United States

Tennessee bill enacts wide-ranging tax changes

Various tax rate reductions balanced by increases in fuel taxes

TAX ALERT  | 

On April 26, 2017, Tennessee Gov. Bill Haslam signed House Bill 534, enacting a single-sales factor election for manufacturers, accelerating the phase-out of the Hall income tax, reducing the sales and use tax rate on food by 1 percent, and providing for other various tax changes.

Single-sales factor for manufacturers

House Bill 534 provides an election for taxpayers whose primary business in Tennessee is manufacturing to elect a single-sales factor to apportion their net worth for franchise tax purposes and their net earnings for excise tax purposes. A Tennessee taxpayer’s principal business is manufacturing if more than 50 percent of the revenue derived from its activities in this state is from fabricating or processing tangible personal property for resale and consumption off the premises. Important to some manufacturers, revenue derived from passive income is excluded when calculating the 50 percent threshold. The new election is effective for tax years beginning on or after Jan. 1, 2017.

Hall income tax phase-out

The tax legislation also accelerates the phase-out of the Hall income tax—a tax on interest and dividends that has grown increasingly unpopular in recent years. The tax is scheduled to be phased-out by 2022, with the legislature intending to reduce the current 5 percent rate by 1 percent each year—a reduction that must be addressed by the legislature to occur. House Bill 534 codifies a 1 percent yearly reduction in the tax, beginning with a reduction to 4 percent for the 2017 tax year, and achieving a 0 percent rate for tax years beginning on or after Jan. 1, 2021. Upon the complete phase out of the tax, Tennessee, which does not otherwise impose an individual income tax, will join Alaska, Florida, Nevada, South Dakota, Texas, Washington state and Wyoming, in excluding individual income from a state-imposed tax.

Miscellaneous changes

House Bill 534 makes the following additional changes:

  • Reduces the sales tax rate for food sold at retail from 5 percent to 4 percent (essentially grocery items, excluding prepared food, dietary supplements, candy, alcoholic beverages and tobacco), effective July 1, 2017
  • Provides for a phased increase of the following fuel tax rates per gallon to the rate specified by July 1, 2019: gasoline to 26 cents, diesel to 27 cents, liquefied gas to 22 cents and compressed natural gas to 21 cents
  • Authorizes local option transit surcharges for certain localities

Takeaways

The legislation moves up the phase-out of the Hall income tax by one year, and codifies the yearly 1 percent reduction. While most taxpayers will welcome the change, the governor has received some criticism that the reductions will harm local governments that receive over a third of the tax’s revenue.

Taxpayers with manufacturing operations in Tennessee should consult with their tax advisors to consider the potential excise and franchise tax benefits of the single-sales factor apportionment election.

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