The reporting of federal or New York State changes for New York City corporate tax purposes has long been a vexing issue, and one with significant consequences inasmuch as such changes re-open an otherwise closed tax year. The New York City Department of Finance has issued a memorandum containing new rules on how taxpayers must report such final federal and State changes for tax years beginning on or after January 1, 2015, including the impact of statutory amendments regarding final New York State changes that allow the Department of Finance to adjust a taxpayer's apportionment during the re-opened tax year. Finance Memorandum 17-5, "Reporting Federal and New York State Changes" (N.Y.C. Dep't of Fin., Oct. 13, 2017).
Significantly, for tax years beginning on or after January 1, 2015, the Department of Finance now requires that final federal or State changes that affect a corporation's tax base be reported on amended City corporate tax returns, and not (as in prior tax years) on Form NYC-3360 (or Form NYC-115 for taxpayers under the UBT). The Department states that it will no longer process those forms if filed by the taxpayer to report federal or State changes for tax years beginning after 2014.
The Finance Memorandum specifies what must be included in the report, and states that template schedules regarding those requirements will eventually be made available on the Department's website. Taxpayers that disagree with the applicability of the changes must explain why the federal or State adjustment is erroneous or inapplicable. The memorandum also allows a taxpayer to request an accelerated audit by the Department if the taxpayer cannot properly compute its corrected City tax liability (e.g., where a taxpayer reporting federal changes files its returns on a consolidated basis for federal purposes, but separately for New York City purposes).
The Finance Memorandum also discusses how final State adjustments affecting the taxpayer's apportionment should be reported for New York City purposes (2015 tax legislation now permits the Department to change the taxpayer's allocation during the reopened tax year stemming from the State changes, which could not be done in prior years). The memorandum contains an example involving a corporate taxpayer that elected 8% sourcing for its qualified financial instruments ("QFIs") for both State and City tax purposes, but where New York State determined on audit that certain of those instruments did not qualify, and therefore the income from those instruments was instead subject to customer-based sourcing under Article 9-A. The example instructs how the taxpayer must file an amended City return to report the State changes, and must report the impact of the changes to its City apportionment factor during the re-opened tax year using customer-based sourcing, rather than the 8% sourcing applicable to QFI income.
The Finance Memorandum, which only applies to tax years beginning after 2014, provides important guidance, but leaves certain questions unanswered. For instance, how does a taxpayer that consents to a dollar-amount settlement with New York State report that settlement to New York City, where there is no adjustment to its income or other tax base? Where a taxpayer believes federal or State adjustments are erroneous or inapplicable for City tax purposes, how should the taxpayer file its amended City return, and in that case what exactly is the taxpayer amending? After all, a taxpayer disputing the applicability of the State changes for City purposes will report the same tax liability on its amended City return as it did on its originally filed City return.
Former Form NYC-3360, which contained columns for amounts as originally reported, modifications, and the amount of the modification agreed to, was a more logical vehicle for disputing the applicability of State changes. Representatives of the Department have noted that requiring amended City returns to report changes is consistent with Article 9-A, where Form CT-3360 was discontinued several years ago. However, federal changes to a corporation's taxable income are less likely to be inapplicable under Article 9-A than State changes are for City purposes.
Finally, fairness and efficient tax administration suggest that the Department of Finance should consider eliminating the requirement that taxpayers must report State changes where the Department has already fully audited the City tax returns for years that are the subject of the State changes, whether that can be effectuated administratively or requires remedial legislation. Indeed, the current system serves to encourage taxpayers to delay the conclusion of a New York City audit until after New York State has conducted its audit, in order to minimize the likelihood of multiple New York City audits for the same tax year.