Minnesota responds to the TCJA with special session tax bill
TAX ALERT |
On May 30, 2019, Minnesota Governor Tim Walz signed House File 5 into law, a comprehensive tax bill addressing sales tax and income tax changes, including the state’s long-awaited response to the Tax Cuts and Jobs Act (TCJA) and other recent tax reform. A summary of the tax provisions are highlighted below:
Income tax provisions
Several of the major changes adopted by the legislation impacting both individual and corporate income tax include the following:
- Expanded section 179 and bonus depreciation rules apply, including a $1 million section 179 threshold and bonus depreciation on used assets. As under current law, 80 percent of section 179 expensing and bonus depreciation in the year made must be added back
- Conformity to the business interest deductions that were limited to 30 percent of adjusted taxable income
- Net operating loss carrybacks are eliminated and carryovers are limited to 80 percent of the loss
- Conformity to the various employee compensation costs (e.g. meals, lodging, and certain transportation costs) that were disallowed as business expense deductions
Individual income tax
Minnesota’s definition of net income is amended. The starting point for computing Minnesota individual income tax will be federal adjusted gross income (FAGI) rather than federal taxable income (FTI). Because individuals will now use FAGI, the legislation incorporates a new itemized deduction statute (Section 290.0122). Minnesota itemized deductions generally mirror those allowed under TCJA, but also retain some deductions that were repealed at the federal level. Notable changes to Minnesota itemized deductions include:
- Allows a deduction for up to $10,000 in taxes paid, including property taxes, certain foreign taxes to the extent not reduced by the federal foreign tax credit, and certain subnational foreign taxes
- Increases the 50 percent AGI limit to 60 percent for charitable contributions
- Disallows the deduction for home equity interest and interest attributable to acquisition indebtedness over $750,000 (for mortgages incurred after Dec. 15, 2017); present law allowed interest on acquisition indebtedness up to $1 million
Estates, trusts, and C corporations will continue to use FTI. The bill also updates the date of the Internal Revenue Code that is in effect for the purposes of calculating net income. The change to FAGI as the starting point for the state’s tax code is effective for tax year 2019.
There are also changes to the standard deduction amount for Minnesota as follows:
- Married filing jointly or surviving spouses: $24,400
- Heads of household: $18,350
- All other filers: half of the amount for married filing jointly
Notable changes to individual income tax rates and credits:
- Reduces the second-tier income tax rate from 7.05 percent to 6.80 percent, and reduces the starting point for the fourth tier income tax bracket
- Decouples from for the federal global intangible low-taxed income (GILTI) and foreign derived intangible income (FDII) provisions, requiring subtraction an addition modifications to the extent included in FAGI
- Limits the addition for state and local income taxes and sales taxes to estates and trusts, since only those entities will continue to use FTI (which incorporates the federal deduction for state and local income taxes) in calculating Minnesota tax
- Requires a trust or estate to add to FTI the amount it deducted as qualified business income (the 20-percent deduction allowed under TCJA)
While some of these provisions apply retroactively, the bill provides a one-time adjustment to tax for individual filers that elected to itemize for Minnesota purposes but claimed the federal standard deduction. Additionally, there is an adjustment to tax for any pre and post-conformity changes so that while many law changes were retroactive, they will not affect tax paid. However, the special adjustment does not apply to business interest limitation, section 179 expensing, and bonus depreciation, among others.
Corporate income tax
The legislation generally does not conform to any of the foreign income provisions under the TCJA. The revisions provide a corporate franchise tax subtraction for the amount of GILTI income included in a taxpayer’s FTI (after the application of the federal section 250 deduction). It also provides a subtraction under the corporate franchise tax for the amount of section 965 deferred foreign income included in a taxpayer’s FTI (after the application of the federal section 965(c) deduction). Likewise, the federal FDII deduction must be added back in computing Minnesota taxable income.
Additionally, the bill modifies provisions of the corporate franchise tax for captive insurance companies (i.e., insurance companies that are captives of a unitary group) to clarify which captives are exempt from the tax and which captives are disqualified, and therefore not exempt. These disqualified captives must include their income and apportionment in a combined return, retroactive to 2017.
Sales tax provisions
The bill modifies and clarifies the duty to collect and remit sales taxes for remote sellers and marketplace providers. Recall that effective Oct. 1, 2018, the state had enforced an economic sales tax nexus provision when a remote retailer made 1) 100 or more retail sales shipped to state, or 2) 10 or more retail sales shipped to state that total more than $100,000.
Effective Oct. 1, 2019, retailers and marketplace providers that do not maintain a place of business in Minnesota will be required to collect and remit sales tax when 1) making or facilitating 200 or more retail sales or 2) making or facilitating retail sales of more than $100,000 from outside the state to destinations in the state during a 12-month period.
In addition, the legislation provides that marketplace providers that have established nexus with Minnesota will be required to collect and remit sales tax on marketplace transactions unless:
- The retailer provides a copy of the retailer’s Minnesota sales and use tax registration to the marketplace provider; and
- The marketplace provider and retailer agree that the retailer will collect and remit the sales and use taxes on marketplace sales facilitated by the marketplace provider
Effective Jan. 1, 2020, the bill repeals the sunset of the health care provider taxes and establishes a tax rate of1.8 percent. The rate was previously 2.0 percent.
In addition, effective May 31, 2019, remote wholesale drug distributors and retailers of hearing aids and prescription eyeglasses are considered to establish nexus, and thus subject to the health care provider tax, if they make 200 or more sales, deliveries, repairs or distributions to destinations in Minnesota within a taxable year or if their gross revenue from sales, deliveries, repairs, or distributions to destination in Minnesota exceeds $100,000 in a taxable year.
Minnesota taxpayers face a quagmire of issues due to Minnesota’s complete non-conformity to TCJA provisions prior to enactment of House File 5, and its combination of retroactive, prospective and sometimes abated adjustments. Individuals that have already filed their 2018 Minnesota return should consult their tax advisor to determine whether an amended return must be filed to adjust for any tax law changes that are not provided for in the special limited 2018 adjustment, such as bonus depreciation and the interest expense limitation. Business taxpayers should pay special attention to the positions taken or contemplated for 2018 and how decoupling from TCJA’s foreign income provisions will impact them.
From a sales tax perspective, House File 5 modifies the economic sales tax nexus threshold and filing requirements for retailers and marketplace providers by, among other provisions, adopting the remote seller thresholds enacted by South Dakota and litigated in the South Dakota v. Wayfair decision. The new provisions increase the 100 transaction threshold, but eliminate the 10 transaction threshold that was required for sales over $100,000. Remote taxpayers should carefully review the revised thresholds.