4 1 10pm - state & local taxation

State Tax Issues facing Banks and Financial Services Companies

Moderator‐Ron Copher, CFO/EVP Glacier Bank

Panel‐Bridget Foster, Partner, Deloitte Tax LLPArt Tilley, Senior Manager, Deloitte Tax LLPMark Nachbar, Prinicipal, Ryan

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State Tax Issues facing Banks and Financial Services CompaniesTopics For Discussion

Introductions

Legislative Trends:• Special Industry Sourcing, MTC Financial Institutions Initiative• Market sourcing, adoption of Finnegan, economic nexus• Oregon, Michigan, Ohio, Pennsylvania, Massachusetts• Broadening Sales tax base

Controversy Issues:• MTC audit activity• Forced combination• Transactions; disconnect between IRS and state treatment

Q&A

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Legislative Updates and Trends

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues‐Sourcing

Multistate Tax Commission (MTC) – promotes uniformity among states MTC Financial Institution apportionment rules were adopted in 1994; a working

group comprised of industry and state representatives was established in 2007 to review the rules and recommend updates based on industry changes

The working group has made recommendations concerning the receipts apportionment factor

The working group is currently focused on the property factor; particularly the application of SINAA for sourcing loans. The group found that sourcing loans under the SINAA test was too subjective to effectively administer.

The income/franchise subcommittee passed a motion directing the working group to abandon SINAA, and to only include real and tangible personal property in the property factor.

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues‐Market SourcingOne approach to “market” sourcing is to source receipts of services to "where the customer receives the benefit" of the services performed.MTC proposed rule – source services to where “delivered”Reality is that market sourcing can be difficult to apply regardless of whether based on location of delivery, client benefit or something else. Based on terms of the contract?Location from where request for service is made/ordered?Based on a look through to the client's customer's location?Location from which customer is billing and/or domiciled?

What level of analysis is required by a seller?Consider complex services that appear to benefit an entire organization —Where is the “benefit received” if the customer/client is a multistate (or multinational) company?

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues‐Market SourcSales Factor Sourcing ‐ Trends States that have adopted market sourcing include:

Alabama (starting 2011) Arizona (elective starting 2014) California (mandatory starting 2013, mandatory market if single‐sales factor election madenon‐financials in 2011 & 2012) Illinois (starting 2008) Massachusetts (effective for tax years beginning on or after January 1, 2014) Michigan (starting 2008 for MBT, 2012 for CIT) Nebraska (starting 2014) Oklahoma (regulation change July 2010) Pennsylvania (effective for tax years beginning on or after January 1, 2014) Utah (starting 2009) Washington (Business & Occupation Tax starting June 2010) Wisconsin (starting 2009) New Jersey (proposed rule)

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues‐Joyce v. Finnigan

• Fundamental question is whether the group as a whole is the taxpayer for purposes of establishing nexus or each individual member of the combined group is evaluated separately.

• Principal issue is throw‐back; are sales thrown back based on whether the selling member has nexus in the destination state or if any member of the group has nexus in the selling state?

• If Joyce state (throw‐back based on selling member’s nexus), then sales into state by member not having nexus in the state are not in the sales factor numerator

• If Finnigan state (throw‐back based on nexus by any member), then sales are included in numerator so long as one member has nexus in the state

• States expanded nexus rules are reducing the situations where sellers do not have nexus.

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State Tax Issues facing Banks and Financial Services Companies Legislative IssuesOregon Tax Haven Legislation, Requires Income of Certain Unitary Foreign Affiliates to be Included in Oregon Consolidated Return.

Oregon currently requires a corporate taxpayer doing business in Oregon to file a consolidated corporate excise tax return that generally includes unitary affiliates that are included in the taxpayer’s federal consolidated return. By virtue of using the federal consolidated return as its starting point, the Oregon consolidated return is effectively a “water’s edge” unitary group return.

