Presentation on theme: "State Taxation of Executive Compensation “Touching All the Bases”"— Presentation transcript:
1 State Taxation of Executive Compensation “Touching All the Bases” Presented by:Christopher J. Sullivan Paul BuchmanRath, Young and Pignatelli, P.C. Tyco International (U.S.), Inc.One Capital Plaza Yamato RoadConcord, N.H Boca Raton, Fl(603) (561)
2 Play Ball!!!Fundamentally, this breakout is about the Personal Income Tax Obligations of Executives/EmployeesHowever, this is also an Employer Issue due to Employer Withholding RequirementsIncreasingly, corporate tax departments are being asked to deal with these issues to design pro-active solutions and to manage withholding audits and personal audits
3 Executive Comp Baseball Our Schedule America’s Game is GrowingSpring Training Issues—The BasicsResident Versus Non-Resident TaxationRegular Season Issues—The Long SeasonIncome Sourcing ChallengesIncome Forms Challenges (Wages versus Other Compensation)Issues for the Manager—All Season LongAppeals to the UmpiresAppeals to the Commissioner
4 America’s Game is Growing Increased State Revenue NeedsIncreased Political Attractiveness of Exporting Tax to Non-ResidentsIncreased Multi-State Nature of BusinessIncreased Employee TravelIncreased Service EconomyIncreased Technology (e.g. telecommuting)Increased Forms of Executive CompensationIncreased Executive IncomeIncreased Corporate Regulatory Requirements (SOX)
5 Spring Training The Basic Takeaway Residents of a state generally taxed on entire incomeGenerally, there are two types of residentsDomiciled in the stateStatutory Resident of the stateNon-residents of a state are generally only taxed on income properly sourced to stateUsually defined as anyone other than a resident
6 Spring Training The First Ground Ball Like Paul Buchman, is Derek Jeter a Florida Resident?
7 Spring Training Grounders Specifics of Derek Jeter Case in New York2001 through 2003 Tax Years at IssueJeter--Claims Florida residency since 1994(Note: Jeter’s Yankees Debut—May 29, 1995)Jeter--Filed New York Non-Resident Tax Returns for the Tax YearsLargely no dispute over baseball salary because it is New York source incomeDispute over other income—e.g. endorsement income, personal appearance income, signing bonus.
8 Spring Training Grounders Specifics of Derek Jeter Case in New YorkBurden on NYS to demonstrate New York residency because it concedes Jeter was a Florida resident prior to Burden on party asserting change.NY claims Jeter is a NY Resident for Tax YearsOwnership of an Apartment at Trump Towers (10/01)Personal Items Near and Dear Kept in NYCommunity Involvement in non-Florida jurisdictionsBusiness TiesPublic Statements Regarding Love for New YorkKEY POINT: NYS attempting to show Jeter is domiciled in NY, because likely much tougher case under statutory resident criteria (183 day rule).
9 Spring Training Grounders Domicile Virtually Every State With an Income Tax Taxes Entire Income of Those “Domiciled” in StateNote: No broad based income tax in AK, FL, NH, NV, SD, TN, TX, WA, WYBasic Agreement Among States—Domicile is the place where a person has his true fixed and permanent home or principal establishment to which, whenever he is absent, he has the intention of returningDomicile is generally fact and intent drivenUnion of act and intent, actions speak louder than wordsDomicile, once attained, is generally not lost by absence since intent to return is critical.Generally only one domicile (but can be statutory resident in more than one state).
10 Spring Training Grounders Common Domicile Factors Property ownership and residenceLocation of Bank AccountsQualification for unemployment insuranceState of previously filed tax returnsState of VotingState of Driver’s LicenseState of Vehicle RegistrationProfessional License RegistrationLocation of Memberships and AffiliationsState of Will Execution
11 Spring Training Fly Balls Statutory Resident Much more variation among statutory definition of residentCommon PrinciplesPermanent Place of AbodeTime Spent in State—183 days/6 months is most commonHawaii—200Idaho—270New Mexico--185“Other than a temporary or transitory purpose”Importance of and/or in statutory testsRisk of Double Taxation—taxpayers may meet definition of resident in more than one stateAmerican Payroll Association Testimony Helpful
12 Spring Training Fly Balls Statutory Resident California--Resident includes: (i) every individual in the state for other than a temporary or transitory purpose and; (ii) every individual domiciled in the state who is outside the state for temporary or transitory purposes. Cal. Rev. & Tax Code 17014(a). Residence is presumed for those who spend more than 9 months in the state. Cal. Rev. & Tax CodeNew York--Resident includes generally individuals: (i) domiciled in the state and (ii) not domiciled in the state but who maintain a permanent place of abode in the state and spend more than 183 days out of the year in the state. N.Y. Tax Law sec. 605(b)(1).
