United States: Michigan Enacts Corporate Income Tax Legislation Clarifying Treatment Of Unitary Business Groups, Net Operating Losses

Michigan recently enacted four corporate income tax laws that clarify and make technical changes to existing statutes.¹ The legislation amends and clarifies provisions concerning unitary business groups, the carryover of net operating losses following a corporate reorganization, the location of ultimate destination for purposes of sourcing sales, investment tax credit recapture, the small business alternative credit and domestic international sales corporations. Most of the amendments are retroactively effective to the inception of the Michigan corporate income tax (CIT), which was adopted on January 1, 2012.

Unitary Business Groups

Existing law provides that each U.S. person included in a unitary business group or included in a combined return must be treated as a single person, and all transactions between the members of the unitary business group must be eliminated from the corporate income tax base and the apportionment formulas.² For tax years beginning on or after January 1, 2014, all transactions between the members must also be eliminated for purposes of determining exemptions, credits and the CIT filing threshold.³

When apportioning a unitary business group's income, the sales factor includes the sales in Michigan of every person included in the group without regard to whether the person has nexus with Michigan.⁴ Sales between persons in a unitary business group must be eliminated in calculating the sales factor. As amended, for tax years beginning on or after January 1, 2012, sales between a taxpayer and a flow-through entity unitary with that taxpayer must, to the extent of the taxpayer's interest in the flow-through entity, be eliminated in calculating the sales factor.⁵ Sales between flow-through entities that are unitary with the same taxpayer must, to the extent of the taxpayer's interest in the selling flow-through entity, be eliminated in calculating the sales factor.⁶ Prior to amendment, the eliminations were not limited to the taxpayer's interest in the flow-through entity.

Net Operating Loss Following Reorganization

Under the CIT, a taxpayer may deduct any available business loss incurred on or after January 1, 2012.⁷ However, the original statute was silent as to whether a taxpayer acquiring the assets of another corporation could succeed to the business loss attribute of the acquired corporation. As amended, for tax years beginning on or after January 1, 2012, a taxpayer that acquires the assets of another corporation in a transaction described under Internal Revenue Code (IRC) Section 381(a)(1) or (2) may deduct any business loss attributable to that distributor or transferor corporation.⁸

Ultimate Destination for Sourcing Sales

For purposes of sourcing sales to Michigan, sales of tangible personal property are sourced to Michigan for purposes of the sales factor if the property is shipped or delivered, or, in the case of electricity and gas, the contract requires the property to be shipped or delivered, to any purchaser within the state based on the ultimate destination at the point the property comes to rest regardless of the free on board point or other conditions of the sales.⁹ As amended, for tax years beginning on or after January 1, 2012, property stored in transit for 60 days or more prior to receipt by the purchaser or the purchaser's designee, or in the case of a dock sale not picked up for 60 days or more, is deemed to have come to rest at an ultimate destination.¹⁰ Property stored in transit for fewer than 60 days prior to receipt by the purchaser or the purchaser's designee, or in the case of a dock sale picked up before 60 days, is not deemed to have come to rest at an ultimate destination.

Investment Tax Credit Recapture

For tax years beginning on or after January 1, 2012, legislation amends the calculation of the amount that must be added back to a taxpayer's CIT liability if the taxpayer claimed an investment tax credit under the former Single Business Tax (SBT) or a compensation and depreciation credit under the Michigan Business Tax (MBT) for tangible assets the taxpayer sold or transferred out of Michigan.¹¹ The taxpayer must recapture the sum of the following three amounts:

• Gross proceeds or benefit derived from the sale or other disposition of tangible assets, other than mobile tangible assets, minus the gain, multiplied by the apportionment factor, and plus the loss, multiplied by the apportionment factor, from the sale or other disposition reflected in federal taxable income;
• Gross proceeds or benefit derived from the sale or other disposition of mobile tangible assets minus the gain and plus the loss from the sale or other disposition reflected in federal taxable income, multiplied by the apportionment factor; and
• Federal basis used for determining gain or loss as of the date of the transfer of tangible assets, other than mobile tangible assets, from Michigan.¹²

Each of these three components is amended to clarify that the amount must be multiplied by the rate at which the credit was used and to the extent the credit was used under the SBT or MBT.¹³ Previously, this computation did not include an adjustment for the extent the credit was used under the MBT. This clarification benefits taxpayers by not requiring the addition of unused MBT credits.

