Advising Multinational Corporations on U.S. State and Local Tax Issues
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As published in Journal of Multistate Taxation and Incentives Advising Multinational Corporations on U.S. State and Local Tax Issues By Christopher J. Hopkins, CPA, Partner and A. Michael Wargon, J.D., LL.M. of Crowe Horwath LLP Audit | Tax | Advisory | Risk | Performance
For foreign (that is, non-U.S.) companies, failure to consider state and local tax implications when deciding to do business here can have costly consequences.
Advising Multinational Corporations
on U.S. State and Local Tax Issues
The ever-changing myriad state and local tax laws and regulations are complicated
Christopher J. Hopkins, CPA enough for U.S.-based companies trying to keep track of them for compliance
and partner, and A. Michael purposes. For companies based in other countries, though, U.S. compliance can
Wargon, J.D. and LL.M., are with be truly befuddling. Foreign (that is, non-U.S.) companies often are unaware of the
the accounting firm of Crowe multiple levels of tax they must navigate in the U.S., and they fail to consider state and
Horwath LLP in the firm’s New local tax implications when deciding to expand to the U.S. With states hungrier than
York City office. Mr. Hopkins ever for revenue, this misstep can have costly consequences.
has previously written for The
Journal. This article appears in State tax issues have become especially pressing for multinational companies. States
the Journal of Multistate Taxation view audits as a means to generate revenue, as opposed to a compliance evaluation
and Incentives, Vol. 24, No. 4, measure, and they focus their efforts accordingly. Taxing authorities are more
July 2014, and is reproduced with sophisticated than ever when it comes to information-sharing, and sometimes engage
permission. Published by Warren, in multistate audits with other taxing jurisdictions. A state also might initiate an audit
Gorham & Lamont, an imprint with a taxpayer regarding one tax type and subsequently examine other types. Foreign
of Thomson Reuters. Copyright companies without the guidance and knowledge to challenge state tax assessments
© 2014 Thomson Reuters/Tax & are especially vulnerable to such initiatives.
Accounting. All rights reserved.
Before a foreign company expands to the U.S., it must understand the complex U.S.
tax regime, the types of taxes at issue, and how to plan accordingly.
The Unusual U.S. Tax Regime
Every country has its own tax rules and lexicon, and the U.S. is no different.
But doing business in the U.S. is decidedly more complicated because of its
multiple levels of taxation.
In most countries, tax laws generally are legislated and administered on a federal or
central basis. In the U.S., though, more tax types are administered at the state and local
level. Among the U.S. states, counties, and municipalities, more than 6,000 different
jurisdictions impose some fee or excise that can be labeled a tax. For example, the New
York State Department of Taxation and Finance website lists more than 20 different tax
types, and that is without taking city and county taxes into consideration.1
The dichotomy between federal and state taxation has its roots in the idea that the
federal government was created by the states, which existed before a central government
was formed. States reserved the right to tax and raise revenue independently as long
as their laws did not conflict with federal constitutional standards. Although cities and
other local jurisdictions in other countries also levy area-specific taxes, those taxes are
usually authorized by their respective federal governments. Conflicts between federal
and local legislation are minimal in those countries, and administration is somewhat
centralized. Viewing the U.S. system in the same manner is a mistake that can lead to
unanticipated costs, administrative delays, and significant tax liabilities.
Moreover, in the U.S., state and local taxes are not insignificant. In total, they
can often exceed federal obligations and can be even greater for multinational
companies, whose federal taxable income might be reduced for various reasons.
All the more reason for multinational companies to explore the state and local tax
consequences of doing business in the U.S.
www.crowehorwath.com 3Crowe Horwath LLP
Different Types of State Taxes
Before analyzing any specific state and its tax laws, executives of foreign companies
must understand the typical categories of U.S. state taxes and their underlying concepts.
The “income earned” model of the personal income tax in most states is fairly similar
to the federal income tax and to the personal income tax regimes in most countries.
Individuals are taxed at graduated rates, and most wages are subject to withholding
by employers.
State corporate income taxes are a mixed bag. Many states employ a fairly typical
corporate income tax similar to the federal system and the systems used in most
developed countries. Currently, about half the states impose a non-income-based
franchise tax, either in conjunction with or in lieu of an income tax. Such a tax is
imposed for the privilege of doing business in the state and is generally based on
apportioned capital, net worth, or other non-income metric.2
In recent years, some states have replaced their net income taxes with non-income-
based levies – for example, the (new) Texas franchise tax, also known as the Texas
“margin” tax or TMT, and Ohio’s “commercial activity tax” (CAT).3 Like the Washington
state business and occupation (B&O) tax and the Delaware gross receipts tax, the
measure of these taxes is not net income but, rather, gross receipts from the sale of
products or services, the value of a business’s transactions, or some other modified
tax base. Gross receipts taxes are imposed on the seller and are similar to a privilege
tax with limited deductions. It is important to recognize that taxes based on gross
receipts are not sales taxes, even if the same sale is used to measure both the seller’s
gross receipts tax liability and the purchaser’s sales or use tax liability.
The entire system of sales and use taxes also can seem mystifying. Many countries
outside the U.S. impose a transfer tax, but often in the form of a value added tax (VAT).
