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  1. TENNESSEE TAX CHANGES Michael T. Odom, CPA Fouts & Morgan, CPAs August 26, 2009

  2. Business Tax Summary • Engaging in a business is a privilege • Taxable by county, city or state • Prior to engaging in business, must register with county and/or city • Foreign businesses must execute and file bond • 5 classifications that determine tax rate (retail vs. wholesale) and filing period • Collected by local clerks

  3. Classification 4(A) - Contractors • This classification includes persons receiving compensation from rendering exterminating services, from installing personal property, from constructing, building, erecting, repairing, grading, excavating, drilling, exploring, testing, or adding to any building, highway, street, sidewalk, bridge, culvert, sewer, irrigation or water system, drainage, or dredging system, levee or levee system or any part thereof, railway, reservoir, dam, power plant, electrical system, air conditioning system, heating system, transmission line, pipeline, tower, dock, storage tank, wharf, excavation, grading, water well, any other improvement or structure or any part thereof

  4. Deductions & Credits Allowed • Deductions • Amounts paid to subcontractors • Services performed in other states • Bad debts charged off for federal income tax purposes • Credits • Minimum tax actually paid • Personal property tax paid to jurisdiction

  5. Tax Rate & Filing Requirement • 1/10th of 1% of contract compensation • Payable to county/municipality of domicile if less than $50,000 received from contracts in other county/municipality • Payable to jurisdiction where contract performed if $50,000 or more received in county/municipality with deduction in jurisdiction where domiciled • No deduction allowed for cost of goods sold

  6. Return Requirements • Classification 4 – twelve months ended September 30 • Due December 1 • Separate return due for each jurisdiction • Books & records must be maintained for three years and available for inspection

  7. License • Collector of tax to issue license upon payment of tax due • Taxpayer must exhibit the license

  8. Business Tax Changes • Transfer the administration, collection, examination, and enforcement of the tax from the local county clerk or city official to the state Commissioner of Revenue • Shifts burden of reporting from sub-contractor to general contractor with tougher documentation standards • Limits placed on credits

  9. Reasons for State Administration • State gets a bigger percentage of revenue – thus vested interest in collection effort • State was required to audit business tax as part of examination of other taxes – problems • Businesses did not know they were subject to tax • Local clerks gave incorrect information as to applicability of tax • Local clerks mis-classified businesses

  10. Reasons for State Administration(continued) • Questions to state hotline – answers given were different than received at local level • Uniform tax administration across state • Need for one point of contact by business and practitioners when dealing with taxes • State has expertise in collecting and distributing taxes – clerks had other responsibilities and were elected officials

  11. Reasons for State Administration(continued) • Disconnect with databases at local and state levels • Inefficiencies in collection and administration • Time consuming and hard to share data • Estimated $40 million in new revenue by closing gap from non-filers • Online filing available all across state • All local areas do not currently have this capability

  12. New Business License Process • Register with clerk for new license • Clerk will notify state • Pay clerk initial $15 minimum tax • Clerk will issue business license • Database information will be transferred between state & local officials

  13. New Filing Process • Returns will be filed with state • New tax return with 9 lines will replace existing forms with 17 lines • State will cross-check other tax databases to verify filing requirements • State will issue estimated assessment with demand to pay if no form filed • State will initiate audit procedures

  14. Failure to File • State notifies clerk • Clerk repeals business license • Tax enforcement officer visits business • Determines liability • Collects tax • Broad collection authority to deal with delinquency – including levy, locking business, etc. • If paid, must reapply for new license

  15. Implementation of Transfer to State • Present plans are for Classification 4 returns due November 1 to be filed with the state • Will begin by comparing state contractor database with business tax filers • Identify non-compliant contractors • Send out delinquency notices • Realize increased revenue collections • Clerks to begin licensing under new process

  16. Subcontractor Deduction • Largest area of non-compliance • No way to determine if all receipts are reported • Local clerks can only monitor and match based on returns filed with them • State plans to verify amounts reported by subcontractors to totals reported by generals

