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Malloy Signs Connecticut Budget, Many Tax Increases Remain

July 10, 2015

Tony J. Switajewski, CPA, Tax Partner, State and Local Taxes

Doug A. Joseph, CPA, Tax Partner, State and Local Taxes

On June 30, 2015, following up on its regular session ending on June 3, 2015, the Connecticut General Assembly passed a $40 billion biennium budget (Senate Bill, 1502, a budget implementation bill, amending House Bill 7061), and the governor has signed it. The budget is expected to significantly increase revenues over the next two years (July 1, 2015 through June 30, 2017), largely by raising taxes and canceling previously approved tax exemptions, tax cuts and phase-outs. Strong opposition to the tax increases contained in the original bill by the business community, which, in part, was led by some of Connecticut’s largest employers as well as by the Connecticut Business & Industry Association (CBIA), resulted in a rollback in budgeted tax increases of $178 million. The budget also holds spending growth to 3.9% in 2016 and 3.0% the following fiscal year. The budget includes the largest investment in transportation infrastructure in Connecticut’s history and, for the first time, will provide municipalities with a revenue source other than property taxes.

As the final budget was signed on June 30, we expect that further clarification will be provided by the Connecticut Department of Revenue Services in the coming months. As we receive additional information, we will send updated communications.

Following is a brief summary of the budgeted tax legislation that has the broadest application:

Corporation Business Taxation: 

  • Surcharge Extension: The 20% corporation income tax surcharge is extended until 2018 (the 20% surcharge remains for 2015, 2016 and 2017) along with a 10% surcharge commencing on January 1, 2018 (corporations with less than $100 million in annual gross income are exempt from the surcharge unless they file a combined return or unitary report).
     
  • Net Operating Loss Limitation: Effective for tax years beginning on or after January 1, 2015, a limitation is placed on the amount of net operating losses (NOLs) that corporations may carry forward to the lesser of (1) 50% of net income or, for companies with taxable income in other states, 50% of the net income apportioned to Connecticut; and (2) the excess of the NOL over the NOL being carried forward from prior income years. It is observed that (1) there are currently no suspension provisions; and (2) as a result of the 50% limitation, certain corporations may not be able to monetize their research credits under the state’s research credit exchange program.
     
  • Tax Credit Limitation: Effective for tax years beginning on or after January 1, 2015, the limitation on the utilization of the amount of tax credits that a corporation may use to reduce its corporation tax liability is reduced from 70% to 50.01% of the corporation’s tax liability (this limitation also applies to the hospital tax liability, effective July 1, 2015).
     
  • Unitary Taxation Required: Effective for tax years beginning on or after January 1, 2016  (the original budget included a retroactive effective date of January 1, 2015), Connecticut will be the final New England state to require large affiliated and closely held multiple corporations (including those incorporated in a “tax haven” unless a legitimate business purpose for such tax haven can be proven), that are related through common ownership and are engaged in a unified business, to compute their Connecticut corporation business tax on a combined basis rather than on a standalone basis. Effective in 2016, all of the New England states, as well as New York State and New York City now require unitary businesses to compute their tax based on the aggregated taxable income of all the related corporations, whether or not all of the corporations of the group are doing business in their state. In addition, mandatory unitary reporting is being considered in New Jersey and Pennsylvania. Throughout the United States, approximately 25 states utilize mandatory unitary combined reporting, which is heavily concentrated in the midwest and west. For Connecticut tax purposes, the unitary taxation legislation only applies to regular corporations (so called “C Corporations”) and not to S Corporations or other pass-through entities, such as partnerships and limited liabilities companies.
     
  • Apportionment Methodologies Remain: Although there was some discussion during this legislative session to change Connecticut’s approach to sourcing service and intangible revenue from a performance to a market-state methodology for corporations and pass-through entities (such as partnerships and S corporations), no legislation was enacted; however; it is our understanding that this may be considered in future legislation.

