North Carolina enacted significant tax legislation early in the month of July Gov. Josh Stein signed several bills that include updating the state’s Internal Revenue Code (IRC) conformity date, decoupling the state’s income tax regimes from IRC Sec. 174A enacted under the One Big Beautiful Bill Act (OBBBA), adopting modifications to the state’s franchise tax, and implementing a new tax on prediction markets.1
Income tax changes
IRC conformity
S.B. 595 advances North Carolina’s static IRC conformity date from Jan. 1, 2023, to July 5, 2025, including federal provisions enacted as of that date that become effective either before or after that date.2 This update applies to both North Carolina individual and corporate taxpayers.
However, the effective date of the IRC conformity change is unclear, as the bill only provides that this provision is effective upon enactment (i.e., July 2, 2026).3 Notably and as discussed below, S.B. 595 also retroactively decouples from Sec. 174A enacted under the OBBBA. Accordingly, it appears that the legislative intent is for the IRC conformity update to also be effective retroactively (including tax years beginning in 2025 and 2026). However, additional guidance from the North Carolina Department of Revenue (Department) is necessary to confirm this interpretation is accurate.
Sec. 174A conformity
Prior to the OBBBA, taxpayers generally were required for federal income tax purposes to amortize domestic R&E expenditures over five years and foreign R&E expenditures over 15 years for taxable years beginning after 2021. Now, under Sec. 174A, taxpayers may immediately expense domestic R&E expenditures. Foreign R&E expenditures retain a 15-year amortization requirement.
North Carolina now decouples from Sec. 174A by requiring taxpayers to add back 80% of the federal Sec. 174A deduction.4 A taxpayer is then allowed to deduct 25% of the addback in each of the first four taxable years following the year in which the addback is required.5 This mechanism effectively preserves a five-year recovery period for the portion of domestic R&E expenditures that would otherwise be accelerated for federal purposes.
Additionally, the OBBBA contained transition rules under Sec. 70302(f) that allow taxpayers to deduct any remaining unamortized domestic R&E expenditures attributable to taxable years beginning in 2022, 2023, and 2024. Under these rules, taxpayers may elect, for federal income tax purposes, to deduct any remaining unamortized domestic R&E expenditures either entirely in the first tax year beginning after Dec. 31, 2024, or ratably over two years.
Separately, the OBBBA created transition rules for small businesses (taxpayers with gross receipts of less than $31 million) to elect to apply Sec. 174A retroactively for years beginning in 2022 and deduct the remaining amounts of domestic R&E expenses incurred from 2022 through 2024.
Unlike other states that specifically address these transition rules, S.B. 595 only provides that the 80% addback and subsequent ratable deduction over four years apply to the “full first-year expensing of domestic research and experimental expenditures under” Sec. 70302 of the OBBBA.6 Given the language of “full first-year expensing,” at first blush, it may appear that the decoupling provisions may not apply to taxpayers electing a ratable two-year deduction of unamortized domestic R&E expenditures.
However, it appears that the intent of the provisions is to have the addback mechanics apply to any method permitting a retroactive deduction of previously amortized domestic R&E expenses. These decoupling provisions apply to both corporate and individual taxpayers and are effective for tax years beginning in 2022 and thereafter, for taxpayers electing retroactive applicability of Sec. 174A or years beginning in 2025 and thereafter, for taxpayers who do not make this election.7
Federal partnership elections
S.B. 595 also includes several conforming modifications and procedural changes designed to facilitate North Carolina's implementation of the centralized partnership audit regime.8 To ensure that federal partnership audit adjustments are properly reflected for North Carolina income tax purposes, the legislation creates corresponding addition and deduction modifications. Specifically, taxpayers must increase or decrease their federal taxable income based on whether their distributive share of partnership income increases or decreases as a result of a final federal partnership adjustment.9
The legislation also revises the statute of limitations for claiming refunds related to final federal partnership adjustments. If a taxpayer timely files a North Carolina return reflecting a final federal partnership adjustment, the taxpayer may request a refund within one year after filing the adjusted return or within three years after the original return was filed or due to be filed, whichever period expires later.10
S.B. 595 modifies the period during which the Department may propose an assessment attributable to a final federal partnership adjustment. Under existing law, the general statute of limitations for assessing tax is three years from the date the return was filed or due, whichever is later.
