The General Assembly released its budget conference report late Tuesday evening. The conference bill comprised multiple tax provisions of benefit to the NCACPA membership, which the Association was pleased to see after many months and much communication with legislators and the Department of Revenue.
Both chambers most vote to approve the budget bill before it goes to the Governor, who will approve or veto the budget. Analysis of key tax provisions are as follows; however, they remain to be signed into law:
Power of Attorney
Over the past year, NCACPA has advocated for funding of a new Department of Revenue document management system to properly store taxpayers’ Power of Attorney (POA) information, in addition to other records. This is part of a larger effort to modernize the Department’s internal systems.
Within the conference bill, the legislature did not allocate the additional funding NCACPA requested, as certain legislators expect the Department of Revenue to leverage current funds for implementation. However, the bill does require the Department to report progress made towards implementation by January 31, 2020 to the General Government Oversight Committee.
The Association is appreciative of the Department of Revenue for their support of treating taxpayers fairly, and will continue to collaborate closely with the agency on its modernization initiatives.
NCACPA would like to extend tremendous thanks to members who reached out to their legislators on the POA issue—inclusion of this provision demonstrates the power of grassroots advocacy in action.
Personal Income Tax Changes
The conference bill includes two personal income tax changes. First, the bill would increase the standard deduction for the 2021 and later tax years. The standard deduction would increase from $20,000 to $21,000 for joint filers, from $15,000 to $15,750 for heads of households, and from $10,000 to $10,500 for single filers and married couples filing separately. This is a slightly higher increase than the Senate and House versions of the budget bill provided.
Second, the bill would conform to federal tax rules regarding qualified charitable distributions from an IRA by taxpayers over age 70 ½. Under federal law, a taxpayer who is at least 70 ½ may exclude from income up to $100,000 in IRA charitable distributions. North Carolina currently decouples from this provision. As a result, a taxpayer claiming the federal exclusion must include the distribution in North Carolina income and may then claim a charitable contribution deduction as part of the taxpayer’s North Carolina itemized deduction. The conference bill would unwind this decoupling and conform to the federal law (income exclusion/no deduction), effective for the 2019 and later tax years.
Franchise Tax Changes
The conference bill would also reduce the rate of tax on each $1,000 of franchise tax base from $1.50 to $1.29 for the 2020 franchise tax year and to $0.96 for the 2021 franchise tax year. Electric power companies and their affiliates would remain subject to the $1.50 rate until 2027 at which time they would be taxed at the same rate imposed on other corporations (i.e., $0.96 under the bills). This is a slightly greater rate reduction than the Senate and House bills provided.
The bill would also eliminate one of the two alternative franchise tax bases. Under current law, the tax is computed on the higher of the following bases: apportioned balance sheet net worth, actual investment in tangible property in the state, and 55% of the appraised value of the taxpayer’s property as determined for property tax purposes. The bills would eliminate the 55% of appraised value base, effective in 2020 (i.e., effective for the franchise tax paid on the 2019 corporate income tax return).
The conference bill would enact market-based sourcing for receipts from services and intangibles effective in 2020. Under market-based sourcing, receipts are sourced to the location of the taxpayer’s market. If the market cannot be determined, the receipts are sourced based on a method of reasonable approximation. If this method cannot determine the source of a receipt, the receipt must be excluded from the denominator of the apportionment fraction. Service receipts are generally sourced to the place where the services are delivered. Intangible license receipts are generally sourced based on where the intangible is used. A marketing intangible is considered to be used in North Carolina to the extent that the marketed products are purchased by North Carolina customers. Receipts from the sale of an intangible are sourced based on where the intangible is used.
The bill includes special rules for sourcing the receipts of broadcasters. Specifically, broadcasters would source their receipts based on where their actual advertising and licensing customers are located, based on the commercial domicile of a business customer and the billing address of an individual customer. For income tax purposes, broadcasters would be required to source at least 2% of their licensing and advertising revenues to North Carolina, and for franchise tax purposes, they would be required to source at least 2% of their net worth franchise tax base to the North Carolina.
The bill also contains special market-based sourcing rules for banks and electric power companies.
While market-based sourcing generally provides a tax benefit to a company that has a significant in-state presence and a significant out-of-state market, it has the opposite effect if the company is operating at a loss, since a smaller portion of the loss will be apportioned to the state. To mitigate the impact of market-based sourcing on loss corporations, the bill would permit a corporation with a state net loss at the end of 2019 to elect to continue to source its receipts from services under the income producing activities test of current law until its losses are used up or expire. The election would apply only for income tax purposes, and the franchise tax net worth base would be apportioned as if the election had not been made.
The bill would make the proposed market-based sourcing rules the Department of Revenue issued in 2017 effective beginning in 2020. To the extent those rules need to be modified to reflect provisions of the bill that depart from the methodology of the proposed rules, the Department is required to prepare amendments to the rules for submission to the Rules Review Commission by October 21, 2019.