United States

State taxation of financial institutions: A multidimensional landscape


An area that is sometimes overlooked by financial institutions is the array of various economic nexus regimes that are imposed by an increasing number of states. Economic nexus provisions, which often target financial institutions, vary considerably from state to state, and they can trigger income or franchise tax filing responsibilities of which taxpayers are often unaware. A number of states also impose taxing regimes that were established specifically for the purpose of taxing financial institutions.

Two landmark cases, both decided in 2007, that have been instrumental in setting the stage for the expansion of state economic nexus regimes, particularly in the context of financial institutions, are Commissioner v. MBNA America Bank, N.A., and Capital One Bank and Capital One F.S.B. v. Commissioner.1 MBNA was decided by the Supreme Court of Appeals of West Virginia and involved a Delaware-domiciled bank that provided credit card services to customers. MBNA argued that it was entitled to corporate income and franchise tax refunds because it did not have nexus with West Virginia. However, the court determined that since MBNA continuously and systematically engaged in activities such as direct mail, telephone solicitation, and promotion in West Virginia that produced significant receipts attributable to customers within the state, the bank had nexus with West Virginia under the state's economic nexus provisions.

In Capital One Bank, decided by the Massachusetts Appellate Tax Board and affirmed by the Massachusetts Supreme Judicial Court, it was determined that the two credit card banks at issue had nexus with Massachusetts for purposes of the state's Financial Institution Excise Tax (FIET) since the banks conducted activities with 100 or more Massachusetts residents and had receipts exceeding $500,000 attributable to state sources, thus satisfying the state's economic nexus provisions.2 In both MBNA and Capital One, a physical presence was not required to trigger nexus for income or franchise tax purposes, provided that the banks were targeting customers within the state and were deriving significant receipts from those customers.

Financial Institutions: Broadly Defined

Taxpayers that may be affected by the various state economic nexus provisions or that may be subject to special taxing regimes aimed at businesses involved in making loans or extending credit are often unaware of how potentially broad the scope is of what can be considered a financial institution. A state's definition of financial institution often includes entities that engage in activities or perform functions that would not generally be associated with traditional banks.

For example, for purposes of the Massachusetts FIET, financial institutions subject to the tax and its nexus provisions include not only banks and savings and loan associations, but also any other corporation in substantial competition with financial institutions that derives more than 50 percent of its gross income from loan origination, lending activities, or credit card activities.3 Connecticut's definition of a financial service company is similar to the definition of a financial institution in Massachusetts and provides that a financial service company is any company, other than an insurance company or a real estate broker, that derives 50 percent or more of its gross income from activities that include loans; investment banking services; management, distribution, or administrative services to or on behalf of an investment entity; actuarial services; and leasing or acting as an agent, broker, or adviser in connection with leasing real and personal property that is the functional equivalent of an extension of credit.4 New Jersey defines a financial business corporation as a corporation that is in substantial competition with the business of national banks, and that also employs moneyed capital with the object of making a profit by its use as money.5

As the above definitions demonstrate, the scope of businesses that are subject to state taxing regimes that focus on financial institutions can be very broad and encompass a variety of activities, such as facilitating leasing arrangements or simply deriving more than 50 percent of gross income from lending activities. Therefore, in a number of states, a range of businesses that would not typically come to mind in a more traditional banking context could nevertheless be subject to a taxing regime aimed at financial institutions. As a consequence, businesses that engage in activity involving some form of lending or the extension of credit should be aware of the various state definitions and rules related to financial institutions in the jurisdictions from which they derive income or receipts. Moreover, as discussed in the next section, states have become more aggressive in subjecting financial institutions to their taxing regimes even if those institutions have no physical presence in the state.

Financial Institutions: Evolving Nexus Standards

In the past few years, many states have begun to target financial institutions, even those that have no physical presence in their jurisdictions, through various concepts including economic nexus and a factor-presence test. The economic nexus provisions that states impose can vary significantly and can contain nuances that result in financial institutions' having nexus in jurisdictions they might not have anticipated. Over the past several years, a number of states, including California, Connecticut, ­Colorado, Massachusetts, and, most recently, New York, have enacted nexus provisions that use a bright-line factor to determine presence.6 Under these bright-line nexus standards, a taxpayer will generally trigger nexus and a filing responsibility regardless of whether it has ever physically entered the state if the receipts it derives from the state exceed a prescribed receipts threshold.

