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
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
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 (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

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 or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq 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 of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

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