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Connecticut amends entity tax provisions

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Connecticut Gov. Ned Lamont signed legislation on July 8, 2019, amending the Connecticut pass-through entity (PTE) tax and modifying several administrative provisions.1 Specifically, for tax years beginning on or after Jan. 1, 2019, guaranteed payments are generally included in a pass-through entity’s taxable income. The changes address several outstanding taxpayer concerns after enactment of budget legislation in late June.2

PTE Tax Legislation enacted last year created a new business entity-level tax on “affected business entities,” defined as partnerships, S corporations and limited liability companies treated as partnerships for federal income tax purposes, at a rate of 6.99%.3 The PTE tax calculation is generally based on the affected business entity’s taxable income as determined for federal income tax purposes under Internal Revenue Code (IRC) Sec. 702(a) on both separately and non-separately stated items flowing to equity holders, to the extent such items are derived from or connected to sources within the state as adjusted for state modifications.4

Applicable to taxable years beginning on or after Jan. 1, 2019, taxpayers may exclude from a pass-through entity’s income any item treated as an itemized deduction for federal income tax purposes. Guaranteed payments with respect to a partnership as described in IRC Sec. 707(c) must be included in income.5 Further, as of July 8, 2019, the legislation requires the Commissioner to waive interest and penalties related to 2018 tax due as a result of the PTE tax enactment, to the extent that a taxpayer makes the correct tax payments within one year of the original due date.6 Entities with less than $1,000 in PTE tax liability are exempt from the estimated payment requirements.7 Finally, nonresident individuals who are shareholders or partners in a PTE are not required to file Connecticut individual income tax returns if their tax is fully satisfied by the PTE credit allowed under Conn. Gen. Stat. Sec. 12-699(g)(1)(A).8

The legislation adds a new provision applicable to the estate tax treatment of real and tangible personal property owned by a pass-through entity. Generally, nonresident estates are subject to Connecticut estate tax on real and tangible personal property located in Connecticut.9 The legislation specifies under certain conditions, if real and tangible personal property is owned by a pass-through entity, the entity is disregarded for Connecticut estate tax purposes and the property is treated as personally owned by the decedent to the extent of the decedent’s constructive ownership in the pass-through entity.10

Administrative and procedural provisions The new legislation modifies the time frame within which tax appeals must generally be made to the superior court to 30 days after receiving notice, instead of one month.11 Further, the Penalty Review Committee is now only authorized to review and approve waivers for penalties over $5,000 (the threshold for review and approval previously was $1,000).12 Beginning Oct. 1, 2019, a warrant on any intangible personal property may be served by any electronic means.13 Finally, the order in which partial payments are applied against outstanding taxes is changed. For tax periods ending on or after July 1, 2018, and before Dec. 31, 2019, such payments are applied first to penalties, then to tax, and then to interest. For periods ending on or after Dec. 31, 2019, such payments are applied first to penalties, then to interest, and then to tax.14

Commentary The Connecticut budget bill trailer addresses three notable outstanding concerns – nonresident filing responsibility, treatment of guaranteed payments, and penalties and interest related to the PTE tax. The 2019 budget legislation had decreased the PTE tax credit from 93.01% to 87.5%, leading to concern that the reduced credit would no longer wholly offset a nonresident member or partner’s Connecticut tax liability and could result in a requirement for such individuals to file Connecticut income tax returns. The new statute addresses this concern by clarifying that no returns need be filed for nonresidents whose only source of Connecticut income is a distributive share of income from a PTE that paid the PTE tax for such nonresidents.

Also, budget legislation had left unanswered questions regarding inclusion of guaranteed payments in Connecticut taxable income. While the Connecticut Department of Revenue Services had previously issued guidance that guaranteed payments are not included in the tax base,15 it had subsequently provided a filing option for PTEs with nonresident members who receive guaranteed payments.16 The new statutory language clarifies that guaranteed payments are included in taxable income.

Finally, the Commissioner may now abate penalties and interest for the entire 2018 tax year for taxpayers subject to the new PTE tax. The budget legislation had only allowed penalty abatement for tax years beginning on or after Jan. 1, 2019, but prior to the June 26, 2019, effective date of the legislation.17


 
1 Act 19-186 (H.B. 7373), Laws 2019.
2 Act 19-117 (H.B. 7424), Laws 2019. See GT SALT Alert: Connecticut Enacts Budget Legislation Adjusting Economic Nexus and Business Entity Tax Provisions.
3 Act 18-49 (S.B. 11), Laws 2018. For a discussion of this legislation, see GT SALT Alert: Connecticut Enacts Legislation Responding to Federal Tax Reform Affecting Pass-Through Entities, Corporations and Individuals.
4 S.B. 11, Laws 2018, § 1(c).
5 CONN. GEN. STAT. § 12-699(c). Likewise, for purposes of the alternative tax base, the definition of “unsourced income” is amended to exclude items treated as itemized deductions for federal income tax purposes, and include guaranteed payments described under IRC § 707(c). CONN. GEN. STAT. § 12-699(l)(2)(B).
6 Act 19-186 (H.B. 7373), Laws 2019, § 32. Waiver is available for amounts of tax increased or created as a result of enactment of the PTE tax.
7 CONN. GEN. STAT. § 12-699a(b)(1).
8 CONN. GEN. STAT. § 12-699(e)(1). Nonresidents with other Connecticut taxable income would not be eligible.
9 CONN. GEN. STAT. § 12-391(e)(2)(A).
10 CONN. GEN. STAT. § 12-391(e)(2)(B). The provision is applicable if one of the following three conditions is met: (i) the entity does not carry on a for-profit business; (ii) the entity’s ownership of the property had no valid business purpose; or (iii) the property was acquired in a manner other than a bona fide sale for full and adequate consideration, and the decedent retained power over the property that would bring such property into the decedent’s gross estate. Id.
11 CONN. GEN. STAT. §§ 12-3a(d); 12-208(b); 12-237; 12-263v(b); 12-268l; 12-312; 12-330m; 12-422; 12-448; 12-463; 12-489(b); 12-554; 12-586f(d); 12-586g(d); 12-597; 12-638i(b); 12-730.
12 CONN. GEN. STAT. § 12-3a(a).
13 CONN. GEN. STAT. § 12-35(b)(2). The warrant may be served on any third person in possession of, or obligated with respect to, receivables, bank accounts, evidence of debt, securities, salaries, wages, commissions, compensation or other intangible personal property subject to warrant.
14 CONN. GEN. STAT. § 12-39h.
15 Office of the Commissioner Guidance OCG-6, Connecticut Department of Revenue Services, revised Feb. 15, 2019.
16 For further information, see Pass-Through Entities (PEs) with nonresident members who receive guaranteed payments, Connecticut Department of Revenue Services, available at: https://portal.ct.gov/DRS/News---Press-Releases/2018/Information-on-the-2018-Pass-Through-Entity-Tax.
17 H.B. 7424, Laws 2019, § 334.



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