Effective for tax years beginning on or after January 1, 2014, HB 2460 will require taxpayers to include in Oregon taxable income the taxable income or loss “of any corporation that is a member of a unitary group and that is incorporated in” a listed foreign jurisdiction. Such corporations are generally excluded from the federal consolidated income tax return and, accordingly, were not historically included in the Oregon consolidated excise tax return. If a foreign corporation’s income is included under this provision, its apportionment factors will also be included in determining the Oregon apportionment

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues

Michigan financial institution taxOnly notable change from MBT setting (through 2011) into the CIT setting (2012 forward) is slight change in definition of “financial institution”. Unitary group continues to include flow through entities. Franchise tax rate is unchanged.Net capital for a unitary business group is computed using average of the current year and five prior years for each member of the group.

FAQs detail the computation of net capital in the look‐back period following mergers and acquisitions.

An RAB addressing the inclusion of a group member’s negative equity is still pending.

Pennsylvania bank shares taxEquity capital was historically computed using average of current year and five prior years.

The computation of equity capital following merger is unclear (Lebanon Valley Farmers Bank v. Commonwealth, pending before PA Supreme Court).

Tax reform legislation (Act 52 of 2013) eliminates averaging concept and determines bank equity capital based on the preceding calendar year end, effective for tax years beginning on January 1, 2014.

The legislation also modifies the apportionment formula to use a single receipts factor which adopts market‐based sourcing and lowers the tax rate.

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Ohio replaces Corporate Franchise tax and Dealer in intangible tax with Financial Institution Tax• Effective 1/1/14• Levied on financial organizations that are organized for profit and doing business in Ohio or that

otherwise have nexus in or with Ohio• “Financial institution" is defined as: bank organizations; holding companies of a bank organization,

or nonbank financial organizations that engages in business primarily as a small dollar lender.• Levied on the total Ohio equity capital of financial institutions in proportion to the taxpayer's gross

receipts sitused in Ohio. Situs will be based on either where a taxpayer's customers are deemed to benefit from the taxpayer's services or where the taxpayer's regular places of business are located.

• Rate will be 0.8% on the first $200 million in apportioned total equity capital, 0.4% for each dollar of apportioned equity capital greater than $200 million and less than or equal to $1.3 billion, and 0.25% on apportioned total equity capital in excess of $1.3 billion

• Apportionment factor that will be used will be based upon the gross receipts generated by the financial institution. Gross receipts will be sitused to Ohio in the proportion that the customers' benefit in Ohio with respect to the services received bears to the customers' benefit everywhere with respect to the services received.

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Massachusetts – Treatment as and Apportionment of a Financial Institution• First Marblehead Corporation v. Commissioner of Revenue, Massachusetts Appellate

Tax Board, Nos. C293487, C305217, C305240, C305241, April 17, 2013,• Corporation purchased and serviced student loan portfolios• This activity was determined to be in “substantial competition with a financial

institution”• Thus, corporation was treated as a financial corporation, and entitled to apportion its

income under the apportionment formula proscribed for financial institutions.

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State Tax Issues facing Banks and Financial Services Companies Legislative Issues‐Broadening of Sales Tax Base

Broadening of Sales Tax Base: Minnesota• Effective for sales made after June 30, 2013, the definition of taxable sales and

purchases are expanded to include the following: • Specified digital products. These include digital audio works, digital audiovisual works

and digital books that are transferred electronically or on tangible medium.• Repair and maintenance of electronic and precision equipment such as computers,

monitors, photocopying machines, printers, televisions and stereo systems if deducted as a business expense under the Internal Revenue Code.

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Controversy Issues

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• MTC AuditsThe Multistate Tax Commission (MTC) serves as an operating arm of member states

through the Joint Audit Program. Member states pool their resources to select candidates for corporate income, sales and use, franchise, and gross receipts tax audits.

The Commission's audit staff performs these audits as though they were part of a state's own audit staff, forwarding their findings and recommendations to the member states for assessment and collection at the completion of the audit.

• MTC Audit experiences:Additional combined filingsNexus in additional states

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Alabama• Aggressively combining on audit

• Including investment, bankruptcy remote and other special purpose companies

• Applying bank apportionment factor to other non‐bank entities

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New York• New York State has been actively proposing combination on audit• In the Matter of Interaudi Bank f/k/a Bank Audi (USA), N.Y. Tax App. Trib. (4/14/11)

The New York Tax Appeals Tribunal affirmed that an in‐state commercial banking corporation must include its Delaware investment holding subsidiary within its state combined report for Article 32 bank franchise tax purposes to eliminate income distortion created from claiming an interest deduction on its combined report that was attributable to assets held by the investment holding subsidiary.