The hallmark of a VAT is a tax on every transfer of property, combined with a credit
mechanism for sequential transfers of the same property. By contrast, sales taxes in
the U.S. are imposed only on sales to end users and are at higher rates than typically
apply in a VAT context.
Real property taxes are a fairly common tax type in both the U.S. and abroad. Real
estate transfer taxes, such as a mortgage recording tax, also must be considered.
In addition, approximately 30 states impose a tax on businesses’ tangible
personal property.
Unclaimed property liability, while technically not a tax, is an area that has become
increasingly important for companies to consider. All states have laws regulating
the reporting and remitting of unclaimed or abandoned property to the respective
jurisdictions. A significant source of funds for many states, the field of unclaimed
property (also known as “escheat”) concerns the requirement that, after a period of
time established by statute, businesses holding such property report and remit the
property to the appropriate state government. Given that many companies incorporate
in Delaware for various legal and tax reasons, what Delaware views as unclaimed
4Advising Multinational Corporations
on U.S. State and Local Tax Issues
property must be considered by such companies, because aggressive enforcement
(coupled with dubious estimation techniques) make escheat a major source of revenue
for that state.4
Finally, foreign companies must be aware of certain industry-specific taxes (for
example, telecom, alcohol, and fuel) that might affect their U.S. expansion plans.
The Role of Nexus
While a detailed discussion of constitutional nexus concepts is likely more
information than a foreign company needs, a basic explanation of various nexus-
creating factors can help multinational companies determine how to structure their
U.S. businesses. Moreover, focusing on specific actions and activities that likely
will create nexus seems more appropriate to this discourse than delving into the
constitutional and case law underpinnings.
Federal laws require that a state have “substantial nexus” with a seller before it can
require that seller to collect sales or use tax. The definition of “substantial nexus” can
be the subject of contentious debate but, for the imposition of sales and use taxes, the
term generally means having a physical presence in a state, whether through an office,
employee, salesperson, contractor, or other tangible circumstance.5 Thus, owning or
leasing real or tangible personal property in a state usually is sufficient to establish
nexus for sales and use tax purposes. Depending on the state, certain other common
activities are also defined as creating nexus.
Having nexus for sales and use tax purposes does not necessarily mean a taxpayer
will be subject to a state’s income tax regime, and vice versa. Under the Interstate
Commerce Tax Act (codified at 15 USC Sections 381 to 384, and commonly referred
to by its 1959 enacting legislation, P.L. 86-272), a state may not impose a tax based
on or measured by net income on an out-of-state business whose only activity in the
state is the solicitation of orders for sales of tangible personal property, provided such
orders are approved and filled by shipment from outside the state. P.L. 86-272 does
not protect other types of activities in a state, nor does it apply to solicitation of orders
for sales of intangible property, real estate, or services. In today’s economic climate,
companies that sell only tangible property are likely in the minority.6
Moreover, P.L. 86-272 does not offer protection from a tax not based on a company’s
net income. Thus, gross receipts taxes are not subject to the protections of P.L.
86-272. A taxpayer with even minimal activity within a state could likely find itself
subject to any non-income-based taxes imposed by the state or local jurisdiction.
With regard to income tax jurisdiction, a number of states have reached beyond the
traditional view of nexus toward an “economic nexus” standard in which physical
presence is not required as long as there is an “economic” connection to the state. The
licensing of a trademark has been held to be sufficient for creating income tax nexus for
the owner of the trademark.7 Solicitation efforts related to banking and financial services,
and products directed into a state, also have been deemed to create economic nexus.8
www.crowehorwath.com 5Crowe Horwath LLP
The activities of subsidiaries or agents can result in “agency” or “affiliate” nexus.9
Recently, several states have generated headlines by asserting that an out-of-state
online vendor has sales and use tax nexus if the vendor enters into an agreement
with a state resident who, for a commission or other consideration, refers potential
customers to the out-of-state vendor via a link on an Internet website.10 For now,
the U.S. Supreme Court seems reluctant to accept a case that challenges the
constitutionality of these laws.11 Without clear separation between an out-of-state
seller and an affiliate’s in-state activities, a state could make a case for nexus.
Companies must understand which activities in specific states can trigger nexus and
for which specific tax. Consider, for example, Netherlands-based “Foreign Co.,” which
is debating whether to hire a salesperson to market and sell its widgets in New York.
The company is concerned that these activities will subject it to New York’s corporate
income tax. A discussion of the parameters of the safe harbor activities outlined in P.L.
86-272 and in the U.S. Supreme Court’s opinion in Wisconsin Department of Revenue
v. William Wrigley, Jr., Co.12 would help the company understand which activities can
be performed without triggering nexus for the corporate income tax.13
Foreign Co. must also recognize that, despite being protected from the corporate
income tax under P.L. 86-272, these same activities will create nexus for purposes of
New York’s sales and use tax, thus requiring the company to register as a vendor and
to collect and report the tax. The company might wish to avoid the sales and use tax
issue entirely, in which case ways to sell to the New York market without generating
income tax or sales tax nexus would need to be explored. And Foreign Co. must be
advised of the implications of affiliate nexus with regard to seemingly independent
contractors it might use in New York.
Foreign companies must be cognizant of state and local nexus as their activities in the
U.S. expand and as state and local nexus rules continue to change.
Income Taxes
Various considerations come into play for foreign businesses with regard to state
income taxes. These include the interplay between state and local tax laws and
international tax treaties, federal versus state reporting, and apportionment of income.