Small Business Alternative Credit Amended

The small business alternative credit that currently is provided by Michigan law contains limitations on the compensation and directors' fees of a shareholder or officer.¹⁴ "Officer" is defined as the chairperson of the board; the president, vice president, secretary or treasurer of the corporation or board; or persons performing similar duties and responsibilities to these persons.¹⁵ For tax years beginning on or after January 1, 2012, the definition is amended to provide that the activities of persons performing similar duties and responsibilities must include, at a minimum, major decision making.16

Domestic International Sales Corporation Exemption

For tax years beginning on or after January 1, 2012, an exemption from the CIT is provided for a person that qualifies as a domestic international sales corporation (DISC) as defined by IRC Section 992.¹⁷ The exemption applies to the portion of the tax year that the DISC election is in effect.¹⁸

Commentary

Many of the changes contained in this legislation are characterized as technical corrections that clarify existing provisions. For this reason, most of the changes are retroactively effective to the inception of the CIT, which was enacted on January 1, 2012. Some of the CIT technical corrections contained in this legislation are similar to technical corrections that were made to the MBT in previous legislation covering the 2008 through 2011 taxable years. For example, MBT legislation was enacted last year concerning the carryover of losses following a corporate reorganization and the ultimate destination test for sourcing sales of tangible personal property.¹⁹ With respect to the net operating loss provision, the amendment clarifies that a taxpayer acquiring a corporation may utilize business losses originally incurred by that corporation if the acquisition is described in IRC Section 381(a)(1) or (2), which covers a significant number of corporate transactions. As for the ultimate destination test, the amendment clarifies that items that have been stored for less than 60 days are not deemed to have come to rest at their ultimate destination, meaning that if a sale of a product to a customer outside Michigan is made by a seller subject to the CIT, and such product is temporarily stored at an in-state warehouse, the seller may source the sale outside Michigan if the product is moved outside Michigan before the 60-day period expires. The amendment to the investment tax credit is designed to prevent the recapture of MBT credits that were not actually used. Many of these clarifications may be beneficial to taxpayers and should be carefully considered.

The clarification to the sales factor elimination provision for flow-through entities is consistent with existing law. Michigan law provides that the numerator of the sales factor includes the taxpayer's proportionate share of the total sales in Michigan of a flow-through entity that is unitary with the taxpayer.²⁰ Similarly, the denominator of the sales factor includes the taxpayer's proportionate share of the total sales everywhere of a flow-through entity that is unitary with the taxpayer.²¹ The sales factor elimination provision is clarified to limit the subtraction to the extent of the taxpayer's interest in the flow-through entity. Otherwise, the taxpayer could eliminate more than its proportionate share of its sales with the flow-through entity.

Footnotes

1 Act 13 (H.B. 5008), Act 14 (H.B. 5009), Act 15 (H.B. 5010), Act 16 (H.B. 5011), Laws 2014.

2 MICH. COMP. LAWS § 206.691(1).

3 Act 14 (H.B. 5009), Laws 2014, amending MICH. COMP. LAWS § 206.691(1).

4 MICH. COMP. LAWS § 206.663(2).

5 Act 15 (H.B. 5010), Laws 2014, amending MICH. COMP. LAWS § 206.663(2).

6 Id.

7 MICH. COMP. LAWS § 206.623(4).

8 Act 13 (H.B. 5008), Laws 2014, amending MICH. COMP. LAWS § 206.623(4). IRC Section 381(a)(1) and (2) provides for the carryover of certain attributes such as net operating losses to a corporation that acquires assets from another corporation in a distribution to which the liquidation provisions in IRC Section 332 apply, or a reorganization described in IRC Section 368(a)(1)(A), (C), (D), (F) or (G).

9 MICH. COMP. LAWS § 206.665(1)(a).

10 Act 13 (H.B. 5008), Laws 2014, amending MICH. COMP. LAWS § 206.665(1)(a). The statute provides that "dock sale" means a sale in which the purchaser uses its own or rental vehicles, or makes arrangements with a carrier, to pick up the property at the seller's location. MICH. COMP. LAWS § 206.665(1)(a)(i). "Stored in transit" means storing, staging, forwarding or consolidating activities undertaken for further shipment or transfer of the property to the purchaser or purchaser's designee. MICH. COMP. LAWS § 206.665(1)(a)(ii).

11 Act 16 (H.B. 5011), Laws 2014, amending MICH. COMP. LAWS § 206.673(2); H.B. 5011: Summary of Bill Reported from Committee, Michigan Senate, Jan. 21, 2014.

12 Id.

13 Id.

14 MICH. COMP. LAWS § 206.671(1).

15 MICH. COMP. LAWS § 206.671(9)(g).

16 Act 13 (H.B. 5008), Laws 2014, amending MICH. COMP. LAWS § 206.671(9)(g).

17 Act 15 (H.B. 5010), Laws 2014, amending MICH. COMP. LAWS § 206.625(1)(d).

18 Id.

19 Act 605 (S.B. 1037), Laws 2013.

20 MICH. COMP. LAWS § 206.663(1).

21 Id.

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