13 Regular Season Issues Non-Resident Taxation States may generally tax the income of non-residents when income is earned in that stateCalifornia—Tax on income of individual non-residents “derived from sources in [California]”New York—“derived from or connected with New York sources”Risk of double taxation—all income taxed in state of residence and sourced income taxed in state of non-residence
14 Regular Season Issues Credits Credits alleviate some double taxation issues but likely not constitutionally required and are matter of legislative graceCredits don’t help Buchman (FL and NJ)All States with an income tax generally permit residents to take credit for taxes paid to other statesSelected states that provide credits for non-residents for taxes paid to other statesCalifornia, Indiana, Michigan, Minnesota, Oregon, Virginia, West VirginiaSelected states that do not provide credits for non-residentsConnecticut, Illinois, Maryland, Massachusetts, Missouri, New Jersey, New York, Ohio, Pennsylvania
15 Regular Season Issues Non-Resident Taxation (How the Game is Played) Typical Fact Pattern: Individual lives in NJ, and regularly works in the company’s NY office and travels / works at the company’s offices in various states – CT, CA, IL & GAThe individual is subject to personal income tax in NY as a nonresidentThe individual is also subject to tax in NJ – his/her state of domicileThe individual may also be subject to PIT in the other statesGenerally, the individual allocates income to the nonresident state based on services performed within and without that stateMany states employ “days in/days out” test to allocate incomeTelecommuting and “Convenience of the Employer”Note: Current appeal to the Commissioner on these issuesH.R. 1360—Telecommuter Tax Fairness Act of 2007
16 Regular Season Issues Non-Resident Taxation Typical Executive IncomeWages / BonusStock optionsRestricted StockDeferred IncomeConsistent Issue Among Each Category of IncomeWhen was the income recognized for federal purposes?When did the income vest?How is the income allocated?
17 Regular Season Issues Non-Resident Taxation Wages / Bonus Income earned wholly in the work stateAll wage income fully reportable to work state as non-resident incomeIncome reportable to domicile state – with credit for taxes paid to other jurisdictions if applicableIncome earned partly within and without the stateAllocation of wages based on days worked within and withoutRecord keepingCalendarTransportation receiptsCredit card receiptsWithholding tax requirements
18 Regular Season Issues Non-Resident Taxation Stock Options Consistent issues among statesWhat portion of the income / gain can the nonresident state tax as compensation?How is the income allocated?When does the recognition event occur – income for federal purposes?New York GuidanceMichealson, 67 NY 2d 579 (1986) – Established the rule for determining the portion of the option income that is NY based compensation.TSB-M-95(3)I (1995) – Explains allocation method for NY option compensationStuckless, , NY Tax Appeals Tribunal, (8/17/2006) – Allows alternative allocation methodTSB-M-06(7)I (2006) – Applies to tax year 2005 and priorNYS Regulation: NYCRR (Revised )TSB-M-07(7)I (2007) – Interprets NYCRR 132.4Significant Option Events:Grant → Vest /Exercise → Sale
19 Regular Season Issues Non-Resident Taxation Nonstatutory Stock Options Example: Nonresident employee lives in CT and works in NY - also performs services outside NY for employerOption Granted in 2006 at $15 / share and vests in 3 yearsOption Vests in 2009 and employee exercises NSO - the FMV of stock at the date of exercise is $25 / shareSale in 2010 employee sells the stock for $50 / shareNonresident Employee’s “workday fraction” – the percentage of time worked in NY is 60% from 2006 through 2009Employee’s workday fraction for tax year 2010 is 75%.NY Compensation from the nonstatutory stock option:$10 / share is ordinary compensatory income subject to allocation – (difference between the grant price of $15 and FMV of $25 at exercise date)The remaining $25 /share of gain / further appreciation after the exercise is not subject to tax in NYAllocation PeriodPercentage of time worked in NY beginning with the date the option was granted and ending with date the option vested – can span multiple tax yearsAmount subject to NY Tax: $6 / share is ($10 of compensation X workday fraction of 60% for 2006–09)Services performed after the shares are exercisable are not taken into account for allocating option income