The Interplay Between State and Local Tax Laws and International
Tax Treaties
U.S. taxation of the income of foreign companies generally is guided by two sources:
(1) the Internal Revenue Code (IRC), and (2) tax treaties between the U.S. and particular
foreign countries.
Under the IRC, a foreign corporation engaged in trade or business in the U.S. can be
taxed on its taxable income that is effectively connected with the conduct of a trade or
business within the U.S.14 In addition, a 30% flat rate withholding tax on a gross basis
applies to fixed or determinable, annual or periodical (FDAP) income from U.S. sources
but not connected with a U.S. trade or business. FDAP income includes interest,
dividends, rents, royalties, and similar types of income from investments.15
6Advising Multinational Corporations
on U.S. State and Local Tax Issues
The U.S. has bilateral income tax treaties with 60-70 different countries that can
modify the provisions of the IRC.16 Tax treaties are designed to reduce the possibility
of double taxation and to allocate between governments the right to tax international
transactions. Tax treaties also serve as a way to entice foreign companies to invest
and do business in the U.S. For these reasons, treaties often will reduce, and may even
eliminate, federal statutory tax rates. For example, the U.S.-Netherlands treaty reduces
the 30% withholding rate on dividends to 15% and exempts interest and royalties
completely for those recipients qualifying for benefits under the treaty.17
Treaties also can exempt business profits that are connected to a U.S. trade or
business. Under most income tax treaties, foreign companies that do not have a
“permanent establishment” (PE; generally, a fixed place of business) in the U.S. will not
be subject to U.S. federal income tax on business profits.
Treaties usually define a PE as an office or other fixed place of business that is used
for other than specified, exempt purposes; also, the existence of persons exercising
authority on behalf of the company can be deemed a PE. The U.S.-Netherlands tax
treaty, for example, defines a PE as “a fixed place of business through which the
business of an enterprise is wholly or partly carried on.”18 In general, a treaty will
list specific activities that may be carried on at a fixed place of business without
creating a PE. For example, an office, factory, or workshop is a PE, but the use of a
facility solely for the purpose of storage, display, or delivery of goods belonging to the
business is not.19
Foreign companies operating in the U.S. must understand that despite receiving
protection under a federal income tax treaty, state and local income taxes often still
apply.20 It is entirely possible to have a situation where a foreign company is exempt
from federal income taxation because of a treaty or because the company does not
meet the IRC’s “effectively connected” standard but remains subject to state and
local taxes.
To illustrate, our Netherlands-based “Foreign Co.” uses a warehouse in New York to
store inventory that will be sold to U.S. customers. Under the U.S.-Netherlands treaty,
the use of the warehouse will not create a PE because it is a facility used “solely for
the purpose of storage ... or delivery of goods.”21 Under New York’s nexus standards,
however, a warehouse holding inventory qualifies as having a physical presence in the
state.22 Accordingly, New York can impose taxes on Foreign Co.
Although the federal government has the right to enter treaties barring a state from
imposing state-level taxes on foreign companies,23 it exercises this power in only
limited circumstances.24 Treaties typically will apply only to federally administered
taxes. For example, the U.S.-Netherlands treaty applies to “the Federal income taxes
imposed by the Internal Revenue Code (but excluding social security taxes), and the
excise taxes imposed on insurance premiums paid to foreign insurers and with respect
to private foundations.”25 No mention is made of any state or local taxes.
www.crowehorwath.com 7Crowe Horwath LLP
States, of course, have the option of respecting the federal treatment of non-U.S.
companies. For example, Rhode Island’s current tax rules provide that if a foreign
corporation is included in a combined group for tax purposes, any income of the
foreign corporation subject to the provisions of a federal income tax treaty is not
includable in the combined group’s net income.26
Even in instances where state tax laws do not directly address whether the federal
treatment of foreign companies is respected, a state might ultimately end up with no
tax when applying its income tax rules to a non-U.S. company. The starting point for
taxable income in most states is federal taxable income; state-specific modifications
then increase or decrease that figure to arrive at state taxable income. IRC Section
894(a)(1) states: “The provisions of [the IRC] shall be applied to any taxpayer with
due regard to any treaty obligation of the U.S. which applies to such taxpayer.” The
associated regulations state that “[i]ncome of any kind is not included in gross income
and is exempt from tax ... to the extent required by any income tax convention to
which the United States is a party.”27 Accordingly, if a tax treaty exempts a foreign
company from any actual federal income tax liability, such foreign company’s federal
taxable income is arguably zero. Thus, for any state income tax regime referencing
federal income in a treaty scenario, the company’s income would equal zero.
Using, as an example, the U.S.-Netherlands treaty noted previously, Foreign Co., with
only a warehouse in Kentucky, may be exempt from federal income tax. Kentucky law
currently states that “gross income,” that is, the starting point in calculating taxable
income for Kentucky corporate income tax purposes, is “‘gross income’ as defined in
Section 61 of the Internal Revenue Code and as modified ... and adjusted [as specified
in the statutes].”28 Thus, absent any other guidance to the contrary, Foreign Co.’s
Kentucky taxable income could be zero.29
Some states do have specific provisions or other guidance to address this anomaly.
