The effects of the Supreme Court’s 2018 Wayfair decision on sales and use tax have received much attention (see our previous blog on the topic). In 2019, we have begun to see a trend of states adopting economic nexus standards (that resemble the new sales tax rules) for income and franchise taxes. Hawaii, Massachusetts, and Pennsylvania put new thresholds in place that can subject companies to state tax despite having no physical presence in the state, Indiana adopted a new general economic nexus standard, and Texas proposed rules to adopt a gross receipts-based nexus standard for franchise tax purposes.
States imposing economic nexus for income and franchise taxes is not a new phenomenon. Even before Wayfair, several states had laws or judicial decisions supporting economic nexus or factor presence standards. Wayfair likely supports these states’ statutes and court decisions, while encouraging additional states to use Wayfair and impose economic presence nexus for income taxes.
Pennsylvania issued new standards for corporate net income tax that create a rebuttable presumption of nexus for corporations with $500,000 of gross receipts sourced to Pennsylvania, regardless of physical presence. The state will be enforcing these new standards for tax periods starting on or after January 1, 2020.
The new standards currently only apply to corporations; it is uncertain if the state will expand their application to pass-through entities. Additional points that were left unclear include how to measure and source “indirect gross sales,” and how taxpayers can rebut this presumption that a corporation without physical presence has a filing requirement.
Concerns have also been raised regarding whether the new standards were promulgated properly (by use of a bulletin, rather than official regulations) and whether they could be subject to state constitutional challenge.
In addition to the changes to state corporate tax, the City of Philadelphia has adopted economic nexus for tax years beginning on or after January 1, 2019, using a bright-line threshold of $100,000 gross receipts.
Other states around the country have also begun to enact new economic nexus rules. The following are some recent developments:
Indiana adopted an economic nexus provision for its corporate income tax (effective 1/1/19). The new law does not provide specific bright-line thresholds to determine nexus, but it states that income will be taxable in Indiana to the full extent allowed by federal law, regardless of physical presence.
Hawaii enacted an economic presence nexus standard for income tax based on the Wayfair threshold (effective for tax years beginning after 12/31/19). A person without physical presence in Hawaii will be subject to its net income tax, if during the current or preceding calendar years the person engages in 200 or more business transactions with persons within Hawaii, or the sum of the person’s gross income sourced to Hawaii is at least $100,000. Additional guidance from Hawaii may be necessary to avoid inadvertent application of this new nexus standard to taxpayers with activities limited to purchases in Hawaii.
Massachusetts adopted a rule that for purposes of its corporate excise (income) tax, a corporation will be presumed to be subject to Massachusetts taxation where its Massachusetts sales for the taxable year exceed $500,000. Although the regulations were published 10/18/19, they do not explicitly state an effective date. The regulations do not provide guidance about how a taxpayer may rebut the presumption.
Texas filed proposed rules to implement economic nexus for franchise tax purposes. Under these rules (applicable for tax accounting periods ending in 2019 or later) an entity that has no physical presence in Texas will be subject to tax if it had gross receipts from Texas of $500,000 during the tax period. It is unknown when the proposed rules will become final.
Businesses that receive income from intangibles or providing services should note that many of these states will be applying the market-based sourcing approach. On the other hand, sellers of tangible personal property remain protected from state net income taxes where their activities in a state are limited to the solicitation of orders (provided all the requirements of federal law PL 86-272 are met).
The current climate of change presents new challenges and opportunities for businesses with operations beyond their home state. For more information, please reach out to us at email@example.com or 800.899.3633.