District Of Columbia Enacts Budget Including Single Sales Factor Apportionment, Market-Based Sourcing - Sales Taxes: VAT, GST

The District of Columbia Council adopted the Fiscal Year 2015 Budget Support Emergency Act of 2014 on July 14, overriding a veto by Mayor Vincent Gray.¹ The measure includes the adoption of a single sales factor for apportionment purposes and market-based sourcing rules for sales of items other than tangible personal property for tax years beginning after December 31, 2014. The newly adopted rules also impose a sales tax on specified services, modify the taxation of tobacco products, reduce the corporate income tax and unincorporated business tax rates, change personal income tax and estate tax rates and standard deduction amounts, and modify property tax provisions.

Corporate Income and Unincorporated Business Tax Rates

For the taxable year beginning after December 31, 2014, the corporate income tax rate is set at 9.4 percent.² The rate could decrease further in future years if specific tax revenue thresholds are met and corresponding budgets include the reductions.³ Similarly, the unincorporated business tax rate is reduced to 9.4 percent for the tax year beginning after December 31, 2014.⁴ Both taxes are currently imposed at a rate of 9.975 percent.⁵ The legislation adds an exemption from the unincorporated business tax (UBT) for certain investment vehicles. Specifically, the term "unincorporated business" is redefined to exclude a trade or business "that arises solely by reason of the purchase, holding, or sale of, or the entering, maintaining, or terminating of positions in, stocks, securities, or commodities for the taxpayer's own account," subject to certain limitations.⁶

Single Sales Factor Apportionment

For tax years beginning after December 31, 2014, business income will be apportioned based solely on a sales factor.⁷ Currently, business income is apportioned based on a formula including property, payroll, and a double-weighted sales factor⁸ and sales of other than tangible personal property are sourced based on the location of the taxpayer's costs of performance.⁹ Beginning in 2015, sales of other than tangible personal property will generally be sourced based on where the benefits of the sales are received.¹⁰ Specifically, rentals, leases, and licenses of real or tangible personal property, and sales of real property will be sourced to the District if the property is located in the District.¹¹

Sales of services will be sourced based on the location of service delivery.¹² Income from rentals, leases and licenses of intangible property will be sourced to the location where the property is used, though if the intangible property is used in marketing a good or service to a consumer, the sale will be sourced based on where the consumer purchases the good or service.¹³ Intangible property sales will be sourced based on where the intangible property is used, though special sourcing rules apply to certain sales of intangibles.¹⁴ For example, revenue from a contract right, government license or similar intangible property that authorizes the holder to conduct a business activity in a specific geographic area will be sourced to the specific geographic area.¹⁵ Receipts from intangible property sales that are contingent on the productivity, use or disposition of the intangible property will be treated as receipts from the rental, lease, or licensing of the intangible property.¹⁶ All other receipts from sales of intangible property are excluded from both the numerator and denominator of the sales factor.¹⁷

If the state or states of assignment cannot be determined using the detailed rules above, they may be reasonably approximated.¹⁸ However, if the taxpayer is not taxable in a state in which a sale is assigned, or if the state of assignment cannot be determined or reasonably approximated, the sale is excluded from the denominator of the sales factor.¹⁹ The legislation also grants to the Chief Financial Officer the right to prescribe related regulations implementing these changes.²⁰ Finally, the legislation clarifies that the term "sales" excludes receipts from hedging transactions and from the maturity, redemption, sale, exchange, loan or other disposition of cash or securities.²¹

Sales and Use Tax Legislation

The budget legislation makes various changes to sales and use tax laws including changes to the definition of "retail sale" and taxation of tobacco products.

Sales at Retail

The legislation expands the list of services taxable in the District as of October 1, 2014. Specifically, sales of the following are included in the definition of "retail sale" and subject to sales tax:

· bottled water delivery;
· self-storage rentals;
· carpet cleaning services;
· health club/tanning fees;
· car cleaning services; and
· charges for the services of a bowling alley or billiard parlor.²²

"Health club services" that will be subject to the sales tax are defined to include the "use of, access to, or membership to, an athletic club, fitness center, gym, recreational sports facilities featuring exercise and other active physical fitness conditioning or recreational sports activities ... ."²³ The term specifically excludes the use of facilities for non-fitness related purposes, including room rentals, and does not apply to other services or charges covered by a separate contract with the user, such as leases or occupancy agreements.

Tobacco Products

The sales tax applicable to the sale or possession of other tobacco products in the District has been significantly modified for periods beginning October 1, 2014. Definitions are added by the legislation for key terms involved including "cigar," "premium cigar," "e- cigarette," and "other tobacco product.²⁴ The terms clarify that e-cigarettes are not considered an "other tobacco product."