For example, although New York law references federal taxable income when
determining the starting point in computing tax, the relevant statute goes on to provide
that “[e]ntire net income shall include income within and without the United States.”30
The applicable regulation states that “in the case of a taxpayer organized outside
the United States, all income from sources within and without the United States less
all allowable deductions attributable thereto, which were not taken into account in
computing Federal taxable income” must be added to federal taxable income in
computing New York income.31 Essentially, any income that was not included for
federal tax purposes will still be included when calculating New York entire net income.
The New York Court of Appeals (the state’s highest court) has affirmed this treatment
despite treaty, constitutional, and case law challenges.32 Thus, a foreign company
would need to prepare a pro forma federal income tax return to determine its New York
state income tax obligations.
8Advising Multinational Corporations
on U.S. State and Local Tax Issues
Federal vs. State Reporting
For federal income tax purposes, with the exception of members of an affiliated
group of corporations that elects to file a federal consolidated income tax return,
every corporation must separately compute and report its tax.33 Filing a federal
consolidated return allows the group to offset losses of one affiliate against the
profits of other affiliates. This option is not available to non-U.S. corporate affiliates,
however, since only corporations organized in the U.S. are includable in such a
consolidated return.34 A foreign corporation operating in the U.S. needs to report only
income and deductions connected to its U.S. business and not the corporation’s
worldwide income.
States that impose a corporate income tax vary with regard to how commonly
controlled corporations are required to file returns. Some states require separate
company returns; others require either consolidated returns or mandatory combined
unitary reporting. The latter filing requirement can create complicated issues for
multinational companies operating in the U.S.
Depending on the state, a combined unitary report can take one of two general
approaches:
■■ Worldwide combination. The combined report includes all unitary affiliates,
regardless of the country in which the affiliate is incorporated or the country in
which the affiliate conducts business.
■■ Water’s-edge combination. The combined report includes all unitary affiliates
except for any affiliates that are incorporated in a foreign country and/or conduct
most of their business abroad. A common approach is to exclude so-called “80/20
corporations,” that is, corporations whose business activity outside the U.S., as
measured by some combination of apportionment factors, is at least 80% of the
corporation’s total business activity.
In states that require worldwide combined reporting, income of all corporate entities
comprising the multinational company’s unitary business is combined, and the total is
apportioned to the taxing state based on some combination of the group’s property,
payroll, and sales in the taxing state as compared with the group’s worldwide property,
payroll, and sales. The U.S. Supreme Court has upheld this approach as constitutional
and not in contradiction with any U.S. international conventions.35
In contrast to the federal consolidated return rules, the unitary business approach
generally is not limited to objective factors, such as percentage of ownership, to
determine whether companies are required to be included in a combined return.
Instead, to determine whether a unitary business exists, states typically look at a
number of subjective factors in addition to objective ownership thresholds (which can
be lower than the federal consolidated return rules), such as functional integration,
centralization of management, and economies of scale.
www.crowehorwath.com 9Crowe Horwath LLP
Multinationals structuring their operations in the U.S. must understand the different
reporting requirements. In addition to the increased tax liabilities that might be
imposed under state-specific reporting, the administrative burden created by
worldwide combined reporting can be onerous.36 More important, foreign corporations
understandably might prefer to keep details of their overseas operations confidential
from U.S. state taxing authorities.
Apportionment of Income
States use formulary apportionment to divide the income of businesses operating
in more than one state. The purpose of apportionment is to approximate the level of
in-state activity upon which tax may be imposed. Apportionment of income among
a resident country’s geographical locations is unique to the U.S., and states that
currently impose an income tax have differing apportionment rules. Foreign companies
should understand this system and how it affects the structuring of U.S. operations.
In 1957, the National Conference of Commissioners on Uniform State Laws (NCCUSL)
promulgated the Uniform Division of Income for Tax Purposes Act (UDITPA)37 in an
attempt to establish a set of rules that states could follow to fairly apportion and
tax the income of multistate businesses. The basic UDITPA model for formulary
apportionment gives each of three “factors” – payroll, property, and sales – equal
weight in the apportionment calculation.
Many states adopted UDITPA to varying degrees. In recent years, a significant number
of states have amended their apportionment formulas to place more weight on the
sales factor (in some cases, 100%), with a corresponding reduction in the weight
placed on the property and payroll factors. The lack of consistency among states
offers planning opportunities for substantial state income tax savings by properly
structuring a company’s interstate operations. The less weight placed by a state on
the property and payroll factors, the less impact that locating additional property
and payroll in that state will have on the state income tax. At the extreme, locating
additional property and payroll in a state that uses a sales-only formula has no effect
on the amount of income taxable in that state and may reduce tax liabilities in other
states that do use the property and payroll factors. (Conversely, a company can be
“whipsawed” if the apportionment rules work in the opposite direction – for example,
by having payroll and property in a state that considers these factors and making
substantial sales into sales-factor-only states.)
Structuring Considerations
Several options are available to help foreign companies operating in the U.S. minimize
state and local taxes, as well as avoid cumbersome and costly state tax reporting
requirements. Of course, it is also important to consider the impact any U.S. state and
local tax planning will have on a company’s non-U.S. and global tax profile.
10Advising Multinational Corporations
on U.S. State and Local Tax Issues
Most foreign companies operating in the U.S. will form a domestic corporate
subsidiary, primarily to protect the foreign parent from potential litigation and creditors.