For taxpayers that timely file a return reflecting a final federal partnership adjustment, the Department generally may propose an assessment within one year after the return is filed or within three years after the original return was filed or due to be filed, whichever period expires later. If a taxpayer fails to timely report a final federal partnership adjustment, the Department may assess additional tax within six years after receiving notice of the final federal partnership adjustment.11
The legislation permits tiered partnerships to make the election to report and pay tax at the partnership level.12 However, partnerships that previously elected to be taxed as a pass-through entity under North Carolina's elective PTE tax regime, as well as partnerships that lacked North Carolina nexus during the audited year, are not eligible to make the election.13
Franchise tax updates
Removal of affiliated indebtedness deduction
S.B. 595 also made significant changes to the North Carolina franchise tax regime. North Carolina remains one of the few remaining states to impose a net worth-based franchise tax based on a taxpayer’s total assets, subject to adjustments.14 Historically, North Carolina required taxpayers to add back to their franchise tax base any “affiliated indebtedness” owed to an affiliated creditor corporation (i.e., both entities share a more than 50%, direct or indirect, common ownership interest).15
For relief, North Carolina permitted the affiliated creditor corporation a corresponding deduction to its franchise tax base for the amount of indebtedness.16 S.B. 595 removes this deduction for affiliated creditor corporations and is effective retroactively to tax years beginning in 2021 and thereafter (and applicable to franchise tax reported on a corporation’s 2020 and subsequent corporate income tax returns).17
New deduction for investments in insurance companies
S.B. 595 also creates a new franchise tax base deduction for investments made in insurance companies. Specifically, in determining net worth for franchise tax purposes, a corporation may now deduct any direct or indirect investment in an insurance company if the insurance company is subject to North Carolina’s gross premiums tax or would be subject to the tax if the insurance company were doing business in North Carolina.18
The direct or indirect investment must result in the corporation owning more than80% direct or indirect ownership interest in the insurance company.19 This change is effective retroactively to tax years beginning in 2019 and thereafter (and applicable to franchise tax reported on a corporation’s 2018 and subsequent corporate income tax returns).20
New franchise tax credit for eligible corporate campus rehabilitation projects
S.B. 595 further creates a new credit for a narrow class of large corporate campus rehabilitation projects. Effective for tax years beginning in 2026 and thereafter, a taxpayer eligible for IRC Sec. 47 rehabilitation tax credit for qualified expenditures of at least $10 million with respect to a certified rehabilitation of an eligible corporate campus is allowed a North Carolina franchise tax credit equal to 40% of the qualified rehabilitation expenditures incurred on or after Jan. 1, 2026.21
Personal income tax modifications
S.B. 257 continues North Carolina's scheduled personal income tax rate reduction regime, lowering the rate from 3.99% in 2026 to 3.49% in 2027 through 2029, 3.24% in 2030 through 2032, and 2.99% in 2033 and thereafter.22 The legislation also authorizes up to two additional 0.25% rate reductions for tax years between 2035 and 2040 if specified revenue triggers are satisfied.23
Tax on prediction markets
Joining a growing number of states, North Carolina will impose a tax on prediction markets. Effective Jan. 1, 2027, S.B. 257 creates a standalone tax on “prediction markets” which are broadly defined as platforms, foreign or domestic, that allow for the buying, selling or exchange of event contracts and include any contract market that has obtained a license from the Commodity Futures Trading Commission (CFTC) or other type of business offering event contracts for trading that are traded by North Carolina consumers.24
Importantly, an event contract is narrowly defined to include only “a swap . . . that is based upon the occurrence, extent of an occurrence, or contingency for which the event or contingency involves sports.”25 An event contract excludes commodities as defined under 7 U.S.C. § 1a(19)(i) which includes measures such as interest rates, currencies, and securities. The tax is imposed upon a prediction market’s net trading fee revenue. A taxpayer first needs to determine its “prediction market revenue,” which is defined to include:
