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Revenue Modernization Act Impact on Businesses

06/21/2016  |  By: Brian McCuller, JD, CPA, Shareholder, Practice Leader Tax, Mason Barrick, CPA, Senior Manager, State and Local Tax, Rhonda Chancey, CPA, Senior Manager, State and Local Tax

Governor Haslam introduced his tax reform bill, commonly referred to as the Revenue Modernization Act, which was signed into law on May 20, 2015. The legislation contains several significant changes to business taxes in Tennessee, which appear to be designed both to level the playing field between out-of-state companies and their Tennessee counterparts and to increase and stabilize tax revenue collections.

Highlights of the Revenue Modernization Act are as follows:

  • Creates a bright-line presence test to establish nexus for business tax and franchise, excise tax, very similar to the economic nexus standards for the Ohio CAT and the Washington B&O tax: $500,000 in Tennessee receipts; $50,000 in Tennessee property or payroll; or Tennessee receipts, property or payroll greater than 25% of the total everywhere. 
  • Adds a “substantial business purpose” requirement to deduct intangible expenses paid to an affiliate for excise tax purposes.  Also places the burden of proof on the taxpayer in a dispute with the Commissioner over the deductibility of such expenses using a clear and convincing evidence standard.
  • Changes the sourcing method for sales other than sales of tangible personal property, which includes services and the sale of intangible property, for franchise, excise tax apportionment purposes.  Currently Tennessee uses a cost of performance analysis for the receipts factor.  The method will change to a market-based sourcing of receipts, which will more than likely be a benefit to Tennessee-based service companies.
  • Adds a new election for qualified excise taxpayers to remove their “certified distribution sales” from the numerator of the receipts apportionment factor and pay a new tax annually on such sales at a graduated rate in addition to the franchise and excise taxes. To qualify, a taxpayer must have either sales of tangible personal property in Tennessee of greater than $1 billion or a receipts apportionment factor of greater than 10%.
  • Computer software which is remotely accessed and used by customers but remains in the possession of the seller or its agent will become subject to sales tax.  Currently any software which remains on the seller’s computer and is only accessed by the customer through the Internet without being downloaded to the customer is exempt from sales tax in Tennessee.  If there are users of the software both in and outside Tennessee, the sales price may be allocated based on the percentage of users in Tennessee.
  • Creates “click-thru” nexus for out-of-state sellers in Tennessee for sales tax collection.  There will be a rebuttable presumption that an out-of-state online retailer has sales tax nexus in this state if the seller enters into an agreement or contract with a Tennessee resident to refer customers to the online retailer’s website for a commission, such as via a link on the resident’s website. 

LBMC Perspective

The Revenue Modernization Act as proposed by the Governor represents significant changes to Tennessee business taxes in an effort to level the playing field for Tennessee businesses with their out-of-state competition.

The switch to market-based sourcing of receipts for franchise, excise tax will end the confusion among taxpayers and practitioners created by recent court decisions involving alternative apportionment methods.  This change should also benefit our clients in the service industry as Tennessee will join the growing number of states to adopt market-based sourcing. 

The new economic and “click-thru” nexus provisions are designed so that out-of-state businesses will pay the same taxes as Tennessee-based companies.  It will also help to ensure that state and local taxes do not give those out-of-state companies doing business in Tennessee a competitive edge.

Recent moving of some distribution centers out of Tennessee may have triggered the new election for qualified taxpayers to use an alternative apportionment method for franchise, excise tax purposes.  While it may incentivize existing facilities to stay in the state, it will also be a tool for Tennessee to use to entice businesses looking to build new distribution centers to locate here.

The one proposal which will have a negative impact on Tennessee businesses is the change in the sales taxability of remotely accessed software.  Tennessee businesses using providers of such software will feel an increased sales tax burden while many technology companies may find themselves with a new sales tax collection responsibility.

There are often changes to bills during the legislative process so Tennessee companies should stay alert to developments.  Members of LBMC’s State & Local Tax Practice will be monitoring the Revenue Modernization Act and other tax-related bills through the 2015 session.  Please contact us if you have any questions and/or we can assist you in any way.