The Tax Cuts and Job Act (“TCJA”) was signed into law on Dec. 22, 2017. The TCJA enacted modifications to the Internal Revenue Code (“IRC”) that will affect all areas of federal taxes including individual, corporate, partnership and others. State taxes were impacted due to its close relationship with federal tax. Since its enactment late last year, many states have expressed an opinion on the new tax law. For many of the changes, the state tax implication will be dependent upon the state. It is important that taxpayers pay close attention to the various state tax laws to accurately calculate state taxes.
In this blog post, we will briefly discuss state implications of notable changes implemented by the TCJA as it relates to corporations. International provisions of tax reform and their impact to corporations are outside the scope of this blog and will not be discussed.
Expensing of Certain Property
One notable change of the TCJA is the full expensing of certain property. Prior to the enactment of the TCJA, 168(k) allowed businesses a 50-percent bonus depreciation, for federal income tax purposes, on the cost of new machinery and equipment in the first year. Many states did not conform to this law and require taxpayers to make a state tax adjustment to depreciation for state tax purposes. Under post-TCJA law, taxpayers are allowed a 100-percent expense of qualified property acquired and placed in service after Sept. 27, 2017. While ultimately most states will not conform to the full expensing, one of the first states to decouple from this is Pennsylvania. In Dec. 2017, Pennsylvania released guidance stating that any deduction for depreciation of qualified property under 168(k) must be added back to Pennsylvania taxable income for purposes of the corporate net income tax. Most states that currently do not conform to bonus depreciation are likely to also decouple from allowing the full expensing of assets either used or new that are acquired and subject to the post TCJA law.
Interest Deduction Limitation
Another area of change is the interest deduction limitation. Under the TCJA, business interest deduction is limited to 30 percent of the taxpayer’s EBITDA for the first four years then 30-percent EBIT thereafter. Any disallowed business interest deduction can be carried forward indefinitely. Taxpayers that meet the $25 million gross-receipts test are exempt from the interest deduction limitation. Every state except Mississippi conforms to the federal definition of interest expense and are likely to also conform to the TCJA business interest deduction limitation
Net Operating Loss
Lastly, treatment of net operating losses (“NOL”) and their carryback and carryforward provisions were notably modified. Corporations were previously allowed an NOL carryforward of up to 20 years and carryback up to two years for federal tax purposes. Current law eliminates the carryback provision but allows indefinite carryforwards. Further, the amount of losses that can be taken in a year is limited to 80 percent of the tax liability. For state tax purposes, the post-tax reform NOL provisions will vary by state and will need to be analyzed on a per state basis. Many states already do not allow for the carryback provision and this is likely to continue. It remains to be seen whether states like California that allow for a carryback of net operating losses will consider changing its rules to disallow the carryback similar to the disallowance now in place for federal income tax purposes. Taxpayers should take care to analyze the state income tax net operating loss rules on a state by state basis and not really on the disallowance provisions enacted for federal income tax purposes
Multistate taxation remains as an area of vast complexity and nuances. With the many changes of the TCJA, it is essential that taxpayers seek the assistance of tax advisers.
If you have any questions regarding the above, please contact the GHJ Tax Team at 310.873.1600.