- revenue actually received from trading or taker fees;
- fees charged to liquidity providers placing resting orders; and
- commissions charged to futures commission merchants, introducing brokers, affiliated or authorized market participants, clearinghouses or clearing organizations, intermediaries, service providers, and market infrastructure participants.26
The taxpayer is permitted the following specific deductions to arrive at net trading fee revenue:
- broker or market maker compensation;
- promotional incentives, funds or rebates;
- platform fees or clearing fees charged by a derivatives clearing organization; and
- withdrawal fees.27
A 6% tax is imposed upon a prediction market operator’s net trading fee revenue apportionable to the state.28 Taxpayers are allowed to apportion their revenue if they derive revenue from the trading of an event contract by a North Carolina resident who is domiciled and present in North Carolina at the time of the trade, on a prediction market that results in payment of trading fees by that resident. The tax is remitted on annual returns which will be administered by the North Carolina Secretary of State.29
Notably, the statute omits several key terms and concepts typically seen when implementing new tax regimes. Specifically, the term “operator” remains undefined. Further, no rules are provided for determining “residency” for apportionment purposes. Finally, the new tax does not establish any nexus standards (e.g., revenue thresholds) for determining when a prediction market is subject to this tax.
Interest relief due to hurricane helene
S.B. 595 extends interest relief originally enacted for taxpayers affected by Hurricane Helene. The legislation requires the Department to continue waiving interest on specified franchise, corporate income, individual income tax, withholding, and related taxes through Sept. 25, 2025, subject to certain payment requirements.30 Specifically, taxpayers seeking a waiver of interest on withholding tax must have made the applicable tax payment on or before Sept. 25, 2025, to be eligible.31
Commentary
Unlike other states wrestling with budget deficits, North Carolina is projecting a budget surplus for fiscal years 2026 and 2027.32 However, despite this surplus, North Carolina still chose the option to decouple from costly income tax deductions resulting from changes made by the OBBBA, while also enacting new taxes. These actions may reflect the state’s long-term revenue concerns as North Carolina continues its scheduled individual income tax rate reductions and planned corporate income tax phaseout.
North Carolina’s decoupling from IRC Sec. 174A is not overly surprising as numerous states have also decided to decouple from this provision, given that restoring immediate expensing would greatly impact state revenue. However, while other states, such as New York and Minnesota, have explicitly addressed how their decoupling provisions apply to the retroactive application of Sec. 174A, North Carolina adopted an unusual drafting approach.33
Instead of providing, for example, that North Carolina’s Sec. 174A decoupling provisions apply to any retroactive deduction of domestic R&E expenditures, the enacted language instead only states that Sec. 174A decoupling provisions are to apply to “full first-year expensing of domestic” R&E expenditures. Nowhere in S.B. 595 is the phrase “full first-year” defined or used again.
Further, that phrase is absent from the OBBBA. As previously highlighted, the OBBBA allows taxpayers to choose whether to fully expense in the first year or deduct ratably over two years. Whether this decoupling provision will apply to taxpayers choosing a two-year ratable deduction highlights the uncertainty that unnecessary terms of art can create.34
North Carolina’s IRC conformity update further complicates income tax matters for the 2025 and 2026 tax years. While the state advanced its IRC conformity date to July 5, 2025, the bill appears to assume that conformity will apply retroactively to tax years beginning on or after Jan. 1, 2025, even though the effective-date language does not explicitly support that result. This ambiguity is particularly relevant because North Carolina previously conformed to a pre-OBBBA version of the IRC through all of taxable year 2025 and part of 2026.
