Editor’s note: Valerie Sasaki specializes in jurisdictional tax consulting and works closely with companies involved in complex audits before the Oregon or Washington Departments of Revenue. She also works with business owners on tax, business, and estate planning issues in Oregon or Southwest Washington. Sasaki is a fellow of the American College of Tax Counsel and has served as chair of the Portland Tax Forum, and the Oregon State Bar Taxation Section. She has taught Estate Planning, Federal Income Taxation, and State and Local Tax as an adjunct professor at the University of Oregon School of Law and Portland Community College.
For several years, there has been a national state tax trend away from taxes based on net income and towards gross receipts taxes. In addition to perceived simplicity and tax base stability, states have embraced gross receipts taxes because they are not subject to the nexus safe harbor of Public Law 86-272, which prohibits a state from imposing a tax based on net income when a taxpayer’s only activity in the jurisdiction is the solicitation of sales of tangible personal property.
Although Washington State’s Business and Occupation Tax was adopted in 1933, it was Ohio’s 2005 adoption of that state’s Commercial Activity Tax that started the recent trend. In 2008, Texas followed suit with the Texas Tax on Taxable Margin. Going into the 2019 session, only Delaware, Ohio, Texas, Nevada, and Washington had statewide gross receipts taxes. The 2019 Oregon Legislature passed House Bill 3427, which Governor Brown signed into law on May 16, 2019. This bill created Oregon’s Corporate Activity Tax (“CAT”).
We’ve talked with some folks who thought that the CAT is a tax, like many franchise taxes, on capital employed in the state. It is not. So, it doesn’t look at what property you have in the state relative to property outside of the state. Instead, the math to calculate a business’s CAT liability is deceptively simple.
- Taxpayers that are subject to the CAT should calculate their gross receipts sourced to Oregon.
- Calculate your total allocable deductions.
- Subtract your allowable deductions from your gross receipts to get your tax base.
- Multiply your tax base by the rate and add $250 to arrive at the number to put on your tax remittance.
The simplicity of the formula above is deceptive because complexity is baked into every step of the analysis. The Department of Revenue is still developing rules and the first estimated payments were due on April 30. So, a complete analysis of the tax is beyond the scope of this short article. However, I wanted to highlight some common traps for clients (and practitioners) that may be implicated if someone assumes that they know what the words in bold mean.
First, Taxpayer for CAT purposes is much broader than for any other type of tax in Oregon. A taxpayer for CAT purposes is an individual or entity that has Oregon sourced business receipts. The CAT uses a unitary group concept, like we see with the Corporate income (or more commonly, the excise) tax. However, unlike that tax, it can pull in other types of entities with common ownership like partnerships, LLCs and trusts. Individuals are also subject to this tax.
Certain taxpayers will not be subject to the tax. These include public charities, some cooperatives, governmental entities, certain hospitals and healthcare facilities, and any person with commercial activity less than $1 million (other than a person in a unitary group with greater unitary income).
In state tax, the idea of taxable nexus is whether the taxpayer has enough connections with the state to justify subjecting them to a tax. The CAT nexus thresholds were intentionally drawn to cast a wide net. Bearing in mind that the constitutional standard for taxability is that a person has “substantial nexus” with the jurisdiction, the CAT drafts have stated that a person will have “substantial nexus” if they: (1) use capital in the state; (2) hold a certificate of existence or authorization to do business in the state; (3) have “Bright Line” nexus; or (4) have nexus such that the state can require them to remit the CAT (i.e., everything that is constitutionally permissible).
The “bright line” nexus thresholds are very low. A person will be deemed to have taxable nexus with Oregon for purposes of the CAT if they have property in Oregon with an original cost greater than $50,000, payroll in Oregon of greater than $50,000, their commercial activity in Oregon is greater than $750,000, if 25% of their property, payroll, or commercial activity occurs in Oregon; or they are a “resident” of Oregon or are domiciled in Oregon for corporate, commercial, or other business purposes.
The drafters have explicitly said that PL86-272 does not apply, which gives us a good idea about why they drafted things the way they did. However, the legislative intent is not constitutionally dispositive so we may see litigation in this area. There is no exemption for foreign sellers that lack a US Permanent Establishment. This may be an issue in situations involving royalties for use of intangible assets in Oregon.
I am worried that many folks will not know they are subject to this tax. For example, if a taxpayer has not historically had nexus with Oregon (possibly because they have been sitting in the PL86-272 safe harbor), they may not realize that they have tax nexus for CAT purposes. Therefore, they may not make the required estimated payments (which incurs penalties), because they didn’t realize that they were subject to tax in Oregon now. This is a relatively unique problem, as almost all of the other states that have adopted a gross receipts tax (with the sole exception of Delaware) have a sales tax, which was not historically PL86-272 protected.
There are similar traps when a taxpayer calculates their base. Gross receipts sourced to Oregon isn’t just a proxy for the numerator of the Oregon Corporate Excise Tax sales factor. While the starting point is, on its face, gross receipts from Oregon business activity, the Department has promulgated special rules for certain types of businesses and even recently given guidance that federal Payroll Protection Program loan proceeds aren’t subject to the CAT (although they might have been absent that guidance). The Department also clarified that sales to companies outside of Oregon are not “thrown back” into Oregon sales like certain sales are for the calculation of the sales factor.
Taxpayers are allowed to deduct 35% of the greater of cost inputs or allowable labor costs, If the taxpayer is in multiple states, they have to figure out what share of that deduction is allocable to Oregon and then confirm the deduction does not exceed 95% of taxpayer’s commercial activity in Oregon.
We’ve talked with a lot of folks who have partnership or partnership-type entities (like limited liability companies) where they as owners are receiving guaranteed payments. The Department of Revenue has advised that they cannot include guaranteed payments to owners in their labor costs. Businesses that utilize independent contractors are also prohibited from using the costs associated with those workers towards their allowable labor costs.
The Department of Revenue has been tasked with the job of implementing this new tax system. To that end, they had a series of “listening sessions” around the state and telephonically. They had planned to have several more this spring, but the current global pandemic put a stop to those.
A page been set up on the Department of Revenue’s website that contains answers to certain frequently asked questions. Those answers have been refined as they have heard stakeholder concerns in the listening sessions. There are still a lot of questions that have not been answered and situations that remain to be addressed.
By Valerie Sasaki, Partner at Samuels Yoelin Kantor LLP