August 9, 2010
August 9, 2010
Miller Nash LLP,
Oregon and Washington Law Firm
During the last legislative session, the Washington legislature made some significant changes to Washington’s tax system. This review highlights and briefly discusses some of the most significant updates.
1. Corporate Directors Subject to Tax on Compensation (effective July 1, 2010).
The new legislation extends business and occupation (“B&O”) tax to amounts received by an individual for “serving as a director” of a corporation. Directors will be taxed under the “service and other” classification (1.8 percent under the new legislation). Directors will also qualify for the small-business credit that will eliminate the B&O tax on total service income (including directors’ fees) of less than $46,667 per year and reduces the tax on service income if less than $93,333.
Employee directors will likely continue to be exempt from B&O tax as long as their pay is in the form of compensation received as an employee and not as an independent contractor (i.e., if the payments are separated out, the part designated as payment for services as a director would be subject to B&O tax).
Nonresident directors may be subject to B&O tax even if they are not physically present in Washington, depending on the interpretation of the new nexus rules.
All amounts received by the directors are subject to B&O tax. This includes cash compensation, noncash compensation including stock and stock options, and amounts paid as reimbursements for the directors’ expenses.
The Office of Financial Management assumes that the tax will be applied to corporate directors’ fees paid by corporations based or headquartered in Washington.
How the tax will be administered is still to be determined.
2. Temporary B&O Tax Increase (effective May 1, 2010, through June 30, 2013).
Taxpayers in the “service and other” category, real estate brokers, and those in the “gambling contest of chance” B&O tax classifications will incur a temporary B&O tax rate increase from 1.5 to 1.8 percent.
Corporate Officers Strictly Liable for Unpaid Sales Tax.
Currently, responsible individuals may be personally liable for sales tax collected but unpaid upon the termination, dissolution, or abandonment of an LLC or corporation. The new legislation expands the definition of “responsible individual” to include an officer, manager, partner, or trustee of an LLC regardless of the individual’s tax responsibility or duty. In addition, the legislation makes CEOs and CFOs strictly liable for collected and unremitted sales taxes. All other responsible individuals continue to be liable for collected and unremitted sales taxes only if they willfully failed to remit the taxes to the Department of Revenue (“DOR”).
3. Tax-Avoidance Transactions.
The legislation requires the DOR to disregard three expressly identified tax-avoidance transactions or arrangements:
1.one that is, in form, a joint venture or similar arrangement between a construction contractor and the owner or developer that, in substance, provides substantially guaranteed payments for the purchase of construction services;
2.one through which a taxpayer avoids B&O tax by disguising income from third parties that would be taxable in Washington if the taxpayer had not moved that income to another entity that was not taxable in Washington; or
3.those that avoid sales or use tax on property located in Washington that was transferred to or acquired by another entity, but that the transferor effectively retains control over.
4. New Treatment of Options to Purchase Entities.
Parties are no longer able to avoid paying Real Estate Excise Tax (“REET”) on a sale or acquisition of a controlling interest (50 percent or more) in an entity that owns Washington real property by using options. It is no longer the date on which an option is exercised that determines whether or not a controlling interest has been transferred or acquired within a 12-month rolling period. In addition, any company owning Washington real property must disclose the granting of options in its annual report if the exercise of those options would trigger REET. REET is not due unless the option is triggered.
5. Expanded Liability for REET.
The legislation eliminated the safe harbor that allowed the buyer or transferee to avoid liability by providing written notice to the DOR within 30 days of the date of sale. In addition, unpaid REET is a lien on each parcel of real property owned by an entity in which a controlling interest has been transferred or acquired. Section 210 also provides that a parent corporation is liable for REET as a seller when the parent’s wholly owned subsidiary transfers real property or a controlling interest and dissolves before paying REET.
6. Partial Repeal of Exemption for Amounts Received by On-Site Property Management.
Washington Revised Code 82.04.394 used to provide an exemption from B&O tax on payments for on-site property management. The exemption is now limited to nonprofit property management companies or to amounts received by a property management company from a housing authority.
7. Economic Nexus Replaces Physical Presence for Services and Royalty Income (effective June 1, 2010).
An out-of-state business will be subject to B&O tax on services and royalty income if the business meets one of these four criteria:
1.More than $50,000 of the property is located in Washington;
2.More than $50,000 of the payroll is located in Washington;
3.More than $250,000 of receipts come from Washington; or
4.At least 25 percent of the taxpayer’s total property, total payroll, or total receipts are located in Washington.
Payroll includes compensation to nonemployee representatives, and property does not include software residing in servers located in the state. The bill also includes a one-year trailing period, so if a taxpayer meets the requirement in year 1, it is deemed to meet it in year 2 as well.
8. New Single-Factor, Receipts-Based Apportionment Formula.
Since 2000, Washington has applied a three-factor apportionment formula for financial institutions, and for the last 70 years has used a cost-apportionment formula for businesses reporting under the “services and other” classification. Now both the three-factor and cost-apportionment formulas are replaced with a single-factor, receipts-based apportionment formula. Under this new formula, Washington’s portion of taxable gross income is equal to the gross income attributed to the state divided by the taxpayer’s gross income everywhere.
For more information or questions about changes in Washington state tax law, please contact us at [email protected] .
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