United States: Inside The New York Budget Bill Part Four: Nexus

This is the fourth installment of a series that takes an inside look at the corporate tax reform proposals in Governor Andrew Cuomo's 2014–15 New York Budget Bill. This proposed reform is sweeping and, if enacted, is likely to result in major changes for many New York corporate taxpayers. This installment of Inside the New York Budget Bill examines the Budget Bill's nexus provisions, which may have limited impact on current New York taxpayers but will significantly affect corporations that do not currently pay Franchise Tax but have customers in New York. The next installment of this series will address net operating losses and credits.

This installment of Inside the New York Budget Bill examines the Budget Bill's nexus provisions. Although these provisions may have limited impact on current New York taxpayers, they will significantly affect corporations that do not currently pay Franchise Tax but have customers in New York.

The New Economic Nexus Standard

It is well established under current law that a corporation must have a physical presence in New York to be subject to tax under Article 9-A or Article 32, with just a few exceptions. The Budget Bill proposes to significantly expand the number of corporations that are subject to tax in New York by adopting an economic nexus standard (in addition to the current physical presence nexus standard). For purposes of Article 9-A, a corporation would be subject to tax if it is "deriving receipts from activity in [New York]." As discussed in prior installments, the Budget Bill would repeal Article 32.

A corporation is deemed to be "deriving receipts from activity in [New York]" if it has $1 million or more of receipts included in the numerator of its apportionment factor, as determined under the Budget Bill's apportionment sourcing rules (New York receipts). See part three of this series for a discussion of sourcing changes and a summary chart of the Budget Bill's significant sourcing rules. For example, a corporation selling digital products will be taxable in New York (regardless of where it is physically present) if it has at least $1 million in sales to customers with IP addresses in New York; a corporation selling services may be taxable in New York (regardless of where it is physically present) if it has at least $1 million in sales to customers with billing addresses in New York, even if the service was performed in another state; and a corporation receiving interest on loans secured by real property will be taxable in New York (regardless of where it is physically present) if it has at least $1 million in interest receipts from loans secured by real property in New York even if the solicitation, investigation, negotiation, final approval and administration of the loans occurs elsewhere.

The Budget Bill retains the current economic nexus standards for certain credit card corporations, subjecting such corporations to tax if they (1) have issued credit cards (including bank, credit, travel and entertainment cards) to 1,000 or more customers with a mailing address within New York (New York customers); (2) have 1,000 or more locations in the state covered by merchant customer contracts to which the corporation remitted payments for credit card transactions (New York merchant locations); or (3) have New York customers plus New York merchant locations totaling 1,000 or more.

The Budget Bill also has special rules for corporations included in combined reporting groups. (For a discussion of the Budget Bill's combined reporting rules, see part one of this series.) Under those rules, if a corporation does not meet the $1 million threshold itself, but has at least $10,000 of New York receipts, the $1 million test would be applied to that corporation by aggregating the New York receipts of all members of its combined reporting group having at least $10,000 of New York receipts. Similarly, a credit card corporation that has at least 10 New York customers, at least 10 New York merchant locations, or at least 10 New York customers plus merchant locations would be subject to tax in New York if the total number of New York customers and/or New York merchant locations for all members of its combined reporting group that have at least 10 New York customers, New York merchant locations, or New York customers plus merchant locations is 1,000 or more.

If the Budget Bill is adopted, many out-of-state corporations may, for the first time, find themselves subject to New York's taxing jurisdiction solely by reason of meeting the Budget Bill's bright-line economic nexus thresholds. For example, the Budget Bill provides an 8 percent rule for sourcing receipts from certain financial transactions (discussed in part three of this series). As a result, a corporation that has $1 million or more of New York receipts based on the requirement to assign 8 percent of, say, net interest from reverse repurchase agreements to New York will now have New York nexus even if the corporation does not have any other contacts with New York.