A financial institution that has made loans, acquired existing loans, or extended credit to customers within a factor-presence state and derives interest (or other) receipts from those customers that exceed the state's applicable receipts threshold would therefore typically trigger nexus and a filing responsibility. In a factor-presence jurisdiction, whether the loans from which receipts are derived are secured by underlying real or personal property located in the state is generally irrelevant, provided that the receipts are sourced from that state. In California, Colorado, Connecticut, and Massachusetts, the states' factor-presence nexus provisions have set $500,000 as the sales/receipts threshold for nexus.7 New York, under its recently enacted economic nexus provisions, has set the receipts threshold at $1 million.8

A number of other states that have economic nexus provisions do not have a bright-line factor-presence threshold. However, nexus in those states can sometimes be established by even less activity than in the factor-presence states. For example, New Hampshire has an economic nexus regime under which the employment of business assets in, or the receipt of money from, the state can be sufficient to create nexus, and no clear threshold exists to determine at what point nexus would be established.9

New Jersey also has a broad economic nexus regime, under which deriving receipts from sources within the state can, by itself, create nexus and a filing responsibility.10 A financial business corporation, banking corporation, credit card company, or similar business commercially domiciled outside of New Jersey is subject to New Jersey's income tax if it obtains or solicits business or receives gross receipts from sources within the state—the only limitation on the reach of the state's nexus provision being the U.S. Constitution.11 Given the expansive language of the economic nexus provisions in states such as New Hampshire and New Jersey, the level of receipts derived by a financial institution from customers in those states (or states that have similar nexus provisions) would likely not have to be large to establish nexus and a filing responsibility.

However, some recent developments may signal a curtailment of these broad nexus provisions. The Superior Court of New Jersey Appellate Division's affirmation in BIS LP, Inc. v. Director12 of that state's tax court's granting of summary judgment to the taxpayer in a case involving whether a corporate limited partner has nexus merely because it holds an interest in and derives income from a partnership doing business in New Jersey indicates that some state courts may rein in broad economic nexus standards. In addition, the U.S. House Judiciary Committee also recently approved the Business Activity Tax Simplification Act (BATSA), H.R. 2584.13 If BATSA becomes law, state economic nexus provisions would in effect be nullified, as BATSA would require that out-of-state businesses have a physical presence in a state for more than 14 days to create nexus for income or other business activity tax purposes.14 Thus, while economic nexus provisions are currently imposed by a significant number of states and should be navigated with care and scrutiny, the current economic nexus landscape could potentially begin to move in the opposite direction from its pattern of expansion over the past several years.

Special Financial Institutions Taxing Regimes and Apportionment Rules

A financial institution that is required by either economic nexus or factor-presence rules to file returns in multiple states may face myriad tax regimes and/or special apportionment rules. A majority of states either impose a separate taxing regime on financial institutions or tax financial institutions under a standard corporate tax regime but apply special rules, particularly for apportionment, on those entities. In some cases, special tax rates are also imposed on financial institutions. Florida, Maine, and Massachusetts are among the states that impose a separate taxing regime on financial institutions.15 Before 2015, New York also imposed a separate taxing regime on financial institutions, but as of Jan. 1, 2015, financial institutions are subject to the state's general corporate tax regime.16

The varying treatment of financial institutions by the states, with some states imposing a separate taxing regime on those entities and others subjecting financial institutions to the state's general corporate income/franchise tax regime—but often with special apportionment rules or tax rates—creates a veritable labyrinth of compliance provisions of which financial institutions operating in multiple states should be aware. Under Massachusetts' FIET regime, in addition to having special nexus provisions, entities that are subject to the FIET are required to use an evenly weighted three-factor apportionment formula and are also subject to a separate tax rate, which is currently 9 percent.17 Furthermore, Massachusetts applies special rules for computing the property and receipts factors, similar to some other states, including sourcing interest income from secured loans based on the location of the underlying property while sourcing interest income from unsecured loans based on the customer's location. The state also applies the so-called SINAA rules to apportion loans for property factor purposes, sourcing the loan based on where the solicitation, investigation, negotiation, approval, and administration of the loan occurs.18

Interestingly, New York's pre-2015 bank franchise tax regime applied, in part, the SINAA rules rather than the property factor to source receipts.19 Maine imposes a franchise tax on financial institutions, where each financial institution is required to determine its tax due using one of two methods, one of which involves applying the franchise tax on both Maine book income and Maine assets, and the other of which involves applying the franchise tax on Maine assets only.20 Under Florida's franchise tax imposed on banks and savings associations, the franchise tax base is adjusted federal income apportioned to the state, plus nonbusiness income allocated to state, taxed at a rate of 5.5 percent.21

States that do not have a separate taxing regime for financial institutions, but that impose special apportionment provisions on those entities, can sometimes create more confusion for taxpayers than those states that have entirely separate financial institution tax regimes. The various special provisions under many states' general corporate income/franchise tax regimes that specifically apply to financial institutions can sometimes pose traps, particularly when an entity subject to the special provisions applicable to financial institutions is not aware of its status in certain states. While special tax rules aimed at financial institutions can cover a wide spectrum, as mentioned earlier, special apportionment rules and tax rates are among the most common areas where a deviation from general corporate tax rules can be found.

