On Friday night, Oct. 9, Pennsylvania Gov. Rendell signed legislation finalizing the state's budget, which was 100 days overdue. The taxing bill, House Bill 1531, includes changes that impact personal income tax withholding, sales and use tax, corporate net income tax, and the cigarette tax. In addition, the budget legislation extends the life of Pennsylvania's capital stock/ foreign franchise tax through 2013. (If not for the budget legislation, the capital stock/ foreign franchise tax would have gone out of existence after 2010.)
Four of the most notable tax changes included in the budget legislation were: (i) the authorization of a tax amnesty program; (ii) further relaxation of Pennsylvania's onerous net operating loss cap; (iii) changes to the rules regarding the sale or assignment of Pennsylvania research and development credits, intended to increase the liquidity of the credits; and (iv) the imposition of a new gross receipts tax on managed care organizations.
Perhaps the most notable change included in the budget was the authorization of a tax amnesty program. Previously, such a program had been resisted by the governor and the Department of Revenue. Like many recent state tax amnesty programs, Pennsylvania's program includes a non-participation penalty that will apply to amnesty-eligible liabilities after the program ends. As a result, all companies will need to determine whether they have any potential Pennsylvania tax liabilities that are amnesty eligible, and if so, weigh the benefits of participation against the potential cost of the additional non-participation penalty.
The tax amnesty program is scheduled to run from April 26, 2010 through June 18, 2010, and all liabilities for general fund taxes, as well as other taxes, delinquent as of June 30, 2009 will be eligible for the amnesty. Taxpayers participating in the program will receive a waiver of all penalties and half of any interest due. However, taxpayers who are eligible for the amnesty program but who do not to participate will be subject to a 5 percent non-participant penalty. This penalty will be based on any unpaid tax that was eligible for the amnesty, plus any penalty and interest. The non-participation penalty will not apply to taxpayers who have an administrative or judicial appeal pending on or before the last day of the amnesty period.
In some cases, companies that have a potential Pennsylvania nexus exposure may find the amnesty program more advantageous than Pennsylvania's standard voluntary disclosure program. The budget legislation provides that the lookback period for nonfiling companies that participate in the amnesty would only include periods for which taxes were due on or after July 1, 2004. Thus, for a calendar-year taxpayer that has not previously filed in Pennsylvania, the amnesty will generally cover tax years 2004 through 2008. (The 2009 tax year for a calendar-year taxpayer would not be eligible for amnesty because amnesty only covers taxes delinquent as of June 30, 2009.) In contrast, the lookback period under the terms of Pennsylvania's standard voluntary disclosure program for a nonfiling corporation that entered into a voluntary disclosure agreement in 2010 would normally include tax years 2007 through 2009. Although the lookback period would be longer under the amnesty program, the cost of this longer lookback period for some companies may be outweighed by the partial interest waiver available under the amnesty program.
For those nonfilers that find the standard voluntary disclosure program more advantageous than the amnesty program, June 18, 2010 will still be an important date. Nonfilers that are planning to enter into a Pennsylvania voluntary disclosure agreement will need to complete an agreement and submit payment by June 18, 2010 to avoid the 5 percent non-participation penalty.
Additionally, June 18, 2010 will prove to be an important deadline for taxpayers with pending Pennsylvania tax assessments. Taxpayers will need to file appeals of all assessments of amnesty-eligible taxes by June 18, 2010 to avoid the 5 percent non-participation penalty with respect to those taxes. As a consequence, the amnesty program may have the unintended consequence of encouraging taxpayers to file appeals for pending assessments that might otherwise have been paid or compromised after the June 18, 2010 deadline.
Relaxation of the Net Operating Loss Cap
The cap imposed on the use of net operating losses against Pennsylvania's corporate net income tax has been increased for tax years beginning on and after Jan. 1, 2009. The current cap is the greater of $3 million or 12.5 percent of taxable income. Under the budget legislation, this will be increased to the greater of $3 million or 15 percent of taxable income for tax years beginning on and after Jan. 1, 2009. The cap will then further increase to the greater of $3 million or 20 percent of taxable income for tax years beginning on and after Jan. 1, 2010. This relaxation will be welcome relief to the many taxpayers whose net operating losses cannot be fully utilized under the current cap. However, the relief is not total, and some corporations will continue to face the possibility that a portion of their Pennsylvania net operating losses will expire unused as a result of the cap. At particular risk are corporations, like those involved in leasing or other financial businesses, that tend to have large cyclical income swings. Some companies that are unable to fully utilize their Pennsylvania net operating losses because of the current cap are challenging the cap on the basis that it violates Pennsylvania's constitutional guarantee of a uniform tax rate. We expect some of these challenges to continue, even with the further relaxation of the cap in the budget legislation.
Relaxed Rules for the Sale or Assignment of Pennsylvania Research and Development Credits
Taxpayers are allowed to sell or assign any unused Pennsylvania research and development credits awarded for the 2006 and later tax years. However, under the current rules, credits cannot be sold until at least one year after the initial year for which the credit was awarded. As a result, a credit awarded in December 2007 for use on a taxpayer's 2008 Pennsylvania tax return could not be sold to another taxpayer for use on the other taxpayer's tax return for any year before 2009. The budget legislation abolishes this one-year waiting period, thereby making Pennsylvania research and development credits more liquid and, thus, potentially more valuable to start-up companies that may not have enough income to fully utilize the credits.
Gross Receipts Tax on Managed Care Organizations
In one of the more creative aspects of the budget, Pennsylvania plans to use the tax code to increase the Medicaid matching funds that the Commonwealth receives from the federal government. Under the budget legislation, Pennsylvania will impose a 5.9 percent gross receipts tax on managed care organizations (MCOs), applicable to all gross receipts derived from Medicaid payments received pursuant to a contract with the Pennsylvania Department of Public Welfare (DPW). However, the intention is that the MCOs will recoup their entire tax payment in the form of future increased Medicaid reimbursements from the DPW. While this arrangement will result in a circular flow of funds from the MCOs to the DPW, and then back to the MCOs, Pennsylvania believes that increased reimbursements funded by the tax will allow the DPW to draw down additional federal Medicaid matching funds. Thus, the intention is that Pennsylvania would receive additional federal Medicaid funds without actually increasing its own outlay for Medicaid reimbursements to MCOs. Pennsylvania estimates this will result in more than $300 million in additional federal payments per year in 2010 and 2011.
There is a catch. The DPW must seek federal approval for this arrangement, and if the approval is not granted, the new gross receipts tax will be rescinded. For now, MCOs should expect to pay the new tax on all gross receipts attributable to Medicaid reimbursements beginning Oct. 1, 2009. Returns will be due March 15, 2010 for the 2009 tax year. Estimated payments for the 2010 tax year will be due May 15, 2010.