Taxpayer

Article Dean Dorton

Most multi-state businesses are familiar with the concept of “nexus”—the minimum connection necessary before a state can exercise its taxing authority over a taxpayer.  Traditionally, nexus was synonymous with “people” and “property,” that is, having the business’ employees or property physically in the state. However, as the economy has evolved, so too have state nexus laws. Many states have adopted economic nexus standards for both income and sales tax, subjecting a business to tax even when the business lacks any type of physical presence in the state. Here are three things you may not know about nexus.

  1. For the most part, physical presence is a thing of the past.

Last summer, the United States Supreme Court’s decision in South Dakota v. Wayfair ushered in a new era for sales tax nexus. The Court discarded the “physical presence” standard that had been the law since 1967. In the wake of Wayfair, over thirty states and the District of Columbia now have economic nexus laws in place for sales tax. This means if a business exceeds a certain dollar threshold in sales or transactions in a state, the business could be responsible for collecting and remitting that state’s sales tax. Nearly all states also employ an economic nexus standard in the income tax context. The bottom line—nearly every business that makes sales into other states needs to track those sales and re-evaluate its sales and income tax obligations.

  1. You could have property in a state without knowing it.

Attention all Amazon FBA sellers—you could have property in a state and not know it. Through the popular “Fulfillment by Amazon” program, Amazon sellers store their inventory in Amazon fulfillment centers across the country. When a customer places an order, Amazon then packs and ships the product on behalf of the seller. In most states, the presence of property in the state (even temporarily) creates nexus for income and sales tax. Thus, the FBA program can have the unintended effect of creating nexus for sellers in states where their inventory is stored, which likely will differ from the state to which the seller originally sent its inventory to Amazon.

  1. Independent contractors are people, too.

Finally, state laws are very broad when it comes to the definition of “people.” Generally, any type of representative, including sales reps and independent contractors, in the state on behalf of the business could create nexus. In an age where many employees work remotely and independent contractors provide services traditionally performed by employees, it can be difficult for a business to keep track of all its “people.” However, tracking this information is necessary for a business to comply with its state tax obligations.

Keeping up with state tax nexus laws is no easy feat. For further information or assistance, please contact your tax advisor or learn more about Dean Dorton Tax Services at the link below:

Learn more

Erica Horn, CPA, JD
Tax Associate Director
ehorn@deandorton.com • 859.425.7674

Maddie Schueler, JD, LLM
Senior Tax Consultant
mschueler@deandorton.com • 502.566.1009

Article Dean Dorton

If you have incomplete or missing records and get audited by the IRS, your business will likely lose out on valuable deductions. Here are two recent U.S. Tax Court cases that help illustrate the rules for documenting deductions.

Case 1: Insufficient records
In the first case, the court found that a taxpayer with a consulting business provided no proof to substantiate more than $52,000 in advertising expenses and $12,000 in travel expenses for the two years in question.

The business owner said the travel expenses were incurred ”caring for his business.“ That isn’t enough. ”The taxpayer bears the burden of proving that claimed business expenses were actually incurred and were ordinary and necessary,“ the court stated. In addition, businesses must keep and produce ”records sufficient to enable the IRS to determine the correct tax liability.“ (TC Memo 2016-158)

Case 2: Documents destroyed
In another case, a taxpayer was denied many of the deductions claimed for his company. He traveled frequently for the business, which developed machine parts. In addition to travel, meals and entertainment, he also claimed printing and consulting deductions.

The taxpayer recorded expenses in a spiral notebook and day planner and kept his records in a leased storage unit. While on a business trip to China, his documents were destroyed after the city where the storage unit was located acquired it by eminent domain.

There’s a way for taxpayers to claim expenses if substantiating documents are lost through circumstances beyond their control (for example, in a fire or flood). However, the court noted that a taxpayer still has to “undertake a ‘reasonable reconstruction,’ which includes substantiation through secondary evidence.”

The court allowed 40% of the taxpayer’s travel, meals and entertainment expenses, but denied the remainder as well as the consulting and printing expenses. The reason? The taxpayer didn’t reconstruct those expenses through third-party sources or testimony from individuals whom he’d paid. (TC Memo 2016-135)

Be prepared
Keep detailed, accurate records to protect your business deductions. Record details about expenses as soon as possible after they’re incurred (for example, the date, place, business purpose, etc.). Keep more than just proof of payment. Also keep other documents, such as receipts, credit card slips and invoices. If you’re unsure of what you need, check with us.

Article Dean Dorton

This week concludes our six-part email series on the new tangible asset regulations which are generally effective for tax years beginning after 1/1/14 and impacts any taxpayer with capitalized assets or supplies.  The following is a summary of the five areas we previously discussed which may impact you.

De minimis Safe Harbor Rule
The de minimis safe harbor rule allows taxpayers to annually elect to expense certain expenditures, if a written policy is in place at the beginning of the tax year, when you spend less than a certain dollar amount on tangible property.

Materials & Supplies
Through the materials and supplies rules, incidental items meeting certain criteria may accelerate deductions by expensing items in the current year, rather than maintaining an inventory and deducting when used. Non-incidental (inventoried) items  are required to be capitalized and deducted when used or consumed, not necessarily in the year acquired.

Unit of Property: Building Systems
The new rules for building systems places the building components into nine different units of property to determine whether an expenditure is a capitalized improvement or a deductible expense.  These components include HVAC, electrical systems, plumbing, escalators, elevators, fire protection & alarm, security, gas distributions or other structural components.

Unit of Property: Non-Building
To determine whether property is subject to capitalization or expense, you must look at the Unit of Property rules.  For non-building property, you must determine if the components are functionally interdependent, and placing one component in service is reliant on placing other components in service.

Repairs vs. Improvements: 3 Tests
The new regulations implement three new tests to determine whether expenditures related to a unit of property should be capitalized or expensed. The three tests are the betterment test, the restoration test, and the adaptation test. If the expenditure meets any of the tests, the cost should be capitalized as an improvement to the unit of property.  All three tests must be done in succession before determining that expensing the cost is appropriate.

Additional guidance was also released that allows for a late partial disposition election in 2014 to claim  a loss on the cost of the component that was replaced, removed or disposed of in prior years.

As the new regulations are complex, we highly recommend that you address these required changes prior to year end and assess any planning opportunities available.

If you would like additional information or have questions, please contact Allison Carter at alcarter@deandorton.com or Faith Crump at fcrump@deandorton.com or by calling 502-589-6050.

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