Sales and Use Taxation: 

  • General Sales and Use Tax Rate RemainsAlthough there were proposals to reduce the general sales and use tax rate, the general sales and use tax rate will remain at 6.35%; however, a portion of the sales and use tax collected will be dedicated to certain endeavors (i.e., shared with municipalities and for transportation funding).
     
  • Sales and Use Tax Return Due Date: The sales and use tax return filing due date is restored back to the last day of the month following the month covered by the return rather than the 20th day of the month. This is effective for taxable periods ending on or after December 31, 2015.
     
  • Luxury Item Sales and Use Tax Rate Increase: The sales and use tax rate on “luxury items” is increased from 7% to 7.75% with respect to  motor vehicles costing $50,000 or more, jewelry costing $5,000 or more and clothing, footwear and accessories costing $1,000 or more, applicable to sales occurring on or after July 1, 2015. There have been no changes in items that are taxable.
     
  • Computer and Data Processing Services Tax Rate and Affiliate Exemption: The sales and use tax rate on computer and data processing services will remain at 1% and will not be increased to 3% as originally proposed. Furthermore, the original bill included a computer and data processing service affiliation exemption.  This exemption would have allowed such services to be exempt if provided by a 50% or more affiliate whether the service was provided directly by the affiliate to the affiliated entity or indirectly as a purchase of computer and data processing services for resale to the affiliated entity.  However, this exemption has been eliminated along with the increase in the tax rate.
     
  • Website Services Taxable: The creation, development, hosting and maintenance of a website will now be taxable as computer and data processing services and subject to sales and use tax, effective October 1, 2015, at 1%.
     
  • Car Washing Taxable: Sales tax will now apply to car washes and car washing services, (both coin and non-coin operated) applicable to sales occurring on or after July 1, 2015. Therefore, retailers selling car washes and/or car washing services must now obtain a sales and use tax permit (See Connecticut Special Notice No. 2015(4), for detail guidance)
     
  • Clothing: The sales tax holiday held each August (August 16 through 22, 2015) for items of clothing and footwear would be limited to items costing less than $100, instead of $300. Outside of the sales tax holiday period, clothing and footwear costing less than $50 will continue to be taxable (they were scheduled to become exempt July 1, 2015).
     
  • Accounting and Tax Services: Although certain accounting and tax services were included as taxable services in the original budget bill, these services were removed from the legislation and continue to be exempt services.
     
  • Parking: Charges for motor vehicle parking in seasonal parking lots and hospital garages are taxable as of July 1, 2015, but only for non-metered lots with 30 or more parking spaces. Certain employer-provided parking is exempt.
     
  • Water Company Purchases: Certain water company purchases of goods and services will be taxable as of July 1, 2015. Previously, an exemption was provided for such purchases.
     
  • Rental Surcharge Tax Expanded: The legislation expands the 1.5% machinery rental surcharge, which is currently applicable to rentals for 30 days or less of heavy construction, mining and forestry equipment without an operator, to apply to (1) all equipment a rental company owns (machinery and equipment is not defined by the statute) and (2) rentals of 364 days or less (i.e., less than a year), effective July 1, 2015. The imposition of this tax is limited to rental companies that generate at least 51% of their total annual revenue from rentals, excluding retail or wholesale rental equipment sales. (In general, the 1.5% tax applies to companies that (1) are in the business of renting cars, trucks or machinery; and (2) have a fleet of at least five cars, trucks or pieces of machinery in Connecticut).  

Individual and Trust/Estate Income Taxation: 

  • Individual Income Tax Rate Increase: The legislation increases the marginal personal income tax rate from 6.7% to 6.9% on individuals with taxable income over $500,000 for joint filers, $250,000 for single filers and married taxpayers filing separately, and $400,000 for heads of household, effective for tax years beginning on or after January 1, 2015 (retroactively). In addition, also effective for tax years beginning on or after January 1, 2015, the legislation imposes a new top income tax rate of 6.99% on individuals with taxable income over $1 million for joint filers, $500,000 for single filers and married taxpayers filing separately, and $800,000 for heads of household. (Legislation was enacted to exempt individuals from interest assessments due to any underpayment of estimated income tax (via withholding or estimated tax payments) as a result of the retroactive effective date to the beginning of 2015).
     
