Navigating the Apportionment Landscape After Maryland v. Wynne: Maximizing Tax Credit Opportunities THURSDAY, JANUARY 21, 2016, 1:00-2:50 pm Eastern IMPORTANT INFORMATION This program is approved for 2 CPE credit hours . To earn credit you must: • Participate in the program on your own computer connection (no sharing) – if you need to register additional people, please call customer service at 1-800-926-7926 x10 (or 404-881-1141 x10). Strafford accepts American Express, Visa, MasterCard, Discover . Listen on-line via your computer speakers. • Respond to five prompts during the program plus a single verification code . You will have to write down • only the final verification code on the attestation form, which will be emailed to registered attendees. To earn full credit, you must remain connected for the entire program. • WHO TO CONTACT For Additional Registrations : -Call Strafford Customer Service 1-800-926-7926 x10 (or 404-881-1141 x10) For Assistance During the Program : -On the web, use the chat box at the bottom left of the screen If you get disconnected during the program, you can simply log in using your original instructions and PIN.
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Navigating the Apportionment Landscape After Maryland v. Wynne January 21, 2016 Christopher L. Doyle, Partner Debra Silverman Herman, Partner Hodgson Russ Hodgson Russ cdoyle@hodgsonruss.com dherman@hodgsonruss.com Alexandra P .E. Sampson Reed Smith asampson@reedsmith.com
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Navigating the Apportionment Landscape post- Wynne v. Maryland I. Wynne Holding in Detail II. Treating Other State and Local Taxes as Creditable State Tax Debra S. Herman, Esq. dherman@hodgsonruss.com 646.218.7532
Background of the Case: Constitutional Law Article I, of § 8, clause 3 of U.S. Constitution: The Commerce Clause Grants Congress power “to regulate commerce … among the several states” 6
Constitutional Law The Basics The “Negative” or “Dormant” Commerce Clause Though framed as positive grant of power to Congress, Court has “consistently held this language to contain a further, negative command.” “Prohibiting certain state taxation even when Congress has failed to legislate on the subject” ( Jefferson Lines , 1995) 7
Constitutional Law The Basics This “negative” aspect has been disputed: In Wynne , Justice Scalia called it a “judicial fraud!” Also he said it “has deep roots, like many weeds” He also called it the “Synthetic Commerce Clause” and the “Imaginary Commerce Clause” But it’s not going anywhere Do the same protections apply to individuals? 8
Two Theories of Income Taxation Two theories of income taxation Residency-based taxation Source-based taxation Analog: allocable income and apportionable income for corporations – Allocated income is often assigned to commercial domicile since “residency” of corporation within the state supports “ in personam ” jurisdiction over the income 9
State Taxation of Residents and Nonresidents States generally tax their own residents on all income, regardless of source Nonresidents only taxed on income from in-state sources • Wages for in-state services • Income from in-state business • Income from in-state property 10
Resident Credits Most states allow residents a credit for taxes paid to other states, but thought it was as a policy accommodation, not a constitutional requirement. Chickasaw Nation , 515 U. S., at 463, n. 12. States’ credit systems are not absolute. Important limitations: • No credit for foreign taxes paid; • Not all states grant credit for taxes paid at entity level; • Not all states grant credits for local taxes; • No states allow income tax credits for gross receipts taxes, B&O taxes, margins taxes; • May limit tax credit to state’s effective tax rate on income. 11
Resident Credits – Other Limitations Different sourcing rules • Example: CT will only give credit for taxes paid to other states on income from sources in that state — determined under CT’s sourcing rules! • “Convenience Rule” Problem “Unearned” or “Non - Source” Income • If two states impose tax on a taxpayer’s intangible income (not sourceable anywhere), usually no resident credits • CT/NY dual residency: prime example • New Jersey is much nicer! 12
Wynne Background – MD Rules MD residents pay tax on their worldwide income MD personal income tax has two components: (1) state and (2) county Nonresidents only pay tax on sourced income, but they pay BOTH the state and county tax (called “special nonresident tax”) Residents only allowed credit against state portion of tax 13
Wynne Background - Facts MD residents who held stock in an S corp. that operated and filed returns in 39 other states Reported flow-through income from the S corp. on MD income tax returns Claimed resident tax credit (against both the state and county components) for taxes paid to other states The MD State Comptroller disallowed credit against county component 14
Wynne Background So Wynnes pay tax to MD as residents (say 6%) and rate includes a county component (say 1%) They also pay tax in CA at 13% rate MD will allow an offset for CA taxes paid, but only against the 6% state tax; 1% county tax can NEVER be offset Constitutional dispute: Is that legitimate? Can a state tax its residents on all income and NOT provide full credit for taxes paid to other states? 15
Wynne Tax Court Decision Affirmed the Hearings and Appeals Section’s ruling, which held that no credit was required against the county component of MD’s income tax Tax Court reversed by Circuit Court for Howard County, which held that MD’s tax scheme violated the Commerce Clause 16
Wynne MD Court of Appeals Decision MD’s high court affirmed the Circuit Court Evaluated MD’s tax under Complete Auto’s four- part test 1. Substantial nexus with taxing state 2. Fairly apportioned 3. Doesn’t discriminate against interstate commerce 4. Fairly related to services provided by the state Held that MD’s tax violated #2 and #3 17
Supreme Court Holding Maryland Comptroller of Treasury v. Wynne , 135 S. Ct. 1787 (2015) (2015) 5 – 4 decision by U.S. Supreme Court on May 18, 2015 Held: Maryland’s income tax scheme violates the Dormant Commerce Clause Maryland’s income tax scheme unconstitutionally discriminates against interstate commerce because it fails the internal consistency test. Maryland’s tax scheme operates like a tariff “the paradigmatic example of a law discriminating against interstate commerce” 18
Supreme Court Scorecard Majority: 5 Justices • Alito, Roberts, Kennedy, Sotamayer, Breyer Dissent: 4 Justices • Ginsberg, Scalia, Kagan • Thomas — separate dissent 19
Oral Argument- Supreme Court During Oral argument, Chief Justice John Roberts observed that: “ if each State did what we’re talking about, people who work in one State and live in another would pay higher taxes overall than people who live within one State and work in the same State . ” 20
The Internal Consistency Test Justice Roberts was talking about the “Internal Consistency Test” • The Commerce Clause requires that taxes on interstate commerce be nondiscriminatory and fairly apportioned. This test is designed to allow us to distinguish between: i. a tax structure that is inherently discriminatory (bad); and ii. one that might result in double taxes only as a result of two nondiscriminatory state schemes (OK) Past cases may have suggested that the Commerce Clause was N/A to individual income taxes; the Court laid that to waste 21
Are Resident Credits Now Constitutionally Required? Are resident credits now constitutionally required? • Per majority, yes • But only if states also tax nonresidents • Dissenters took a different view, but don’t expect this to change 22
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