  17. Old Rules • Amounts actually paid to • Subcontractors or • Other persons • For contracts to perform services defined in Classification 4A • Provide name, address and amount paid • No other information required

  18. New Rules • Amounts actually paid to • Subcontractor holding • A business license or • Who is licensed by the state board for licensing contractors to perform activities in Classification 4A • Eliminates other persons not licensed from deduction • Provide name, address, business license or contractor’s license number and amount subcontracted • Must maintain copy of license(s) in files

  19. Effective Date • Applies to new contracts issued 60 days after July 1, 2009 – which is Saturday, August 29 • Contracts issued prior to August 29 fall under old rules for reporting • Action required to acquire copies and monitor expiration dates as you must have the current license on file – see handout • May require changes to cost coding

  20. Electronic Filing • Business tax returns must be filed electronically and payments remitted electronically if you are required to file and pay sales tax electronically • Requirement has decreased from $2,500 to $1,000 • Electronic Funds Transfer Agreement available at • Quarterly estimated franchise and excise tax payments of $2,500 or more must be made electronically

  21. Limits on Credits • Credit for personal property taxes paid • Old law – unlimited down to minimum tax • New law – limited to 50% of the business tax liability • Credit for minimum tax paid is repealed

  22. FONCE • LLC’s (including single member LLC) • Exempt from Tennessee Franchise & Excise Tax • At least 95% family owned • Substantially all (66.67%) of income is from • Production of passive investment income or • Combination of passive investment income and farming • If no income, does not qualify for exemption

  23. Income Defined • Passive Investment Income • Gross receipts derived from royalties, rents, dividends, interest, annuities, and sales or exchanges of stock or securities to the extent of any gains therefrom • Farming • Growing of crops, nursery products, timber or fibers, such as cotton, for human or animal use or consumption; the keeping of horses, cattle, sheep, goats, chickens or other animals for human or animal use or consumption; the keeping of animals that produce products, such as milk, eggs, wool or hides for human or animal use or consumption; or the leasing of the land to be used for the purposes described in this subdivision

  24. Rents • Old law • Included all rents – commercial, industrial, residential, and farm real property as well as tangible personal property • New law – definition narrowed • Residential property • Farm property

  25. Residential & Farm Property • Residential property includes real property which is used, or held for use, for dwelling purposes and which contains not more than four (4) rental units • Farm property includes all real property which is used, or held for use, in agriculture but excludes acreage used for recreational purposes by clubs, including golf course playing hole improvements

  26. Impact on Other Properties • Will lose your exemption from franchise & excise tax for 2009 • Need to calculate the tax impact • May be required to make estimated tax payment if combined tax is $5,000 or more

  27. Options • To maintain exempt status, elect to be an “obligated member entity” • Give up limited liability, thus all members will be liable for debts same as in general partnership • Must file paperwork with Secretary of State on or before October 1, 2009 to be exempt for all of 2009 • Buy umbrella insurance policy to insure against additional risks assumed

  28. Options (continued) • Convert to a general partnership • Terminate a single member LLC and operate as a sole proprietorship • Merge into another exempt entity

  29. Things to Consider • Needs to make business sense • Why was entity formed in first place? • Tax savings is only one aspect of decision • LLC agreements may prevent or require certain actions by all members to make changes • Terminating an LLC taxed as a partnership also terminates the partnership, requiring filing of two returns and could have negative federal tax consequences to members

  30. Things to Consider(continued) • Loan agreements may require approval by lending institution before changes can be made to organizational structure • Leases may have to be replaced • Bank accounts may have to be closed and new ones opened

  31. Affiliate Rent Add-back • Must now add-back to excise tax base any amount in excess of reasonable rent paid to an affiliate for use of industrial and commercial property • Reasonable rent equals 2% per month of appraised value of property for property tax purposes • Rents include amounts paid in lieu of rent such as taxes, maintenance and insurance • Affiliate is entity one has more than a 50% direct or indirect ownership interest • Effective payments made on or after July 1, 2009 regardless of fiscal year-end

  32. Questions?