  • Pass-through Entity Withholding Tax Rate Increased:  The pass-through entity withholding tax rate applied to Connecticut source income of nonresident owners increased to 6.99%, effective January 1, 2015.
     
  • Trust and Estate Income Taxation Rate Increased: The legislation enacts a flat 6.99% (from 6.7%) income tax rate for trusts and estates, effective for tax years beginning on or after January 1, 2015.
     
  • Military Pay Exemption: All military retirement pay (currently a 50% exemption) will be exempt from income taxation, applicable to taxable years commencing on or after January 1, 2015 (e.g., the exemption applies to taxable federal retirement pay for retired members of the U.S. Army, Navy, Air Force, Marine Corps, Coast Guard and Air National Guard).
     
  • Property Tax Credit Reduction: The property tax credit against the personal income tax will be reduced from $300 to $200, commencing on or after January 1, 2016. The adjusted gross income threshold at which the property tax credit begins to phase out is reduced as well.
     
  • Miscellaneous Personal Income Tax Provisions: The legislation delays the scheduled increases for single filers of the personal income tax exemption and the income thresholds for phasing out personal exemptions and credits until 2016; delays the scheduled increase to the earned income tax credit (currently at 27.5%) until 2017; and establishes new tax rate benefit recapture schedules, effective January 1, 2015.
     
  • W-2 Reporting: The deadline for employers to file Form W-2, Wage and Tax Statement, with the Connecticut Department of Revenue Services is accelerated to January 31 (rather than February 28) of each year.  

Property Taxation: 

  • Motor Vehicle Mill Rate Cap: Applicable to assessment years beginning on or after October 1, 2015, municipalities and special taxing districts may tax motor vehicles at a different rate than other taxable property, and the motor vehicle rate is capped at 32 mills for the 2015 assessment year and 29.36 mills for the 2016 assessment year and thereafter.
     
  • Property Taxation on Non-Profit Entities: The budget bill will allow municipalities and towns to levy local property taxes on certain property owned by hospitals, health systems and colleges/universities. Such property was previously exempt from property taxation. For example, residential real property intended for or used as student housing (other than certain student dormitories) is now subject to property taxation. (Generally, the effective date for the above is October 1, 2015. However, see SB 1502 for further detail about the changes to the property taxation of such non-profit entities).
     
  • PILOT Program Reform: Legislation was enacted to reform the state’s Payment in Lieu of Taxes (PILOT) Program, which provides payments to municipalities to reimburse them for a part of the revenue loss for certain state, municipal and tribal property and private non-profit college and hospital property.

Estate and Gift Taxation: 

  • Estate and Gift Transfer Maximum Tax Liability: The legislation enacted a $20 million estate and gift tax cap on decedents (resident or non-resident) dying on or after January 1, 2016 and for gifts made in 2015. The estate and gift tax exemption remains at $2 million for Connecticut estate and gift tax purposes. Generally, the tax cap will affect taxable estates over $170.5 million.

Miscellaneous Taxes and Provisions: 

  • Insurance Premium Tax: The legislation extends the temporary cap on the maximum insurance premium tax liability that an insurer may offset through tax credits until 2017.
     
  • Insurance Reinvestment Act Credit: The insurance reinvestment act credit is revised.
     
  • Film and Digital Media Production Tax Credit: The legislation extends the temporary moratorium on issuing film and digital media production tax credits for certain motion pictures to June 30, 2017.  The moratorium bars the issuance of tax credit vouchers for motion pictures that were not designated as state-certified productions before July 1, 2013 and excludes motion pictures that meet certain criteria.