A separate U.S. domestic corporation also can be helpful in a state tax context.
Foreign parents will not be included in tax returns for separate-reporting states and
can be excluded in consolidated-return states.
Unitary-combined states pose a bigger problem. In a water’s-edge jurisdiction,
carrying on foreign affiliates’ activities primarily outside the U.S. can protect non-U.S.
corporations from being included, even when a unitary business relationship exists. (In
New York, for example, the current combined reporting regime prohibits the inclusion
of foreign corporations.38) Thus, by placing U.S. business activities in a separate
U.S. corporation, the worldwide, non-U.S. income of an affiliated foreign corporation
generally becomes unreachable by states that employ a water’s-edge combination.
The foreign parent will not be subject to taxation even on dividends paid from its U.S.
subsidiaries; however, withholding taxes may apply.
Worldwide unitary-combined reporting jurisdictions sometimes provide taxpayers with
the option of electing to use a water’s-edge method of reporting. In states where this
option is not provided, taxpayers should consider using unrelated or partly owned
entities to conduct business in the state in order to protect the U.S. parent corporation
from having nexus with that state pulling in non-U.S. income.39 Alternatively, foreign
corporations may be able to assert that the separate U.S. and foreign entities are not
part of a unitary business.
Executives of a foreign company entering the U.S. should try to minimize their
company’s nexus footprint when exploring U.S. business opportunities. For example,
an executive’s physical presence in a state to negotiate a contract can trigger nexus
and subject the executive’s non-U.S. employer to state tax. To avoid this situation,
foreign companies intending to send executives to the U.S. might consider transferring
to a U.S. subsidiary the executives’ employment relationship and related payroll tax
withholding obligations. Employment agreements for any affected executives should
be documented appropriately. Subsequently, activities engaged in by these executives
in the U.S. will reflect back on only the U.S. subsidiary.
Owning inventory or property in a state also can trigger nexus for a foreign company.
The foreign entity should consider selling and transferring title to the property to a U.S.
affiliate prior to importing it to the U.S.
In structuring such arrangements, the importance of arm’s-length transactions cannot
be overstated. States, much like the federal government, generally have the power
to adjust intercompany pricing that is not considered to be at fair market value, and
many states have the ability to disregard transactions that are deemed abusive or lack
economic substance.40 Companies should consider the use of transfer pricing studies
to solidify any agreements that could be subject to challenge.41
www.crowehorwath.com 11Crowe Horwath LLP
Sales Tax vs. VAT
Non-U.S. companies must understand the unusual features of a state sales tax (and
the complementary use tax).42 While a comprehensive discussion of sales and use tax
is beyond the scope of this article, the following highlights the various ways in which
the sales and use tax differs from a value-added-style transaction tax, typical in many
foreign jurisdictions.
In contrast to a value added tax (VAT) regime, the sales tax does not involve a
cascading of taxes. In addition, the sales or use tax burden generally falls on the
ultimate consumer. Because the links along the chain of commerce are exempt from
charging and collecting sales tax (for example, states exempt sales for resale), the tax
rate imposed on the ultimate sale is much higher than the rate at which a typical VAT is
imposed. Among the 46 states and District of Columbia and their myriad localities that
impose a sales and use tax, the combined state and local tax rates range from around
3% to more than 9%. If such cost is not factored into a company’s pricing strategy,
expected profit margins might be significantly eroded. Non-U.S. companies also need
to understand that sales and use tax is not refunded, as is a VAT, on purchases of
goods that leave the country.
Some other notable features of the typical sales and use tax regime include:
■■ Form-over-substance generally dictates the tax treatment.
■■ Thousands of different local jurisdictions impose sales and use taxes.
■■ All tangible personal property is taxable unless specifically exempt.
■■ Certain exemptions may be based on the purchaser’s individual tax profile (for
example, whether the purchaser is a manufacturer, not-for-profit organization, or
government entity).
■■ Services generally are exempt unless specifically taxable.
■■ Sales and other transfers between affiliates often are taxable.
Even manufacturers and resellers of goods must be aware of the compliance
procedures associated with sales and use tax. Intermediaries throughout the chain of
commerce must collect exemption or resale certificates on their exempt sales or risk
being assessed for sales or use tax.43
Payroll Taxes; Incentives
As part of a foreign business’s U.S. expansion plans, foreign workers often are sent
to the U.S. for temporary assignments. While these workers might be exempt from
personal federal income taxes based on a treaty or the federal tax laws, they still
might be subject to an individual state’s personal income tax. These tax obligations
can fall on the workers’ employer in the form of withholding taxes. Complying with
state withholding requirements can be a complicated endeavor, because, for example,
foreign workers frequently do not have U.S. Social Security numbers. Foreign
companies should consider the possibility of deferring compensation for temporarily
assigned employees.
12Advising Multinational Corporations
on U.S. State and Local Tax Issues
In addition, non-U.S. sales personnel should be made aware of the generous trade
show exemptions allowed in certain states. That is, a foreign corporation (and its
employees) may participate in a trade show in a state for a limited period without
triggering tax consequences.44 Thus, such exemptions can permit executives to travel a
little more freely in the U.S. without concern that their actions will trigger a tax liability.
Inducements to Operate in Particular States
Many states offer a variety of incentive programs designed to encourage both domestic
and foreign companies to locate new facilities or expand existing facilities within their
borders. Multinationals should investigate such programs when determining the structure
and location of their U.S. subsidiaries.