• New combined return regulations, Article 9A, for tax years beginning on or after January 1, 2013.

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North Carolina, combined reporting statute

H.B. 619, effective Jan. 1, 2012, establishes process for Department to eliminate intercompany transactions and/or require combined reportingForced combination available when Department has reason to believe that corporation conducts its trade or business in a manner that fails to accurately report its state income carried on in North Carolina through the use of

transactions that lack economic substance, orintercompany transactions that are not at fair market value

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North Carolina, combined reporting statute

Transaction has economic substance if:

The transaction, or the series of transactions of which the transaction is a part, has one or more reasonable business purposes other than the creation of North Carolina income tax benefits, and

The transaction, or the series of transactions of which the transaction is a part, has economic effects beyond the creation of North Carolina income tax benefits

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• State treatment of gains and losses related to sales, restructuring or other transactions is varied.

• Separate return states don’t have context for adopting federal consolidated return regulations.

•States differ in approach to adoption of the federal consolidated return regulations (“CRRs”):

• Some states adopt essentially all the CRRs• Some states adopt some of the CRRs

• Usually the deferred intercompany transaction rules under Reg. §1.1502‐13 and occasionally some of the other rules

• Some states are silent regarding the adoption of the CRRs

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Combined Returns and the Federal Consolidated Return RegulationsStates that do not adopt the deferred intercompany transaction rules under Reg. §1.1502‐13 generally provide for the “elimination” of intercompany transactions

• Little guidance on what it means to eliminate an intercompany transaction• Presumably, no deferred gain and basis carries over

• If a consolidated election is made in Florida, the CRRs are followed except that intercompany transactions may be taken into account for apportionment purposes

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Combined Returns and the Federal Consolidated Return RegulationsSome provisions of the CRRs (beyond § 1.1502‐13) that can impact the combined tax liability

Investment adjustments to stock basis under Reg. § 1.1502‐ 32Reg. § 1.1502‐ 80

Turns off IRC § 304 for acquisitions of stock in intercompany transactionsTurns off IRC § 357(c) (gain for liabilities in excess of basis for certain tax‐free transactions) in intercompany transactions

Reg. § 1.1502‐ 90 through 99 dealing with the application of IRC § 382 (limitation on NOLs following an ownership change)Reg. § 1.1502‐ 34 aggregates ownership of subsidiary by members of the group for purposes of meeting 80% ownership test in

IRC § 351IRC § 332

Even if CRRs are not applicable, gains may be avoided under state’s intercompany elimination rules, but not always

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Combined Returns and the Federal Consolidated Return Regulations

CRRs do not provide for deferral of intercompany transactions between a member of the group and a partnership in which a member is a partnerCal. Reg. § 25137‐1 generally provides for elimination of intercompany sales for apportionment factor purposes from corporations to and from partnerships to the extent of the corporation’s ownership interest in the partnership Uncertain application where the transaction is between a partnership that has a partner that is a member of the group but the transaction is with a member that is not a partner

FTB Notice 2011‐01Advises that certain arrangements with a partnership involving “abusive sales factor manipulation” are “tax avoidance transactions” and “listed transactions”Notice describes arrangements or transactions designed to improperly inflate the sales factor denominator and thereby reduce a taxpayer’s California apportionment percentage.

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Questions and Answers

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CONTACTSBridget Foster , Partner, Atlanta Deloitte Tax LLP404‐942‐6510, [email protected]

Arthur Tilley, Senior Manager, CharlotteDeloitte Tax LLP704‐887‐1551, [email protected]

Mark L. Nachbar, Prinicipal, Downers Grove, ILRyan630.515.0477 [email protected]

Ron Copher, CFO/EVPGlacier Bank(406) 751‐[email protected]

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This presentation contains general information only and the speakers and their respective firms are not, by means of this presentation, rendering accounting, business, financial, investment, legal, tax, or other professional advice or services. This presentation is not a substitute for such professional advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified professional advisor. The speakers and their respective firms shall not be responsible for any loss sustained by any person who relies on this presentation.

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4 1 10pm - state & local taxation

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