This quarter we focus on three areas that are very important to technology companies:
Research and Development Credit–
As you know the federal R&D Credit was re-established retroactively last December only to expire once again on December 31, 2014. It is generally well accepted that the credit will be extended again, the question largely being when and in what form. The House passed a stand-alone bill, HR 880, in May which would extend the credit and make it permanent. This is similar to what they did last year. The administration has also reiterated its position that a permanent extension of the R&D credit will not be acceptable without offsets which would make its passage revenue neutral. A permanent extension of the credit is estimated to cost over $180 billion over ten years.
The House Bill makes some changes to the credit that are considered pro-business. The first change is doing away with the complicated traditional credit computation and having the Alternative Simplified Credit Calculation (ASC) as the only method. Additionally, the credit rate would be raised from 14% of qualified expenses to 20%. Qualified expenses under the ASC method are generally those that exceed 50% of the average qualified expenses over the prior three year period.
The second change is allowing the R&D credit to offset alternative minimum tax for companies with less than $50 million in gross receipts. This is an important change for small to medium sized businesses.
The Senate will likely consider any extension of the R&D Credit as part of an overall extenders package, similar to last year. Not a lot of attention has been paid to this as of yet, as their focus has been on the trade bills recently passed. It’s estimated that the proposed changes by the House will be embraced by the Senate. However, as part of an overall extender’s package with the need to be revenue neutral, there are sure to be compromises resulting in changes to the final R&D credit proposal. To what extent and when this occurs is anybody’s guess. However, it’s likely that any extension of the R&D credit will go down to the wire as it did the year before.
International Tax Developments–
There continues to be substantial activity on the international tax front around the world. The most significant of which is the work being done by the Organization for Economic Co-operation and Development (OECD) related to Base Erosion and Profit Shifting (BEPS).
Additionally, there continues to be unilateral efforts taken by countries around the world in response to perceived and / or actual tax abusive structures. Here are a few of the most significant:
UK adopts Diverted Profits Tax-
On March 26, 2015 the UK adopted a new Diverted Profits Tax (DPT) effective for profits earned on or after April 1, 2015. The tax is applied at a rate of 25% to profits earned offshore that would otherwise go untaxed for UK purposes in certain scenarios. Generally, the DPT may apply where:
1. A UK company engages in a transaction with a related company that lacks economic substance and the related profit of that company is subject to a lower tax rate, or
2. A non-UK company sells goods and services to customers but is supported by activity performed by a UK company where the UK activity is designed to avoid UK taxation.
The DPT acts as a separate tax regime from the UK corporate income tax. As such, it is intended that relief under double taxation treaties will not be available. US companies with UK operations need to be mindful of this new tax and its possible effect on their financial statements. It is anticipated that the tax will be considered a tax on income and therefore reported under ASC 740 as a component of the company’s overall tax provision. An evaluation of the tax implications of this new provision will be necessary for establishing the proper reserve for uncertain tax positions.
EU and Switzerland sign taxation agreement-
On May 27, 2015 the European Union (EU) and Switzerland signed an agreement fostering an exchange of information in the tax area. The purpose of the agreement is to implement updated standards to address unfair international tax practices. The information to be exchanged is fairly broad in scope. A taxpayer’s income, account balances, proceeds from sale of assets will all be required to be disclosed, with limited exceptions.
China issues notice regarding outbound payments-
China issued a notice in the spring that was a culmination of their tax administration’s views on intragroup outbound payments. In general, the notice reflects China’s attempt to protect its tax base and demonstrates its support for the various international initiatives on base erosion and profit shifting. The notice, among other things, provides the following:
- Reiterates the “arm’s length” principle in establishing acceptable payments,
- Requires relevant documentation upon request to support outbound intragroup payments, including intercompany agreements, documentation verifying the authenticity of transactions and transfer pricing documentation, and
- Disallows as a deduction certain specified outbound intra-group payments that lack economic substance, including payments for services, royalties among others.
It will be likely that taxpayers may have views on these issues that differ from the Chinese tax authorities, which will create a likelihood of greater controversy. Additionally, it’s possible the local level tax authorities will prefer taxpayers make a self-evaluation with applicable self-adjustments on their corporate returns, rather than raise these issues in a formal tax examination.
State Tax Developments
Nevada adopts tax on business gross receipts-
On May 31, 2015, the Nevada legislature approved a package of tax changes that included a new tax on business gross receipts. This new “Commerce Tax” is essentially a modified gross receipts tax. The tax is assessed on a company’s adjusted Nevada gross revenue in excess of $4 million with limited subtractions. The tax rate ranges from .051 percent to .331 percent, depending on the industry category. The tax is effective beginning on July 1, 2015. The taxable year for commerce tax returns runs from July 1 through June 30 for all taxpayers. The returns are due on or before the 45th day following the end of that taxable year. The first commerce tax returns and payments will be due August 15, 2016. Taxpayers may request a 30-day extension to pay the tax.
California Franchise Tax Board (FTB) discusses the topic of crowdfunding-
Crowdfunding is commonly used to describe two distinct methodologies for raising funds. It includes:
1. crowdsourcing whereby peer-to-peer funding commonly is offered by online websites. Crowdsourcing enables startups or individuals to raise small amounts to fund a project or business venture, conduct product research or even pay medical bills; and
2. “equity-based crowdfunding” in which backers of the project/business obtain an equity interest in return for their contribution.
Questions have arisen as to the taxation of amounts raised through these methods and how they should be reported. The FTB has advised that, without a specific analysis of the facts and circumstances, in most cases the amounts raised are properly includable in taxable income unless specifically exempted by law. Even if exempt, there may still be a need to report the information on the taxpayer’s tax return. The FTB advises that taxpayers should not guess as to taxability but refers them to IRS Publication 525, Taxable and Nontaxable Income, for more information.
Mike McAndrews is a principal with Abbott, Stringham and Lynch and currently serves as its Technology practice leader.