Examples of these programs include industrial development bonds, assistance with
employee training, income tax credits (such as for capital investment and/or job
creation), property tax incentives offered by local governments (tax abatements,
reduced tax rates, and tax payment deferrals), and sales tax incentives (for example,
exemptions for machinery and equipment used in manufacturing). To encourage
business investment in economically distressed areas, many states offer special tax
and other benefits to companies that establish facilities within defined geographic
areas, typically referred to as “enterprise zones.”
Certain jurisdictions also provide exemptions from standard nexus considerations
to encourage specific activities. Various states provide that a foreign corporation
whose in-state activities are limited to investing or trading in securities or commodities
for its own account does not have nexus with the state for income or franchise tax
purposes.45 Such provisions are designed to, among other things, encourage offshore
investment funds to locate their operations here.46
Conclusion
U.S. state and local tax issues can present major obstacles for unwary multinational
corporations. Foreign companies considering entering or expanding their business in
the U.S. would be wise to do their homework and seek advice from state and local tax
practitioners as part of any preliminary deliberations on such expansion.
www.crowehorwath.com 13Crowe Horwath LLP
Endnotes
1
See the department’s website at www.tax.ny.gov/ (select “Tax Professionals” and click on “Taxes and reporting
requirements”). Of course, not all the taxes are applicable to all businesses.
2
To further confuse the issue, the franchise tax in some states (for example, California) is based on net income.
3
For more on these tax regimes, see Jackson and Wellington, “Major Tax Reform in Texas: An Overview of
the State’s New Margin Tax,” 16 J. Multistate Tax’n 8 (October 2006), and Sutton, Yesnowitz, Ford, Zins, and
Conley, “Ohio’s New Commercial Activity Tax: What It Means for Business,” 15 J. Multistate Tax’n 8 (February
2006).
4
For more on escheat, see, e.g., Hopkins and Hedstrom, “Unclaimed Property Laws: Custodial Safekeeping or
Disguised Tax?,” 21 J. Multistate Tax’n 22 (January 2012); Paolillo and Schaunaman, “Foreign Property and U.S.
States’ Unclaimed Property Laws,” 23 J. Multistate Tax’n 18 (October 2013); and Carr and DeVincenzo, “Don’t
Be Left Behind: Consider Delaware’s Unclaimed Property VDA Program Before It Expires,” 24 J. Multistate Tax’n
26 (May 2014).
5
See, e.g., Quill Corp. v. North Dakota, 504 US 298, 119 L Ed 2d 91 (1992), and National Bellas Hess, Inc. v.
Illinois Dept. of Revenue, 386 US 753, 18 L Ed 2d 505 (1967). These cases were discussed in Eule and Richman,
“Out-of-State Mail-Order Vendors Need Not Collect Use Taxes – Yet!,” 2 J. Multistate Tax’n 163 (Sep/Oct 1992).
Also see Nolan, “Crossing the Bright Line: Evaluating Physical Presence in Quill’s Shadow,” 7 J. Multistate Tax’n
244 (Jan/Feb 1998).
6
For more on P.L 86-272, see Wisconsin Dept. of Revenue v. William Wrigley, Jr., Co., 505 US 214, 120 L Ed 2d
174 (1992), which was analyzed in Marcus and Lieberman, “Does Wrigley Clarify ‘Solicitation’ for Purposes of
Taxing Interstate Commerce?,” 2 J. Multistate Tax’n 148 (Sep/Oct 1992). See also Lieberman, “MTC Guidelines
on P.L. 86-272 Implement the U.S. Supreme Court’s Decision in Wrigley,” 5 J. Multistate Tax’n 52 (May/Jun
1995).
7
See, e.g., Geoffrey Inc. v. South Carolina Tax Comm’n, 437 SE2d 13 (S.Car., 1993), cert. den. U.S.S.Ct.,
11/29/93, and Lanco, Inc. v. Director, Div. of Tax’n, 908 A2d 176 (N.J., 2006), cert. den. U.S.S.Ct., 6/18/07.
These cases were discussed in, respectively, Hammack, “Taxing Out-of-State Entities With Intangible Assets:
What Hath Geoffrey Wrought?,” 5 J. Multistate Tax’n 112 (Jul/Aug 1995), and Sollie and Gutowski, “New Jersey:
What Now for Intangible Holding Companies in the Wake of Lanco?,” 15 J. Multistate Tax’n 18 (January 2006).
8
See, e.g., Capital One Bank (USA), N.A. v. Comm’r of Revenue of Massachusetts, 899 NE2d 76 (Mass., 2009),
cert. den. U.S.S.Ct., 6/22/09 (discussed in U.S. Supreme Court Update, 19 J. Multistate Tax’n 41 (August 2009)),
and West Virginia Tax Comm’r v. MBNA America Bank, N.A., 640 SE2d 226 (W.Va., 2006), cert. den. sub nom.
FIA Card Services, N.A. v. Tax Comm’r of the State of West Virginia, U.S.S.Ct., 6/18/07 (discussed in Weiss,
“MBNA America Bank: A New Standard for Nexus in Income and Franchise Taxation?,” 17 J. Multistate Tax’n 8
(Mar/Apr 2007)).