Beginning in 2013, California shifted to the application of a single-sales-factor apportionment formula for most businesses.22 However, the state continues to apply an evenly weighted three-factor apportionment formula for banks and financial corporations.23 In addition to the special apportionment rules applied to banks and financial corporations in California, which are similar to the Massachusetts rules described above, the state imposes the tax on a bank or financial corporation's net income at a rate 2 percentage points higher than the general corporate tax rate.24

Colorado is an example of another state in which there is not a separate taxing regime for financial institutions, but where special apportionment rules apply.25 Under Colorado's financial institutions apportionment regime, specifically enumerated revenue streams must be included under a single-sales-factor formula, including revenue from various types of leases, interest from loans (both secured and not secured by real property), revenue from loan servicing fees and credit card receivables, and revenue from investment assets and activities.26 The states described above provide a sample of the various special rules and adjustments that are imposed on financial institutions by states that otherwise do not subject financial institutions to a separate taxing regime, but there are many other states that also impose special rules aimed at financial institutions.


In sum, an increasing number of states apply some form of economic or factor-presence nexus and also impose special tax rules on financial institutions. Hence, it is advisable that businesses engaged in financial activities, including any form of lending through loan generation or loan acquisition, leasing, or other related activities be aware of whether they may be considered a financial institution for tax purposes in the states in which they have any business activity or customers. However, there is the potential for relief from economic nexus provisions, either in individual states through state court decisions or in all states through congressional action, so businesses should keep abreast of continuing developments.

Copyright 2015. American Institute of CPAs, Inc. All rights reserved. Reprinted with permission from The Tax Adviser.

This document contains general information, may be based on authorities that are subject to change, and is not a substitute for professional advice or services. This document does not constitute assurance, tax, consulting, business, financial, investment, legal or other professional advice, and you should consult a qualified professional advisor before taking any action based on the information herein. RSM LLP, its affiliates and related entities are not responsible for any loss resulting from or relating to reliance on this document by any person.

This publication represents the views of the author(s), and does not necessarily represent the views of RSM LLP. This publication does not constitute professional advice.

  1. Tax Commissioner v. MBNA America Bank, N.A., 640 S.E.2d 226 (W. Va. 2007); Capital One Bank v. Commissioner of Revenue, Nos. C262391 and C262598 (Mass. App. Tax Bd. 2007), aff'd, 899 N.E.2d 76 (Mass. 2009).
  2. Mass. Gen. Laws ch. 63, section 1.
  3. Mass. Gen. Laws ch. 63, section 1.
  4. Conn. Gen. Stat. section 12-218b(a)(6).
  5. N.J. Admin. Code section 18:7-1.16.
  6. Cal. Rev. & Tax. Code section 23101; 1 Colo. Code Regs. section 39-22-301.1; Conn. Dep't of Rev. Servs., Informational Publication 2010(29.1), Q&A on Economic Nexus (Dec. 28, 2010); Mass. Gen. Laws ch. 63, section 1; N.Y. Tax Law section 209.1(b).
  7. Note that in California, the factor-presence threshold figures are adjusted for inflation on an annual basis pursuant to Cal. Rev. and Tax. Code section 23101(c).
  8. N.Y. Tax Law section 209.1(b).
  9. N.H. Rev. Stat. section 77-A:1.XII.
  10. N.J. Rev. Stat. section 54:10A-2. See also New Jersey Division of Taxation Technical Advisory Memorandum, TAM-6 (1/10/11).
  11. New Jersey Division of Taxation Technical Advisory Memorandum, TAM-6.
  12. BIS LP, Inc. v. Director, 26 N.J. Tax 489 (N.J. Super. Ct. App. Div. 2011).
  13. BATSA has been introduced in Congress several times since 2003 (when the act was first introduced in the House of Representatives by Rep. Bob Goodlatte, R-Va., in H.R. 3220) without success.
  14. H.R. 2584 (114th Cong.).
  15. Fla. Stat. section 220.63; Me. Rev. Stat. tit. 36, section 5206; Mass. Gen. Laws ch. 63, §2.
  16. N.Y. Tax Law, Article 32, Franchise Tax on Banking Corporations; N.Y. Tax Law section 209.1; Technical Memorandum TSB-M-15(2)C(2/26/15).
  17. Mass. Gen. Laws ch. 63, section 2; Mass. Gen. Laws ch. 63, section 2A.
  18. Mass. Gen. Laws ch. 63, section 2A(e).
  19. N.Y. Comp. Code R. & Regs. tit. 20, section 19-6.2.
  20. Me. Rev. Stat. tit. 36, section 5206.
  21. Fla. Stat. section 220.63.
  22. Cal. Rev. & Tax. Code §25128.7.
  23. Cal. Code Regs. section 25137-4.2(b).
  24. Cal. Rev. & Tax. Code section 23186; Cal. Rev. & Tax. Code section 23181(a).
  25. 1 Colo. Code Regs. Spec. Reg. 7A.
  26. Id.


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