Although the state decouples from other IRC sections impacted by the OBBBA (for example, Secs. 168(k), 168(n), and 179), the state does not explicitly decouple from Sec. 163(j) limiting business interest expense.35
The OBBBA modified Sec. 163(j) to calculate adjusted taxable income (ATI) on a tax-basis EBITDA (earnings before interest, taxes, depreciation, and amortization) framework, which generally increases a taxpayer’s allowable interest deduction compared to an EBIT calculation. Accordingly, if the IRC conformity updates retroactively apply to taxable years in 2025, taxpayers significantly impacted by Sec. 163(j) should reevaluate their 2025 North Carolina tax positions and projected 2026 estimated tax obligations.
The franchise tax changes appear largely targeted at expanding the tax base rather than significantly restructuring North Carolina’s franchise tax system. Most notably, the legislation repeals the deduction historically available to affiliated creditor corporations for intercompany indebtedness while retaining the requirement that affiliated debt be added back by the debtor corporation.
Because North Carolina’s franchise tax is imposed on a net-worth-based measure rather than income, the repeal may result in a form of double taxation of the same capital investment. Although the legislature may have viewed the prior deduction as providing an unwarranted reduction to the franchise tax base, taxpayers with significant intercompany financing arrangements and North Carolina presence, especially if North Carolina franchise tax planning has been undertaken in prior years, should evaluate whether this change materially increases their effective franchise tax burden.
The retroactive effective date is unusual and raises questions about increased audit activity or whether amended returns may be required.. Further, the retroactive effective date increases the importance of reviewing prior-year filing positions and assessing potential impacts on financial statements for ASC 450 purposes.
As highlighted in recent articles, states are seeking to tax the fast-growing field of prediction markets. North Carolina has become another state to enact a tax specifically targeting prediction market activity.36 North Carolina enacted a broad-based gross receipts-styled tax subject to apportionment. Further, the tax is imposed at a rate of 6%, which is lower than in other jurisdictions that have addressed this issue, and North Carolina does not subject the prediction markets to any additional licensure requirements.
The approach contrasts with Illinois, which recently subjected sports-event contracts offered on prediction markets to its Sports Wagering Act. Illinois’ imposition of tax completely differs from North Carolina, wherein Illinois imposes a per-transaction fee. Further, and more importantly, Illinois subjects prediction markets to additional, and significant licensure and regulatory requirements as sports betting operators.
Prediction markets generally are not treated as gambling under federal law. Instead, many prediction market platforms operate as CFTC-regulated designated contract markets, and the CFTC has asserted that the Commodity Exchange Act preempts the application of conflicting state gambling laws to those exchanges. Because North Carolina imposed a tax without adopting a broader regulatory framework for prediction markets, the state may avoid some of the federal preemption questions raised by other state laws that impose a regulatory framework on prediction markets.
At the same time, North Carolina's statute leaves several fundamental questions unanswered, including the meaning of "operator," the determination of customer residency, and the application of apportionment rules where participants have multiple state connections. Guidance addressing these issues will likely be necessary before taxpayers can fully assess their compliance obligations.
1 1 S.B. 595, Laws 2026; S.B. 257, Laws 2026. In addition, while not specifically covered in this SALT Alert, North Carolina adopted several sales tax provisions in its budget, including the repeal of the state’s data center electricity exemption, updates to economic nexus provisions, an update of the state’s conformity to the Streamlined Sales and Use Tax Agreement to the version dated May 20, 2025, and a new rule regarding rounding practices in the event the penny is eliminated. See generally S.B. 595, §§ 3.1; 14.(a); § 44.4.
2 S.B. 595, § 12.(a), amending N.C. GEN. STAT. § 105-228.90(b)(7).
3 S.B. 595, § 12.(f).
4 S.B. 595, § 12.(b), adding N.C. GEN. STAT. § 105-130.5C(a); S.B. 595, § 12.(c), adding N.C. GEN. STAT. § 105-130.5(a)(24a), (b)(27a).