9
Borders Online, LLC v. State Bd. of Equalization, 129 Cal App 4th 1179, 29 Cal Rptr 3d 176, 05 CDOS 4593,
2005 Daily Journal DAR 6278, 2005 WL 1274623 (1st Dist., 2005); the appellate court affirmed the lower
tribunal’s decision, which was discussed in Hull, “California: Affiliate’s Product-Return Services Created Nexus,”
12 J. Multistate Tax’n 33 (Mar/Apr 2002).
10
These “click-through nexus” provisions are commonly known as the “Amazon tax,” named after the world’s
largest Internet retailer. See, e.g., Temple-West, “States’ Online ‘Amazon Tax’ Fight May Land in U.S. Supreme
Court: Lawyers,” Reuters, 10/21/13, available online via “Patrick’s Feed” on the Reuters website at http://blogs.
reuters.com/patrick-temple-west/page/10/ (click on the article title).
11
See Overstock.com, Inc. v. N.Y.S. Dept. of Tax’n and Finance, U.S.S.Ct., Docket No. 13-252, cert. den. 12/2/13,
and Amazon.com, LLC v. N.Y.S. Dept. of Tax’n and Finance, U.S.S.Ct., Docket No. 13-259, cert. den. 12/2/13,
ruling below as Overstock.com, Inc. v. N.Y.S. Dept. of Tax’n and Finance, 20 N.Y.3d 586, 965 N.Y.S.2d 61, 987
NE2d 621 (2013), aff’g Amazon.com, LLC v. N.Y. State Dept. of Tax’n and Finance, 81 App Div 3d 183, 913
NYS2d 129, 2010 NY Slip Op 7823, 2010 WL 4345742 (1st Dept., 2010). This litigation was analyzed in Bingel
and Genz, “New York: High Court Upholds ‘Amazon Tax’ Provision for Internet Retailers,” 23 J. Multistate Tax’n
33 (July 2013).
12
Note 6, supra.
14Advising Multinational Corporations
on U.S. State and Local Tax Issues
13
P.L. 86-272, by its terms, applies specifically to “interstate commerce” and not directly to foreign commerce.
States are free to apply the same standards set forth in the law to business activities to ensure that foreign
and interstate commerce are treated equally. The Multistate Tax Commission has published a list of protected
and unprotected activities for purposes of P.L. 86-272. See “Statement of Information Concerning Practices
of Multistate Tax Commission and Signatory States Under Public Law 86-272,” available on the commission’s
website at www.mtc.gov (click on “Adopted Recommendations” and see “Model Policy Statements and
Guidelines”).
14
IRC §882(a).
15
IRC §881(a).
16
For a list of all bilateral income tax treaties, see “United States Income Tax Treaties – A to Z” on the IRS website
at www.irs.gov/Businesses (click on “International Businesses” and “Income Tax Treaties”).
17
U.S.-Netherlands Income Tax Treaty, Articles 10, 12, and 13. This treaty is available online via the IRS website,
supra note 16.
18
U.S.-Netherlands Income Tax Treaty, Article 5 (Permanent Establishment), ¶1.
19
U.S.-Netherlands Income Tax Treaty, Article 5 (Permanent Establishment), ¶¶2 and 4.
20
“The federal statutes and treaties ... concern problems of multiple taxation at the international level. ...
Concurrent federal and state taxation of income, of course, is a well-established norm. Absent some explicit
directive from Congress, we cannot infer that treatment of foreign income at the federal level mandates identical
treatment by the States.” Mobil Oil Corp. v. Comm’r of Taxes of Vermont, 445 US 425, 63 L Ed 2d 510 (1980).
21
U.S.-Netherlands Income Tax Treaty, Article 5 (Permanent Establishment), ¶4.
22
Tax is imposed on every corporation, domestic or foreign, for the privilege of doing business, employing capital,
owning or leasing property, or maintaining an office in New York, whether its activities result in a profit or a loss.
N.Y. Tax Law §209.1, 20 N.Y. Comp. Codes Rules & Regs. §§1-3.2(a)(1), (c)(1), and (f)(4).
23
Under the Supremacy Clause of the U.S. Constitution, (Art. VI, clause 2), that Constitution, along with other
federal law, is the “supreme Law of the Land,” binding on the courts of every state.
24
See, e.g., Japan Line, Ltd. v. County of Los Angeles, 441 US 434, 60 L Ed 2d 336 (1979).
25
U.S.-Netherlands Income Tax Treaty, Article 2 (Taxes Covered), ¶1(b).
26
R.I. Gen. Laws §44-11-45(b)(3), R.I. Reg. CT 12-15, Rule 7(a)(1)(A).
27
Treas. Reg. §1.894-1(a).
28
Ky. Rev. Stat. Ann. §141.010(12).
29
Most states provide guidance on their laws, regulations, and corporate income tax return instructions for
taxpayers exempt from federal income tax. Note that this “zero income” position has not been directly
addressed by Kentucky, and the state has held that federal exemptions, such as the exemption for domestic
international sales corporations (DISCs), are not binding on Kentucky.
30
N.Y. Tax Law §208.9(c).