Out-of-state corporations should carefully consider the economic nexus implications of certain receipts sourcing elections available in the Budget Bill. For example, the Budget Bill provides taxpayers the option of sourcing receipts from "qualified financial instruments" (generally, financial instruments that are marked to market under section 475 of the Internal Revenue Code) either using a fixed percentage (8 percent, which reflects New York's relative gross domestic product) or based on customer location (billing addresses in the case of individuals or commercial domicile in the case of business entities).

The Inevitable Constitutional Challenges

Although states have wide latitude in imposing their tax jurisdiction, that jurisdiction to tax is limited by the Due Process and Commerce Clauses of the U.S. Constitution. There is an open question as to whether having economic nexus with a state—with no physical presence whatsoever—is sufficient for a state to impose tax. The Due Process Clause requires some "minimum connection" between the state and the person it seeks to tax. The Due Process nexus requirement will be satisfied if a person has purposefully directed its activities at the taxing state. The Commerce Clause, on the other hand, is more restrictive and requires a "substantial nexus" between the state and the person it seeks to tax. Although it is clear that a person must have a physical presence in a state to have substantial nexus there for sales and use tax purposes, the degree of contact that a person must have with a state to meet the substantial nexus standard for net income (or other business activity tax) purposes is not so clear. While this issue has not been litigated in New York, it has been litigated in a number of state courts and tribunals, and the results have been divided, with some courts concluding that a physical presence is necessary to create substantial nexus for net income tax (or other business activity tax) purposes and others concluding that an economic presence is sufficient to create substantial nexus for income and other business activity tax purposes. The Supreme Court of the United States has yet to weigh in on this issue and may never do so. However, federal legislation (the Business Activity Tax Simplification Act of 2013) has been introduced that would establish a physical presence nexus standard for net income and other business activity tax purposes.

Absent Supreme Court of the United States or congressional action, questions may arise regarding the extent to which (if at all) New York can constitutionally tax corporations pursuant to this new economic nexus standard. Can New York constitutionally tax an out-of-state corporation that generates more than $1 million of New York receipts from the licensing of intangible property if that property is used by its customers' customers in New York? At least one state court has concluded that such tangential revenue-raising activity is not sufficient to give rise to taxable nexus. Similarly, can New York constitutionally tax an out-of-state corporation that generates more than $1 million of New York receipts from selling tangible personal property over the Internet to customers in New York? At least one federal court has found that merely having customers in a state does not satisfy the Due Process nexus requirement. Those and other similarly situated taxpayers may want to consider challenging the Budget Bill's proposed economic nexus thresholds on Due Process and/or Commerce Clause grounds if enacted.

Members of a combined reporting group should also consider whether the economic nexus aggregation rules are unconstitutional to the extent they create nexus for certain members of a combined reporting group based on the New York contacts of other members of the combined reporting group. The aggregation rules appear to extend the concept of "attributional nexus" beyond the limits of what has been sanctioned by the Supreme Court of the United States, which has approved attributional nexus only in situations where a person conducted in-state activities that were significantly associated with the out-of-state corporation's ability to establish and maintain a market in the state.

Corporate Partner Nexus

Based on a current regulation, an out-of-state corporation is subject to tax in New York if it is a general partner in a partnership doing business in New York, or if it is a limited partner in a partnership (other than a portfolio investment partnership) doing business in New York and meets one of 10 enumerated circumstances, including ownership of more than a 1 percent limited partnership interest, the basis of which is more than $1 million.

The Budget Bill grants the New York State Department of Taxation and Finance (the Department) the authority to adopt regulations that provide that a corporation is subject to tax in New York if it is any type of partner in a partnership that is doing business in New York or that has economic nexus with New York, thereby providing the Department with authority to expand the scope of its existing corporate partner nexus regulation.

This proposed change closely mirrors (with the exception of the economic nexus aspect discussed below) New York City's corporate partner nexus rule, which does not contain an exception similar to New York State's for corporate limited partners that hold less than a 1 percent limited partnership interest with a basis of not more than $1 million.

