Discussion:SCC and state residence question

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Discussion Forum Index --> Basic Tax Questions --> SCC and state residence question


Discussion Forum Index --> Tax Questions --> SCC and state residence question

Www.cpa1.biz (talk|edits) said:

11 July 2008
Almanacers,

I hope all is well. I am really having trouble with this. If a taxpayer is a resident of one state and has income (wages, rental income, business income, etc.) in other states, he/she still has to report it all in their resident state and does not have to report any of this in the other states.

I have called VA,DC and MD to verify this and they pretty much they agree. AGI is brought down to the resident state regardless of where it is from if the person lived there the whole year. If it is part year, then it is different.

It is this pretty much true and what you all see?

Regarding the State corporation commission (SCC), where does a tax return for a business LLC or corporation have to be filed?

1) Is it the state the LLC is set up? If it is the state where the LLC is set up, I assuming like question 1 above, if the owner is not a resident of the state the LLC is set up, then the income would be passed down to their resident state from their federal AGI.

2) Could the business tax return be prepared in the resident's state even though the LLC is in another state?

3) If it is a partnership or Scorp, where would this be filed?????

Many questions I am hoping you all have some guidance on.

Take care,

bj

Death&Taxes (talk|edits) said:

11 July 2008
You are on two different levels here. For individuals, the reciprocity you find in VA, MD and DC does not exist in other areas. NJ and PA reciprocate, but NY & DE reciprocate with neither. PA & MD reciprocate but NJ & MD do not. There is no hard and fast rule.

Once you delve into business taxation, there is no hard and fast rule and each case is on its own. Read some the comments about situations where an LLC in another state has an active California member.

You are trying to make hard and fast rules where none exist.

KatieJ (talk|edits) said:

11 July 2008
If a taxpayer is a resident of one state and has income (wages, rental income, business income, etc.) in other states, he/she still has to report it all in their resident state and does not have to report any of this in the other states.

Brian, you're already off on the wrong track. Your statement above is the exact opposite of the truth. While there are no hard and fast rules, as D&T says, there are some general principles. They are a little different for individuals than for business entities.

For individuals, this is how it really works. States can, and most do, tax residents on all of their income, from all sources. (There are a few states that allow residents to apportion out some business income from out of state sources.) In addition, states can, and most do, tax nonresidents on all income arising from sources within the state. Thus an individual who is a resident of State A and has income from a source in State B (such as wages for services performed there, property, or business carried on in that state) must report and pay tax to both states on that income.

The resulting double taxation is generally mitigated by one of several mechanisms. The most common is a credit granted by the residence state for the tax paid to the source state, limited to the proportion of the resident state tax that relates to the "double taxed" income. A few pairs of states stand in a reverse credit relationship, whereby the source state grants the credit. CA and AZ are an example of such a reverse credit relationship. Another mechanism is a reciprocal agreement, such as those between VA and MD, PA and MD, NJ and PA, etc. Under those agreements, an individual residing in one state and working in the other pays tax only to the state of residence. These agreements generally apply ONLY to wages for services performed in the nonresident state; they usually do not apply to income from business activities, rental property, etc. located in the nonresident state. Usually the source state will tax that income regardless of the reciprocal agreement, and the residence state will allow credit for the tax paid to the source state.

The state corporation commission or department of corporations generally has nothing to do with the filing of income tax returns. Generally annual reports, often accompanied by a nominal fee, are required of business entities that are organized or qualified to do business in the state, and such reports are usually filed with the corporations commission. Business tax returns are filed with the state tax authority. Requirements for registration of a foreign entity (one organized outside the state) with the corporations commission may be different from the requirements for filing an income tax return or an information return for a flowthrough entity.

For a Subchapter C corporation, or an LLC electing to be taxed as a C corporation, which is a taxpayer in its own right, a return is generally required if the entity has due process/commerce clause nexus in the state and is not protected from income taxation by federal law (Public Law 86-272). A return may be required in the state of incorporation, but if there is no business carried on there, no tax measured by income will be imposed (there may, however, be a fixed-dollar minimum tax in the state of incorporation). A state cannot tax income arising from out-of-state activities. Usually income is apportioned among the states where the business is carried on by a mathematical formula. The historic formula, still in use in 13 or 14 states, is the equally-weighted average of three factors: in-state property to property everywhere, in-state payroll to payroll everywhere, and in-state sales to sales everywhere. The modern trend is to place more weight on sales than on the other factors; many states "double weight" the sales factor, and a number of states have adopted or are moving to a single factor of sales. Theoretically there should be no overlap, but due to the differences among state formulas it is likely that less or more than 100% of a multistate business's income will be subject to state taxation.

DP/CC nexus exists if there is a physical presence (e.g., employees, representatives, property) in the state. In addition, DP/CC nexus may exist without a physical presence if the entity is engaging in activities that create and maintain a market for its products or services in the state. This is known as economic nexus. The U.S. Supreme Court has so far declined to rule on the constitutionality of economic nexus. Some states will assert it, some will not.