    The carryforward period for film tax credits issued after July 1, 2015 is extended. For film production tax credit vouchers issued on or after July 1, 2015, all or part of any such credit may be claimed for the income year in which the production expenses or costs were incurred, or in the five (5) immediately succeeding income years. Under current law, tax credits authorized after January 1, 2006 must be claimed in the year in which the expenses occurred or the next three (3) income years.
  • Neighborhood Assistance Act Credit Cap: Effective July 1, 2017, the annual cap on Neighborhood Assistance Act tax credits is raised from $5 million to $10 million. This credit is not applicable to pass-through entities such as S corporations or partnerships.
  • Urban and Industrial Sites Reinvestment Program: Effective July 1, 2015, the urban and industrial sites reinvestment tax credit cap is increased from $800 million to $950 million.
     
  • Cigarette Tax: The cigarette tax is increased from $3.40 to $3.65 per pack on October 1, 2015, and from $3.65 to $3.90 per pack on July 1, 2016. A 25 cent floor tax is imposed on inventory of a dealer or distributor as of September 30, 2015 and June 30, 2016.
     
  • Ambulatory Surgical Center Gross Receipts Tax: A 6% gross receipts tax will be imposed on Department of Public Health-licensed and Medicare-certified ambulatory surgical centers, effective for quarters beginning on and after October 1, 2015. The first $1 million in gross receipts will be exempt each fiscal year, and net patient revenue of a hospital subject to the hospital tax will also be exempt (to avoid double taxation).

Other: 

  • State Tax Study Group:  As a result of 2014 tax legislation, a mandated 15-member group, with varying experience in taxation, was created with the responsibility of reviewing Connecticut’s state and local tax structure. The group has been meeting during 2015 and has hired an outside consultant to assist in reporting its findings to the governor and legislatures by the beginning of 2016. The group is considering and evaluating options to modernize Connecticut’s tax policy, structure and administration. Whether any substantive recommendations will be reported in light of the recent tax legislation is not certain.
     
  • Commission on Economic Competitiveness: A commission is established to analyze the implications of state tax policy on state business and industry and evaluate tax changes in the budget. The commission will include representatives from the business community. It is anticipated that members of the commission will begin to study the impact that unitary taxation and the limitation of net operating losses will have on Connecticut-based businesses.
     
  • First Five Plus Program: The sunset date of the “First Five Plus” economic development program has been extended to June 30, 2016.  In general, the program authorizes the state to provide tax incentives, loans and other forms of economic assistance to businesses that commit to create jobs and invest capital.
     
  • Connecticut Department of Revenue Services Announces that the State Tax GAP Initiative is a Success: The Department of Revenue Services Commissioner Kevin Sullivan recently announced that an initiative targeting the state’s tax gap has collected over $85.8 million. This revenue was largely derived through audit tax resolutions, using newly available federal tax data, making enhancements in automated collection scoring, refusing sales tax permit renewals to delinquent taxpayers and increasing enforcement.

HB70161 and SB 1502—Budget Bill:

For access to the budget bill and the bill analysis, please visit the Connecticut General Assembly website http://www.cga.ct.gov/and search for House Bill 7061 and Senate Bill No. 1502 in the Quick Bill Search box (at the bottom of the website).

The above summary does not cover all of the legislation that was enacted and of the legislation that was enacted all of the details have not necessarily been provided. Therefore, you are encouraged to contact your BlumShapiro tax engagement professional about how any enacted tax changes will affect you. If you would like to speak directly with Tony Switajewski, he may be reached at (860) 561-6810 or at tswitajewski@blumshapiro.com.Doug Joseph may be reached at (860) 561-6829 or at djoseph@blumshapiro.com.

Disclaimer: Any written tax content, comments, or advice contained in this article is limited to the matters specifically set forth herein. Such content, comments, or advice may be based on tax statues, regulations, and administrative and judicial interpretations thereof and we have no obligation to update any content, comments or advice for retroactive or prospective changes to such authorities. This communication is not intended to address the potential application of penalties and interest, for which the taxpayer is responsible, that may be imposed for non-compliance with tax law.

 

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