the coming months.

Care Act Conformity

With the passage of The Coronavirus Aid, Relief, and Economic Security (CARES) Act, there are certain provisions that impact state reporting. Of primary significance to states are the CARES Act provisions related to net operating losses (NOL) carryback claims and IRC Section 163(j) business interest limitations. Historically, the ability to carryback NOLs has been primarily a federal benefit with most states generally disallowing a carryback. For those certain states that permit a carryback, the critical analysis will be whether the jurisdiction is a rolling, selected, or fixed date jurisdiction for purposes of conformity to the Internal Revenue Code (Code).  

The complexities arising from the Tax Cuts and Jobs Act (TCJA) of 2017 related to IRC Section 163(j) still remain for state taxpayers under the CARES Act. Pursuant to the TCJA, IRC Section 163(j) limited the business interest deduction to the sum of the taxpayer’s: 1) business interest income for the year, 2) 30% of adjusted taxable income for the year, and 3) floor plan financing interest expense. The CARES Act now increases the 30% limit on adjusted taxable income to 50% for the 2019 and 2020 tax years, while also providing for an election to opt out of the 50% increase. From a state perspective, most states conformed to the TCJA provisions related to IRS Section 163(j). In considering the CARES Act, taxpayers will once again need to monitor whether and how states will conform to relevant changes in the Code, as well as how to appropriately calculate the 163(j) limit differences between federal consolidated taxpayers and state separate, combined, and consolidated filing groups.

Credits & Incentives

A number of taxpayers are participants in credit and incentive programs administered by state and local authorities.  As a condition of these negotiated programs, there may be performance standards tied to the tax benefit such as requisite levels of capital investment and/or minimum job creation/maintenance commitments. Contractually, the state or local jurisdiction may also have the right to suspend or revoke the ability to utilize the credits at will—which they very well may do as a result of COVID-19.

To the extent a taxpayer is a party to an incentive package or is involved in a transaction involving a seller with eligible successor credits/incentives, careful consideration should be given to the terms of the agreement including 1) planning for expected non-performance and 2) understanding the ability of the authorities to claw-back historical credits as a result of non-performance. Taxpayers will also want to understand and prepare for potential suspensions of the credits/ incentives program by the authorities, irrespective of ability to perform.

State Controversy Procedures

Prior to the changes to business operations resulting from COVID-19, many state taxpayers were in process with current notices, audits, voluntary disclosers, and administrative appeals. Although state and local revenue departments are also in a time of transition related to having a remote workforce, procedural due dates still apply—though compliance with those procedures may be admittedly more difficult for taxpayers and state revenue departments alike.

While a number of states have already announced extensions related to docketed controversies, state tax professionals and organizations continue to call for all states to consider greater flexibility regarding procedural matters as a whole. Of concern are issues such as refund statute of limitations and notice/audit IDR/voluntary disclosure response timeframes, as well as those requirements that are environmentally problematic such as providing original signatures and acceptable proof of mailing.  Pending any procedural relief that may be forthcoming, taxpayers will need to be especially mindful to continue to meet deadlines and requirements to protect their administrative and appeal rights.   

Legislative Action

State legislative sessions generally begin in January with adjournment between March and May depending on the jurisdiction. With critical action needed to address COVID-19 relief, we can expect that those states already in adjournment may need to call a special session, while those still in session (though many temporarily suspended) will continue to work expeditiously to pass any necessary emergency provisions.

Challenges and safety concerns related to gathering state legislatures will almost assuredly impact timing for any legislative action that requires a vote for approval.  Most states had the authority to take action on due dates administratively without legislative approval, but conformity to the Code, e.g., the CARES Act, will likely require a vote in those states that don’t automatically conform to the Code. Furthermore, in those states where significant tax packages were previously introduced such as combined reporting, gross receipts, or digital taxes, those proposals may be set aside or vetoed in favor of addressing these emergency measures. Careful legislative monitoring will be critical during this unprecedented cycle.

Please contact Caplin & Drysdale if you would like to discuss these potential changes.

For the latest COVID-19 updates and resources, please visit COVID-19 Updates and Resource Center.

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