5 S.B. 595, § 12.(b), adding N.C. GEN. STAT. § 105-130.5C(a).
6 Id.
7 S.B. 595, § 12.(f). See, S.B. 595, § 12.(d), (e) for similar provisions that implicate North Carolina’s individual income tax regime.
8 See, S.B. 595, § 2.(a). adding N.C. GEN. STAT. § 105-154.2.
9 S.B. 595, § 2.(d). adding N.C. GEN. STAT. § 105-130.5(a)(33), (b)(33).
10 S.B. 595, § 2.(e). adding N.C. GEN. STAT. § 105-241.6(b)(7).
11 S.B. 595, § 2.(f). adding N.C. GEN. STAT. § 105-241.8(b)(6).
12 S.B. 595, § 2.(a). adding N.C. GEN. STAT. § 105-154.2(f).
13 S.B. 595, § 2.(a). adding N.C. GEN. STAT. § 105-154.2(d)(2).
14 N.C. GEN. STAT. § 105-122.
15 N.C. GEN. STAT. § 105-122(b)(2).
16 N.C. GEN. STAT. § 105-122(b)(2a).
17 S.B. 595, § 8.7.(a), striking N.C. GEN. STAT. § 105-112(b)(2a); § 8.7.(b).
18 S.B. 595, § 8.4.(b), adding N.C. GEN. STAT. § 105-122(b)(9).
19 Id.
20 S.B. 595, § 8.4.(b).
21 S.B. 595, § 8.5.(a), adding N. C. GEN. STAT. § 105-129.71(a2). The definition of an eligible corporate campus includes, among other requirements, a North Carolina site that is a certified historic structure or State-certified historic structure, previously served as a corporate headquarters, is located on parcels comprising at least 20 acres, is subject to a preservation agreement, has been listed on the National Register of Historic Places and certified as a local landmark, and has been at least 80% vacant for at least two years immediately preceding the eligibility certification. Id.
22 S.B. 257, § 44.1(a) amending N.C. GEN. STAT. § 105-153.7(a).
23 S.B. 257, § 44.1(a) amending N.C. GEN. STAT. § 105-153.7(a1).
24 See, S.B. 257, § 44.9.(a) adding N.C. GEN. STAT. §§ 105-113.130, 105-113.131.
25 S.B. 257, § 44.9.(a) adding N.C. GEN. STAT. § 105-113.130(4).
26 S.B. 257, § 44.9.(a) adding N.C. GEN. STAT. § 105-113.130(9).
27 S.B. 257, § 44.9.(a) adding N.C. GEN. STAT. § 105-113.130(7).
28 S.B. 257, § 44.9.(a), adding N.C. GEN. STAT. § 105-113.131(a), (b); S.B. 257, § 44.9.(b).
29 S.B. 257, § 44.9.(a), adding N.C. GEN. STAT. § 105-113.131.
30 30 S.B. 595 § 1.7(b), amending H.B. 149, § 13.1(a), (c).
31 S.B. 595 § 1.7(b), amending H.B. 149, § 13.1(c).
32 See, North Carolina Office of State Budget and Management May 2026 Revised Consensus General Fund Revenue Forecast.
33 For further discussion, see GT SALT Alert: New York State and City Decouple from Some OBBBA Provisions.
34 It should be noted that the Department released an information notice soon after enactment which provides an example with respect to the addback and deduction calculation but does not shed additional light on this topic. See “Important Notice: Impact of Recently Enacted Laws on North Carolina Individual and Corporate Income Tax Returns,” N.C. Dept. of Rev., July 23, 2026.
35 Under the OBBBA, Sec.168(n) allows immediate expensing for qualified production property. North Carolina already decoupled from a prior version of Sec. 168(n) and therefore decouples from the provision. See, N.C. Gen. Stat. § 105-130.5B(a).
36 For further discussion, see GT SALT Alert: Illinois Enacts Taxes on Digital Markets, Social Media, Digital Assets.
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