In early April, the New York State (NYS) Legislature passed its 2017-2018 budget legislation, which Governor Cuomo signed into law on April 10. This legislation contains numerous changes to the New York State Tax Law.
Important Changes Made by the Budget Legislation:
- 2-Year Extension of Millionaire’s Tax: New York’s current top individual income tax rate of 8.82 percent was set to expire at the end of 2017. The legislation extended this sunset date so that the higher rate will now expire at the end of 2019. The 8.82 percent tax rate applies to income in excess of $1 million ($2 million for taxpayers filing jointly).
- 2-Year Extension of Charity Deduction Cap: New York currently limits an individual’s deductions for gifts to charity to (1) 50 percent of the federal deduction if his or her income is between $1 million and $10 million or (2) 25 percent of the federal deduction if his or her income is over $10 million. This limit had been set to expire at the end of 2017. The legislation extended this sunset date so that the limit will now expire at the end of 2019.
- Change the Treatment of the Taxation of Gain on the Sale by Nonresidents of Certain Entities that Own Interests in New York Co-ops: Nonresident individuals are generally subject to personal income tax on the amount of their “New York source income.” New York source income includes gain from the sale of real property located in New York or from the sale of an interest in a co-op located in New York. In addition, while in general New York source income does not arise when a nonresident individual sells an ownership interest in a legal entity, an exception to this general rule applies with respect to the sale of interests in certain legal entities—partnerships, limited liability corporations (LLCs), S corporations and certain non-publicly traded C corporations—more than 50 percent of the value of which consists of New York real estate; when a nonresident individual sells an interest in such a legal entity, the nonresident individual is treated as generating taxable New York source income from the sale of the underlying New York real property. Prior to this year’s legislation, this rule for the treatment of the gain from the sale of legal entities that own New York real estate did not extend to entities that owned shares in New York co-ops. Thus, nonresident individuals were able to avoid generating New York source income on the sale of shares of a New York co-op by transferring the shares to an entity and then selling an interest in the entity. The budget legislation changes this result by providing that New York co-op shares are New York real property for purposes of determining whether more than 50 percent of the value of a legal entity consists of real property.
- Change the Treatment of Certain Sales of Partnership Interests by Nonresidents: When a partner of a partnership or a member of an LLC sells his or her ownership interest in an entity, the buyer and seller generally both treat the transaction as the sale of an intangible asset. However, federal law allows the buyer to elect to treat the transaction as a deemed sale of a portion of all the partnership’s assets, thereby giving the buyer a “step-up” in his or her basis in the entity. Federal law does not require conformity with this election by the seller. As a result the seller may still be treated as selling an intangible asset. Because nonresidents are generally not subject to New York tax on sales of intangibles that are not used in a business in New York, nonresident sellers could elect to treat the sale as the sale of the interest, thus resulting in the nonresident not being subject to tax on any gain from the sale even though the purchaser gets a step-up in basis. The budget legislation purports to eliminate this difference in treatment by requiring conformity between the buyer and the seller, such that the seller will be treated as selling the partnership’s assets when the buyer makes such an election. Thus, to the extent the sale of the LLC or the partnership is of assets that will generate New York source income, a nonresident seller will be subject to New York tax on the gain attributable to the sale of such assets.
- Change the Treatment of Certain Related-Entity Transactions for Sales/Use Tax Purposes: Generally, all retail sales of tangible personal property (TPP) are subject to New York sales and use tax. However, when a person acquires TPP for the purpose of later re-selling or leasing that property, the initial purchase of property is excluded from the definition of retail sale; thus, the initial purchase is exempt from the imposition of the sales tax. Taxpayers have been able to decrease the amount of sales tax that they pay on the purchase of valuable TPP—such as artwork—by having one entity purchase the TPP, with the purchasing entity then selling or leasing the TPP to a related entity at a much lower price. Since sales tax is imposed on the sales price for the TPP being sold, this related-party transaction results in a reduction of the sales tax imposed on the transaction. The budget legislation eliminates this opportunity by amending the definition of retail sale to include certain purchases of TPP that are purchased for resale or for lease to a related entity. For these purposes, related-entity sales include (a) sales to a single member LLC or subsidiary that is disregarded for federal income tax purposes, for resale to its single member or shareholder; (b) sales to a partnership for resale to one or more of its partners; and (c) sales to a trustee for resale to a trust beneficiary.
- Change the Treatment of Newly Formed Entities for Use Tax Purposes: Generally, when a New York resident purchases TPP in another state and then brings the TPP into New York, the resident must pay “use tax” to New York, which complements the sales tax that applies to sales that take place inside New York. On the other hand, when a nonresident moves from another state into New York and brings his or her TPP into the state, generally no use tax is due. People have exploited this exemption by forming new entities in other states to acquire TPP and then relocating the entities to New York. The budget legislation purports to eliminate this opportunity by providing that this use tax exemption only applies to entities that have been doing business outside of New York for at least six months prior to bringing the TPP to New York.
Notable Scrapped Proposals:
- No Required Conformity for S Corporation Elections: Under current law, a corporation that elects to be treated as an S corporation at the federal level does not necessarily need to “conform” to that treatment at the New York level. In some situations, New York residents have chosen non-conforming treatment so as to defer or reduce the New York personal income tax imposed on the income from their federal S corporations, although opportunities to choose non-conforming treatment have been limited since 2007, when legislation was passed requiring conforming treatment for certain federal S corporations wherein investment income comprises more than 50 percent of their federal gross income for the taxable year. This year’s budget legislation originally contained a provision that would have required all federal S corporations to conform to S corporation treatment at the New York level, but this requirement was dropped from the legislation before it was passed. Thus, taxpayers may still be able to elect non-conforming treatment for certain federal S corporations that predominantly generate income from operating businesses, not from the making of investments.