The sales tax rate applied to other tobacco products will generally be equal to the general cigarette tax and surtax imposed on a pack of 20 cigarettes, expressed as a percentage of the average wholesale price of a package of 20 cigarettes, beginning after September 30, 2014.²⁵ The rate will be applied against the gross receipts from the sales of or charges for such taxable other tobacco products.²⁶

A new exemption from the District's tobacco tax available as of October 1, 2014 was also created and applies to the possession of other tobacco products by a licensed wholesaler for sale outside the District or to another licensed wholesaler, a sale of other tobacco products by a licensed wholesaler to another licensed wholesaler, and possession by an authorized properly licensed retailer or vending machine operator of other tobacco products on which the tax for any other state or jurisdiction has been paid for sale in such other state or jurisdiction.²⁷

Estate Tax Modifications

The enacted legislation includes a change to the tax rate imposed on the taxable estate of decedents whose death occurs after December 31, 2015. Specifically, the estate tax will apply at graduated tax rates, ranging from 8 percent of the value of a taxable estate exceeding $2 million, to 16 percent applicable to the value of a taxable estate exceeding $10 million.²⁸ Also, a proportional reduction to the taxable estate value of non-resident decedents dying after December 31, 2015 is now allowed based on the amount of real or tangible personal property with a taxable situs outside the District.²⁹ Finally, the legislation amends the definition of "federal credit" for estate tax purposes to mean the maximum amount of the credit for state death taxes and the amount of the federal unified credit, or $345,800, for decedents dying after December 31, 2002 and before January 1, 2016.³⁰

Other Changes

Other tax provisions enacted by the legislation include:

· A general increase in the available standard deduction for tax years beginning on or after January 1, 2015, with further increases subject to availability of funding;³¹
· A change in the personal income tax rate to 7.0 percent (reduced from 8.5 percent) for income from $40,000 - $60,000 for tax years beginning after December 31, 2014. For tax years beginning after December 31, 2015, that rate is further reduced to 6.5 percent and a rate of 8.5 percent (previously, 8.95 percent) is applied to income from $350,000 - $1,000,000, subject to availability of funding;³²
· Established credits against income tax for alternative fuel infrastructure and alternative fuel vehicle conversion;³³
· Establishment of a low-income housing tax credit, with a maximum amount of credits available of $1 million for tax year 2015;³⁴
· Revision of the estimated tax payment requirements, including application of interest charges to the underpayment of estimated tax for tax years beginning after December 31, 2014;³⁵
· Changes to certain real property tax rebates and exemptions;³⁶
· Real estate property tax relief for low-income elderly taxpayers;³⁷
· A change to the timing of the annual required communication of the real property tax rate;³⁸
· A change in how the Mayor must communicate and proceed with required sales of real property as a result of unpaid real property tax;³⁹ and
· Creation of an Office of Real Property Tax Ombudsman as of October 1, 2014 to assist taxpayers in dealing with real property tax disputes.⁴⁰

Commentary

The budget adopted by the District City Council following a veto by Mayor Gray includes many of the modifications suggested by the D.C. Tax Revision Commission (TRC) in its final recommendations published in May 2014.⁴¹ Mayor Gray's veto letter had included objections to the imposition of sales tax on health club fees, as well as perceived limited tax relief offered to senior citizens under the bill.

The TRC, an independent body tasked by the Council with evaluating possible tax policy changes, included in its recommendations the adoption of a single sales factor formula as well as the application of sales tax to additional services and a reduction in corporate income tax rates. It is interesting to note that the District's corporation income tax and UBT rates, while reduced to 9.4 percent, still exceed the rates imposed by neighboring states Maryland (8.25 percent) and Virginia (6.0 percent). The enacted legislation does provide for a potential continued rate reduction in future years to match Maryland's 8.25 percent rate, but is contingent upon the availability of funding in future years and inclusion of the change in future budget bills.

The changes adopted by the District with respect to apportionment are in line with current trends around the country. For example, the use of a single sales factor apportionment formula with market-based sourcing rules has been adopted by numerous jurisdictions in the past several years. The District's specific market-based sourcing statute is heavily reliant on language contained in the Multistate Tax Commission's proposed revision to the Uniform Division of Income for Tax Purposes Act.⁴²

Footnotes

¹ ^{Act 20-377 (D.C.B. 20-849), Laws 2014. This is
emergency budget legislation, which was passed July 14 by the
Council of the District of Columbia overriding a mayoral veto. This
emergency budget legislation will become effective after the
required 30-day period of Congressional review and incorporates
many changes recommended by the D.C. Tax Revision Commission. The
Council of the District of Columbia also passed permanent budget
legislation, the Fiscal Year 2015 Budget Request Act of 2014
(D.C.B. 20-749), on July 11, 2014.}

² ^{D.C. C}^ODE ^A^NN^{. § 47-1807.02(a)(5).}

³ ^{D.C. C}^ODE ^A^NN^{. § 47-1807.02(a)(6). Pursuant
to D.C. Code Ann. § 47-181, the rate may be further reduced
according to the terms and priority of the Tax Revision Commission
Implementation Amendment Act of 2014, passed on June 24, 2014.
Specifically, the rate could be reduced in stages from 9.4 percent
to a final level of 8.25 percent if appropriately funded.}

