United States: New Hampshire Legislature Makes So-Called "Step-up" Tax Elective And Increases Sec. 179 Benefits

Tax legislation that makes New Hampshire's so-called "step-up" tax elective and increases the amount deductible under Section 179 of the Internal Revenue Code (IRC) has been approved by the New Hampshire Legislature. Senate Bill 239, relative to application of the IRC to provisions of the business profits tax, and Senate Bill 342, relative to the sale or exchange of an interest in a business organization under the business profits tax, were passed by the New Hampshire House of Representatives and Senate on June 1. Both bills are headed to the Governor's office for Governor Hassan's expected signature in the coming weeks.

Fix of So-Called "Step-up" or "Planet Fitness" Tax

For many years, New Hampshire's rules have differed from federal rules as they relate to basis "step-ups" that accompany certain ownership changes. This disparity surfaces in a number of situations, but can best be explained with the following representative example:

For federal purposes, a partner who sells his or her interest in a partnership generally must pay tax on the gain recognized on the sale, which is equal to the selling price less the partner's basis in the partnership. The partnership is allowed, though, to "step-up" the assets of the partnership itself by a corresponding amount. This generally results in amortization or depreciation deductions that are allocated to the new owner.

For New Hampshire purposes, this step-up would hurt the state's coffers because the entity, which is taxed for state purposes, receives a higher amortizable or depreciable basis, but there is no corresponding gain that is taxed at the individual level because the state does not impose a conventional individual income tax. For this reason, New Hampshire rules have long held that in situations like the one described above, the entity will receive the step-up, but it also must report an equal amount of "phantom income" at the entity level, and that income is subject to the business profits tax.

SB 342 provides that for sales or exchanges of interests in business organizations that occur on or after January 1, 2016, business organizations will no longer for business profits tax purposes receive the stepped-up basis in assets that occurs for federal income tax purposes, and therefore do not have to report the basis step-up adjustment as "phantom income." However, the bill provides flexibility to businesses by allowing for an election to recognize for business profits tax purposes the federally increased basis in assets by adding to gross business profits the amount of the increase. In effect, business organizations will now have a choice for business profits tax purposes: Report the step-up income up front and receive a higher asset basis that will generate future deductions, or forgo recording that income, but accept a lower asset basis in exchange.

Observation: This issue received a great deal of attention in 2015 when Planet Fitness was in the process of becoming publicly-traded. Because of the significant tax liability this provision imposed at the time, Planet Fitness threatened to leave the state unless a legislative fix was found. Shortly thereafter, HB 550 was passed by the Legislature which also included an election provision, but was vetoed by the Governor.

Planning tip: A business might elect to report for business profits tax purposes the step-up income and receive the stepped-up basis in assets if it has New Hampshire net operating loss or BET credit carryforwards that will offset the additional business profits tax liability.

Increase in Asset Expense Limitation to $100,000

SB 239 increases for business profits tax purposes the IRC Section 179 annual expensing limit allowed from $25,000 to $100,000 effective for eligible property placed in service on or after January 1, 2017. The $25,000 limit continues to apply for assets placed in service through 2016. (The federal expensing limit is $500,000, indexed for inflation beginning in 2016.)

Business Profits Tax Conformity to IRC Updated

SB 239 also provides that for tax years beginning on or after January 1, 2017, New Hampshire shall incorporate for business profits tax purposes the IRC in effect on December 31, 2015, but with the following IRC provisions not allowed: IRC Section 168(k) (bonus depreciation), IRC Section 199 (domestic production activities), and IRC Section 181 (election to deduct certain qualified film and television production costs). Additionally, the amount deductible under IRC Section 179 for business profits tax purposes shall be limited as noted above. New Hampshire currently incorporates the IRC in effect on December 31, 2000.

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