North Carolina requires market sourcing information report
Report due April 15, 2016—No extensions allowed
INSIGHT ARTICLE |
As a part of the North Carolina state budget bill passed in 2015, the North Carolina General Assembly adopted changes to the corporate tax code that will begin shifting the state’s apportionment calculation to a single-sales factor formula. The single-sales factor formula will be phased in and will become fully effective for taxable years beginning on or after Jan. 1, 2018. The budget bill did not include any changes to the state’s sales factor sourcing methodology, but it does require the North Carolina Revenue Laws Study Committee to investigate the potential fiscal impact of adopting a market-based sourcing approach.
In order for the committee to gather the relevant sourcing information, the bill requires certain corporate taxpayers, including S corporations, to submit a Market-Based Sourcing Informational Report by filing Form CD-400 MS on or before Apr. 15, 2016. The Form CD-400 MS due date may not be extended and failure to timely file the report will result in a penalty of $5,000.
A corporate taxpayer is required to file the report if, based on the amounts reported on the 2014 North Carolina Corporate Income Tax Return (Form CD-405 or CD-401S):
- Apportionable income was greater than $10,000,000,
- The North Carolina apportionment percentage was less than 100 percent, and
- The apportionment formula used included a sales factor.
Form CD-400 MS requires the taxpayer to report certain items, such as apportionable income, based upon its 2014 Corporate Income and Franchise tax return. These items are reported twice: first as originally filed for the 2014 tax year, and again using a recalculated sales factor based on the North Carolina Department of Revenue’s market-based sourcing guidelines, which the Department has summarized to facilitate review. Under these guidelines, sales receipts are sourced to North Carolina as follows:
- In the case of sale, rental, lease, or license of real property, if and to the extent the property is located in North Carolina.
- In the case of rental, lease, or license of tangible personal property, if and to the extent the property is located in North Carolina.
- In the case of sale of a service, if and to the extent the service is delivered to a location in North Carolina.
- In the case of intangible property that is rented, leased, or licensed, if and to the extent the property is used in North Carolina. Intangible property utilized in marketing a good or service to a consumer is used in North Carolina if that good or service is purchased by a consumer who is in North Carolina.
- In the case of intangible property that is sold, if and to the extent the property is used in North Carolina. A contract right, government license, or similar intangible property that authorizes the holder to conduct a business activity in a specific geographic area is used in North Carolina if the geographic area includes all or part of North Carolina. Receipts from intangible property sales that are contingent on the productivity, use, or disposition of the intangible property shall be treated as receipts from the rental, lease, or licensing of the intangible property. All other receipts from a sale of intangible property shall be excluded from the numerator and denominator of the sales factor.
The guidelines issued by the Department provide a number of examples for applying these principles. To the extent the taxpayer cannot identify the state or states where the receipts are sourced, the taxpayer should use a reasonable approximation. If, after a good faith effort to reasonably approximate the state to which the receipts are properly attributable the taxpayer is still unable to do so, the receipts should be excluded from the denominator of the sales factor. These market-based sourcing principles substantially adopt the model regulations under Section 17 of the Uniform Division of Income for Tax Purposes released by the Multistate Tax Commission.
The North Carolina General Assembly is clearly considering a switch from the state’s current income-producing activity sales factor sourcing methodology to a market-based sourcing methodology, which could significantly impact the tax liabilities of service providers, software companies, financial institutions, companies that license intangibles, and professional service firms, among many others. Taxpayers should review the market-based sourcing guidelines regardless of whether they are required to file an informational report, and should consider the impact a legislative change in North Carolina would have on their business.