⁴ ^{D.C. C}^ODE ^A^NN^{. § 47-1808.03(a)(5).}

⁵ ^{D.C. C}^ODE ^A^NN^{. §§ 47-1807.02;
47-1808.03.}

⁶ ^{D.C. C}^ODE ^A^NN^{. § 47-1808.01(6). The exception
from the UBT does not apply to: (i) a taxpayer that holds property,
or maintains positions, as stock in trade, inventory, or for sale
to customers in the ordinary course of the taxpayer's trade or
business; (ii) a taxpayer that acquires debt instruments in the
ordinary course of the taxpayer's trade or business for funds
loaned or services rendered; or (iii) a taxpayer that holds stock
in a real estate investment trust or a partnership interest that is
not traded on an established securities market.}

⁷ ^{D.C. C}^ODE ^A^NN^{. § 47-1810.02(d-1),
(d-2).}

⁸ ^{D.C. C}^ODE ^A^NN^{. § 47-1810.02(d-1).}

⁹ ^{D.C. C}^ODE ^A^NN^{. § 47-1810.02(g)(3).}

¹⁰ ^Id^.

¹¹ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(i)-(ii).}

¹² ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iii).}

¹³ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iv)(I).}

¹⁴ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iv)(II).}

¹⁵ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iv)(II)(aa).}

¹⁶ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iv)(II)(bb).}

¹⁷ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(A)(iv)(II)(cc).}

¹⁸ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(B).}

¹⁹ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.02(g)(3)(C).}

²⁰ ^{D.C. C}^ODE ^A^NN^{. § 47-1810.02(g)(3)(D).} ²¹ ^{D.C. C}^ODE ^A^NN^{. § 47-1801.04(43).}

²² ^{D.C. C}^ODE ^A^NN^{. § 47-1810.04(n)(1)(V)-(AA).
More specifically, sales tax applies to the sale by a bottled water
delivery service of bottled water by the gallon generally for use
with and to be dispensed from a water cooler or similar type of
water dispenser; the sale of or charge for the service of the
storage of household goods through renting or leasing space for
self-storage, including rooms, compartments, lockers, containers,
or outdoor space, except general merchandise warehousing and
storage and coin-operated lockers; the sale of or charge for the
service of carpet and upholstery cleaning, including the cleaning
or dyeing of used rugs, carpets, or upholstery, or for rug repair;
the sale of or charge for health club services or a tanning studio;
the sale of or charge for the service of car washing, including
cleaning, washing, waxing, polishing, or detailing an automotive
vehicle, except not for coin-operated car washes; and the sale of
or charge for the service of a bowling alley or billiard
parlor.}

²³ ^{D.C. C}^ODE ^A^NN^{. §
47-1810.04(n)(1)(Y)(ii)(I).}

²⁴ ^{D.C. C}^ODE ^A^NN^{. §§ 47-2401(1), (5A);
47-2001(e-1),(h-3).}

²⁵ ^{D.C. C}^ODE ^A^NN^{. §
47-2402.01(a)(1)(C).}

²⁶ ^{D.C. C}^ODE ^A^NN^{. §
47-2402.01(a)(1)(D).}

²⁷ ^{D.C. C}^ODE ^A^NN^{. § 47-2403(a)(6).}

²⁸ ^{D.C. C}^ODE ^A^NN^{. § 47-3702(a-1).}

²⁹ ^{D.C. C}^ODE ^A^NN^{. §§ 47-3702(a-1);
47-3703(b-1).}

³⁰ ^{D.C. C}^ODE ^A^NN^{. § 47-3701.}

³¹ ^{D.C. C}^ODE ^A^NN^{. § 47-1801.04(44).}

³² ^{D.C. C}^ODE ^A^NN^{. § 47-1806.03(a)(9),
(10).}

³³ ^{D.C. C}^ODE ^A^NN^{. §§ 47-1806.12;
47-1806.13; 47-1807.10; 47-1807.11; 47-1808.10;
47-1808.11.}

³⁴ ^{D.C. C}^ODE ^A^NN^{. §§ 47-4801 through
47-4812.}

³⁵ ^{D.C. C}^ODE ^A^NN^{. §§ 47-4203;
47-4204.}

³⁶ ^{D.C. C}^ODE ^A^NN^{. §§ 47-4624; 47-4662;
47-1092; 47-1094; 47-1093.}

³⁷ ^{D.C. C}^ODE ^A^NN^{. § 47-845.03(c).}

³⁸ ^{D.C. C}^ODE ^A^NN^{. § 47-812.}

³⁹ ^{D.C. C}^ODE ^A^NN^{. § 47-1332.}

⁴⁰ ^{D.C. C}^ODE ^A^NN^{. § 47-805.}

⁴¹ ^{The Final Report is currently available
at:} ^{http://www.dctaxrevisioncommission.org/#!finalreport/
c4cu}^.

⁴² ^{See generally UDITPA Art. IV, §
17.}

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

United States: District Of Columbia Enacts Budget Including Single Sales Factor Apportionment, Market-Based Sourcing

Corporate Income and Unincorporated Business Tax Rates

Single Sales Factor Apportionment

Sales and Use Tax Legislation

Estate Tax Modifications

Other Changes

Commentary

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