Public Law 86-272 (the Interstate Income Act of 1959, 15 U.S.C.A. ยงยง381-384) protects certain businesses that have DP/CC nexus from state taxes on or measured by income. A state cannot impose such a tax on a business whose activities in the state are limited to the solicitation of sales of tangible personal property, where the orders are sent out of the state for approval and the property is shipped to the purchaser from outside the state.

For flowthrough entities (FTEs) such as S corporations, partnerships, and LLCs taxed as partnerships, the rules are a little different. Most states follow the federal flowthrough treatment of these entities, but some states tax them at the entity level just like a C corporation, while others do both -- impose an entity-level tax and also tax the owners on the flowthrough income. Generally an information return must be filed by an FTE in a state if the FTE is organized or qualified to do business there, if it has DP/CC nexus and is not protected by P.L. 86-272, and sometimes if it has one or more resident owners there. If the flowthrough character of the entity is followed by the state, all of the owners, resident and nonresident, are also taxpayers in the state. For purposes of determining a nonresident owner's source income from an FTE doing business in the state, generally the apportionment rules described above are applied. Again, if the nonresident owner is an individual, the individual must file a return and pay tax on his or her distributive share of the FTE's income apportioned to that state. Usually the individual's residence state will allow credit for the tax paid to the source state.

I hope this helps. There are a number of other discussions on this board having to do with nexus and apportionment issues. I have a detailed teaching outline on state taxation of flowthrough entities that I would be glad to e-mail to you if you'll put your address on my talk page.

Www.cpa1.biz (talk|edits) said:

12 July 2008
Katie and D&T,

Thanks so much for the info. I appreciate the time you put to break down my questions.

Www.cpa1.biz (talk|edits) said:

12 July 2008
Katie,

I am starting to think about what you are talking about in the partnerships apportionment of income from a nonresident state. The thing is a parnter would get a K-1. There is nothing on the K-1 that would show the partner, where the partnership is established to pay the state accordingly.

Are you saying that the partner would have to find what state the partnership is established to pay taxes to that state. Also, like you said above, if the partnership is established in one state but all of the service provided by the partner is in a different state than where the partnership is established, would the partner pay income tax to state where they work if their resident state is different and take the offsetting credit or any other mechanism that the resident state allows.

I understand the C-corp info and the individual info.

Thanks,

KatieJ (talk|edits) said:

12 July 2008
Brian, in your example, let's assume that all of the states where the partnership is doing business treat it as a flowthrough entity (as most do). The partnership would file an information return in each state where it has operations. Each partner would receive a K-1 FOR EACH STATE. The K-1 would tell the partner how much of his distributive share of the partnership's income is taxable in that state. A large multistate partnership may give each partner a schedule showing how much income is taxable in each state where the partnership does business, in lieu of a stack of state K-1s. The partner reports 100% of his distributive share as taxable income in his state of residence (assuming it imposes a comprehensive individual income tax), and files a nonresident return in each of the other states. Many states require the partnership to withhold state income tax on the distributive shares of the nonresident partners; in that case, the K-1 or schedule will tell the partner how much was withheld for each state, and the partner can claim that as a credit against the tax due to that state. Generally the residence state will allow credit for the taxes paid to the other states, except for reverse credit relationships and other differences.

Most states will allow (and some require) the partnership to file a composite nonresident individual income tax return on behalf of the nonresident partners, particularly those who have no other income from sources within that state. In that case the partnership is responsible to pay the tax on behalf of the nonresident partners. Each will receive a schedule from the partnership showing the amount of tax that was paid on his behalf, and can claim credit on his resident state return for that amount.

For a personal service partnership, such as an accounting, law, or consulting firm, the partners may receive guaranteed payments in addition to their distributive shares of the partnership's income net of the GPs. In most states the GP is treated exactly like the distributive share for sourcing purposes; i.e., instead of allocating the GP to the location of the particular partner's office, the GP is apportioned among the states in the same way as the distributive share. California has a special rule for such partnerships whereby 60% of an active partner's income from such a partnership (including both GP, if any, and distributive share) is treated as if it were payroll for apportionment formula purposes, and assigned to the numerator of the factor at the partner's principal office location. California for many years also allocated 60% of the partner's income to the office location, so a nonresident partner would pay California tax on only an apportioned share of 40% of his partnership income; however, the other states never went along with that, and that provision was repealed a number of years ago.

So the short answer to your question is: the information comes to the partner from the partnership.

Www.cpa1.biz (talk|edits) said:

12 July 2008
Katie,

This is great information. Thanks for the 101. Other than what you have given me by email, what book do you advise for pass through entity multistate law. I see there is one from CCH.

Thanks again...and have a nice weekend

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