31
20 N.Y. Comp. Codes Rules & Regs. §3-2.3(a)(9).
32
See Reuters Ltd. v. Tax Appeals Tribunal, 82 N.Y.2d 112, 603 N.Y.S.2d 795, 623 NE2d 1145 (1993), cert.
den. U.S.S.Ct., 6/27/94. (The New York Court of Appeals affirmed the Appellate Division’s ruling in Reuters;
that decision was discussed in McQueen, “New York: Worldwide Income Apportionment Upheld for In-State
Branch,” 2 J. Multistate Tax’n 161 (Sep/Oct 1992).) See also Matter of Infosys Technologies Ltd., N.Y. Tax. App.
Trib., DTA No. 820669, 2/21/08, aff’g N.Y. Div. of Tax App., ALJ Determination, DTA No. 820669, 2/15/07.
33
IRC §1501 (privilege to file consolidated returns).
34
IRC §1504(b)(3).
35
Barclays Bank PLC v. Franchise Tax Bd. of California, 512 US 298, 129 L Ed 2d 244 (1994); Container
Corporation of America v. Franchise Tax Bd., 463 US 159, 77 L Ed 2d 545 (1983). Barclays Bank was discussed
in Garvey and Irion, “The U.S. Supreme Court’s Decision in Barclays: The End of an Era?,” 4 J. Multistate Tax’n
196 (Nov/Dec 1994).
www.crowehorwath.com 15The trial court in Barclays (Barclays Bank Int’l v. Franchise Tax Bd., Cal. Super. Ct., Nos. 325059 and 325061,
Contact Information
36
6/16/87) found that the cost of compliance under California’s worldwide reporting scheme would cost more
than $5 million initially and more than $2 million to maintain annually. See also Brief for Petitioner, Barclays Bank Christopher J. Hopkins
PLC v. Franchise Tax Bd., U.S.S.Ct. Docket No. 92-1384, 1993 WL 639306, fn. 13. While the U.S. Supreme
Court in Barclays, supra note 35, stated that “[c]ompliance burdens, if disproportionately imposed on out-of- 212.572.5592
jurisdictional enterprises, may indeed be inconsistent with the Commerce Clause,” the Court found that “[t]he chris.hopkins@crowehorwath.com
factual predicate of Barclays’ discrimination claim, however, is infirm.”
37
Model acts such as UDITPA are proposals intended to provide the states with rules and procedures that are A. Michael Wargon
consistent from state to state. While they are offered to the states for incorporation into their own statutes, 212.572.5598
a state may reject an entire act, or adopt it in whole or in part or with modifications. These acts, dealing with
various areas of state law, are developed and drafted by the National Conference of Commissioners on Uniform michael.wargon@crowehorwath.com
State Laws (NCCUSL), a nonprofit, unincorporated association created in 1892 and comprised of more than
300 “uniform law commissioners,” all members of the bar qualified to practice law. The commissioners, who
receive no compensation for this work, are practicing lawyers, judges, law professors, and legislators who are
appointed by the states (as well as by the District of Columbia, Puerto Rico, and the U.S. Virgin Islands) to
research and draft uniform and model laws on matters where state uniformity is desirable and practical, and
they work toward enactment of those models by the state legislatures. The NCCUSL is now known as the
Uniform Law Commission (ULC); see the website at www.uniformlaws.org.
38
N.Y. Tax Law §211.4(a)(5); 20 N.Y. Comp. Codes Rules & Regs. §6-2.5(a).
39
Even if a company does not have a formal sales office or sales representatives in a state, nexus can be
established through the activities of independent commission agents who are regularly present in the state and
performing activities on behalf of the out-of-state taxpayer. See, e.g., Scripto, Inc. v. Carson, 362 US 207, 4 L
Ed 2d 660 (1960). Key issues include whether the taxpayer is selling tangible personal property (in which case,
P.L. 86-272 applies), the extent of the sales force’s in-state activities, and the precise nature of those activities
(in particular, whether they are limited to the solicitation of orders).
40
See, e.g., Weinstein and Santoro, “Related-Party Expense Addbacks: History, Trends, and Developments,” 20
J. Multistate Tax’n 6 (August 2010), and McBurney, “Conformity Statute Does Not Encompass IRC Section
482-Type Powers, Maryland High Court Says,” 10 J. Multistate Tax’n 6 (Mar/Apr 2000).
41
See, e.g., McClure, “State Transfer Pricing Structures: The Chainbridge Challenge in Light of Microsoft’s Win,”
23 J. Multistate Tax’n 14 (Mar/Apr 2013).
42
The use tax is another state and local tax novelty. Both a vendor and a consumer can be held liable for the use
tax, and a purchaser resident in a state that imposes sales/use tax is required to pay the use tax on purchases
of taxable property if a sales tax was not collected at the point of sale.
43
See, e.g., Pelino, Iafrate, and Stenbring, “Handling Sales and Use Tax Audits: Best Practices That Every Tax
Department Needs to Know,” 20 J. Multistate Tax’n 18 (January 2011), and Eppleman, “Tax Practitioners and
State Auditors Focus on Managing Sales Tax Exemption Certificates,” 16 J. Multistate Tax’n 26 (February 2007).
44
See, e.g., 20 N.Y. Comp. Codes Rules & Regs. §1-3.3(a)(7).
45
See, e.g., N.Y. Tax Law §209.2-a.
46
IRC §864(b)(2) provides a similar exclusion from the definition of “trade or business within the United States.”
New York’s provision specifies not just “trading” but also “investing,” which activity by itself might otherwise be
sufficient to invoke state tax nexus.
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