20 Regular Season Issues Non-Resident Taxation Restricted Stock Restricted Stock: A grant of company stock in which the recipient's rights in the stock are restricted until the shares vestIn general, the value of a restricted stock award is taxable as compensation for federal income tax purposes in the year the rights of the beneficial interest in the stock are substantially vestedIf the IRC Sec. 83(b) election is made:The amount of Compensation is the amount recognized for federal purposesThe allocation period is the same that applies to wagesIf no 83(b) election is made:The amount of compensation is the FMV of the stock at the time it vests and is recognized for federal purposesThe allocation period is the period of time beginning with the date the stock was received and ending with the earliest of: (1) the date the stock was substantially vested (transferable or not subject to substantial risk of forfeiture); (2) the date the individual's services terminated; or (3) the date the stock was soldSimilar to statutory stock options the allocation period may span multiple years
21 Regular Season Issues Non-Resident Taxation Deferred Income Generally under a deferred compensation plan such as a supplemental executive retirement plan– payments are made in a lump-sum upon retirement or are paid as an annuityNY state has ruled that non-residents are not subject to tax on payments from such a plan– TSB-A-00(6)I (9/6/2000)
22 Issues for the Manager Big Picture Strategy Risks to Companies—Sarbanes-Oxley 404Certification that procedures in place to comply with applicable laws and regulations, including state tax rules.Risks to Companies—Withholding AuditsRisks to Companies—Employee SatisfactionPro-Active SolutionsApproach bigger states—NY, IL, CA
23 Issues for the Manager Who’s in the Lineup? Employer Withholding Requirements on Non-Resident TaxationSome States Employ First Dollar ApproachSome States Require Withholding After Certain Days Threshold Az. (60), Ha. (60), Me. (10), NM. (15)Earnings Threshold—Offers very little relief (often $5000 or less)Generally, employee and employer obligations sameBut NY, employer withholding only triggered after 14 days in-state even though employee is obligated immediately for NY tax
24 Issues for the Manager The Nonresident Income Tax Audit Audit will focus on three key itemsIncomeAllocation of income to nonresident stateWithholdingIndividual must document allocationTravel logCredit card receiptsCalendar
25 Issues for the Manager The Nonresident Income Tax Audit Company IssuesDid the company properly withhold?Company may rely on withholding information provided by employeeProactive Withholding Tax PolicyAvoid penaltiesDevelop company-wide withholding policyEnter into voluntary withholding agreements with statesThreshold to initiate withholding based on days worked in the state or based upon dollar amount
26 Appeals to the Umpires Ball Four--Take Your Base! Some states have established cooperative agreements to simplify non-resident taxation and withholdingFrequently, employee must file certificate declaring non-resident status in reciprocal state.
27 Appeals to the Umpires Strike Three!!! Major states with no reciprocal agreements despite personal income taxCaliforniaNew YorkConnecticutMissouriMassachusettsOregon
28 Appeals to the Commissioner Patchwork of state laws and practices, increased liabilities and enforcement, and administrative headaches regularly leads to calls for Congress to use its commerce-regulating power to create more uniform rules
29 Appeals to the Commissioner Congressional Intervention Relief for Certain EmployeesMembers of Congress—Taxed only in state of residence. Surprising???Interstate Transportation Employees—Railroad employees (49 U.S.C. § 11502), motor carrier employees (49 U.S.C. § 14503), and merchant mariner employees (46 U.S.C. § (b)) can generally only be taxed in their states of residence
30 Appeals to the Commissioner Congressional Intervention Relief on Forms of IncomeRetirement Income--No state taxation of retirement income of an individual who is not a resident or domiciliary of the state. 4 U.S.C. § 114. (P.L )Retirement Income--Includes a prohibition on taxing retirement income paid by a partnership to a nonresident retired partner under any written plan, program, or arrangement in effect immediately before retirement begins. 4 U.S.C. § 114 (P.L )Clarifies employee versus partner position advanced by NY.Sullivan colleague Stan Arnold (former NH DRA Commissioner and FTA President testifies in favor of this legislation)
31 Appeals to the Commissioner A Whole New Game? H.R. 3359—The Mobile Workforce State Income Tax Fairness and Simplification Act of 2007Purpose—To limit the authority of States and localities to tax certain income of employees for employment duties performed in other States and localitiesIntroduced in August of 2007House Hearing held in November 2007COST—Supports as IntroducedAmerican Payroll Association—Supports as IntroducedFTA—Opposed as IntroducedProspects for Passage in 2008??
32 Appeals to the Commissioner A Whole New Game? H.R creates rule to limit taxation of wages or other remuneration to state or locality of the employee’s residence unless the employee is physically present performing duties in another state for more than 60 days during the calendar year in which income is taxedDay is defined as more than 50 percent of the employee’s duties for such dayWages or other remuneration defined by state lawProfessional Athletes, Professional Entertainers, and Certain Public Figures not protectedBuchman helped but Jeter is not