As with economic nexus, the potential expansion of New York State's corporate partner nexus provisions may subject many additional out-of-state taxpayers to New York State's taxing jurisdiction. Although the New York Tax Appeals Tribunal has affirmed the constitutionality of New York's corporate partner nexus provisions (and applied those provisions to a passive member of a limited liability company), New York's highest court has not yet ruled on this issue. Thus, out-of-state corporations whose only connection with New York is ownership of a limited partnership or a limited liability company doing business in New York may want to consider challenging the Budget Bill's proposed expansion of New York's taxing authority by asserting that the mere ownership of a limited partnership or limited liability company—particularly in a situation where the partnership's or limited liability company's only connection with New York is economic nexus—does not create sufficient nexus with the state as required by the Due Process and Commerce Clauses based on the principles discussed above.

Fulfillment Services Exception

Under current law, a corporation is not taxable in New York solely by reason of using fulfillment services provided by an unrelated person (a person with whom the corporation has 5 percent or less common ownership) and storing inventory at the fulfillment provider's premises. For this purpose, fulfillment services are (1) the acceptance of orders electronically or by mail, telephone, telefax or Internet; (2) responses to consumer correspondence or inquiries electronically or by mail, telephone, telefax or Internet; (3) billing and collection activities; or (4) the shipment of orders from an inventory of products offered for sale by the out-of-state corporation.

The Budget Bill would eliminate the fulfillment services exception, meaning that out-of-state corporations using unrelated New York fulfillment service providers could become taxable in New York if the corporation stores inventory on the premises of the fulfillment provider or otherwise meets the economic nexus thresholds. The current fulfillment services exception encourages out-of-state corporations to use the services of New York companies; repeal of this exception may cause some out-of-state corporations to reconsider their operations and use fulfillment centers in neighboring states instead.

Economic Nexus for Groups with P.L. 86-272- Protected Members

Out-of-state corporations whose activities fall within those described in 15 U.S.C. §§ 381-384 (P.L. 86-272) are not subject to a state's income tax, regardless of whether the state employs a physical presence standard or an economic nexus standard. However, P.L. 86-272-protected companies should carefully consider the combined effect of the Budget Bill's economic nexus provisions, combined reporting regime and apportionment provisions (which reflect a "Finnigan" approach).

Imagine a unitary group consisting of three corporations that have 100 percent common ownership: (1) a retailer of tangible personal property that itself is protected from New York taxation by P.L. 86-272 (Vendor); (2) an intangibles holding company that owns and licenses copyrights and trademarks (IHC); and (3) an entity that performs cash management functions for the group (Internal Bank). If either the IHC or the Internal Bank have economic nexus with New York under the new provisions (for example, if the Internal Bank is required to assign 8 percent of certain receipts to New York; see discussion in part three of this series) then each member of the group will be included in the combined report and the Vendor's attributes (including its income and receipts) will be included in the computations regardless of its P.L. 86-272 protection.

Alien Corporations

Under Article 9-A, alien corporations (corporations organized in a jurisdiction outside of the United States) are currently subject to tax on their worldwide income. In a departure from current law, the Budget Bill provides that an alien corporation that has no "effectively connected income" under the Internal Revenue Code is not subject to tax.

New York City

Currently, New York City's nexus provisions are substantially similar to the State's current regime (with the exception of the corporate partner nexus provisions discussed above). The Budget Bill's nexus provisions would not automatically affect New York City's regime, resulting in certain taxpayers being subject to tax at the New York State but not the New York City level. Of course, even without these provisions, there are many corporations subject to New York State taxation that do not conduct activities in New York City and are not subject to tax there.

Please click here to read Part Three of this series.

Please click here to read Part Two of this series.

Please click here to read Part One of this series.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement

    Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of www.mondaq.com

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

    Disclaimer

    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

    Registration

    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

    Cookies

    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

    Links

    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

    Mail-A-Friend

    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

    Emails

    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .

    Security

    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at enquiries@mondaq.com.

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions