HB1607 (2010) Detail

(New Title) relative to the reasonable compensation deduction under the business profits tax, creating a committee to study safe harbors and taxation of investment organizations, and deleting a provision relative to taxation of certain income accumulated in trust.


CHAPTER 324

HB 1607-FN-A – FINAL VERSION

11Mar2010… 0785h

02Jun2010… 2337cofc

02Jun2010… 2432eba

2010 SESSION

10-2360

09/10

HOUSE BILL 1607-FN-A

AN ACT relative to the reasonable compensation deduction under the business profits tax, creating a committee to study safe harbors and taxation of investment organizations, and deleting a provision relative to taxation of certain income accumulated in trust.

SPONSORS: Rep. Almy, Graf 11

COMMITTEE: Ways and Means

AMENDED ANALYSIS

This bill establishes certain requirements for the reasonable compensation deduction under the business profits tax. The bill creates a committee to study safe harbors and taxation of investment organizations.

This bill also deletes a provision subjecting to taxation certain income accumulated in trust for the benefit of unborn or unascertained persons.

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Explanation: Matter added to current law appears in bold italics.

Matter removed from current law appears [in brackets and struckthrough.]

Matter which is either (a) all new or (b) repealed and reenacted appears in regular type.

11Mar2010… 0785h

02Jun2010… 2337cofc

02Jun2010… 2432eba

10-2360

09/10

STATE OF NEW HAMPSHIRE

In the Year of Our Lord Two Thousand Ten

AN ACT relative to the reasonable compensation deduction under the business profits tax, creating a committee to study safe harbors and taxation of investment organizations, and deleting a provision relative to taxation of certain income accumulated in trust.

Be it Enacted by the Senate and House of Representatives in General Court convened:

324:1 Findings. The general court finds that amending RSA 77-A:4, III, as inserted by section 2 of this act, is necessary for the following reasons:

I. Good tax policy requires clear tax law that treats similarly situated business organizations equally, responds to changing business practices, provides taxpayers with clear and simple guidance, encourages compliance, and enhances the growth of jobs and income in our state.

II. Small business in particular is both a major part of our economy and the basis of our future prosperity.

III. The interest and dividends tax statute, RSA 77, was put in place in 1923 to tax unearned income, that is, income from investments of capital, excluding income earned from the provision of personal services by natural persons.

IV. The business profits tax statute, RSA 77-A, was put in place in 1970 to tax the profits of businesses, excluding income earned by their owners through the provision of personal services, when natural persons. This exclusion, called reasonable compensation, has always been one of the expenses that a business can deduct when calculating its business profits tax.

V. There is a major body of federal law, as well as judicial and administrative decisions surrounding the definition of reasonable compensation, but this is not referenced in current state law, creating needless confusion among taxpayers.

VI. Requiring every small business owner to provide the specific records of their personal services to their business organization would place an intolerable burden on small businesses and on our economy.

VII. On the other hand, allowing every business owner to designate whatever they take from their business organization as either earned or investment income, without possibility of review or challenge by the department, would shift the burden of taxation to those who report honestly, laying the tax open to constitutional challenge.

VIII. A balance is struck by providing small business owners with a record-keeping safe harbor for taking the deduction, that is a simple test of reasonable compensation below which the commissioner shall not review or challenge the taxpayer’s assertion, except to verify that some personal service was provided by the natural person named. If the business organization takes a deduction for personal compensation of an owner above the record-keeping safe harbor, it will be required to provide proof that the claimed deduction is indeed reasonable.

IX. This proof shall be based, to the extent applicable to the tax structure of the state of New Hampshire, on the standards set forth in the Internal Revenue Code section 162(a)(1), as those standards have been interpreted by the decisions of the United States Tax Court and other courts, as well as United States Treasury regulations and rulings by the Internal Revenue Service.

X. The provision in current law, last updated in 1991, which provides a minimum deduction for compensation of $6,000 per partner or proprietor is unreasonably restrictive, and needs to be updated with a record-keeping safe harbor that reflects the realities of today’s business environment.

XI. The enactment of a balanced approach with an updated safe harbor provision will simplify the business profits and interest and dividends tax rules for all businesses, eliminate costly and inefficient audits, and relieve small businesses in particular of unnecessary uncertainty and burdensome paperwork related to taking the deduction for personal compensation.

324:2 Reasonable Compensation. RSA 77-A:4, III is repealed and reenacted to read as follows:

III. In the case of any business organization filing a business profits tax return as a proprietorship or partnership, a deduction for an amount equal to a fair and reasonable compensation for the personal services of the proprietor, partners, or members who are natural persons actually devoting time and effort in the operation of the business organization; provided, however, that nothing contained in this section shall permit the deduction of amounts that are attributable to an owner’s return on investment of capital in the business organization in determining taxable business profits. The business organization shall bear the burden of proof in demonstrating the reasonableness of any compensation deduction taken under this paragraph.

(a) The purpose of this paragraph is to permit a deduction from gross business profits of a business organization filing as a proprietorship or partnership, only of such amounts as are fairly attributable to the personal services of a proprietor, partner, or member and which such individual or individuals might reasonably earn in total compensation if performing like services as an employee or employee-owner of a corporation so that amounts attributable to the provision of personal services are determined in the same manner regardless of the form of entity through which the business activities are conducted.

(b) Reasonable compensation deductions may reduce a business organization’s taxable business profits below zero for any taxable period only if such compensation has actually been paid.

(c) The amount of the deduction allowed under this paragraph shall be determined, as applicable to the tax structure of the state of New Hampshire, using the standards set forth in section 162(a)(1) of the United States Internal Revenue Code, as it may be amended from time to time, and the Treasury Regulations, administrative rulings, and judicial cases issued thereunder.

(d) The amount of any deduction claimed for reasonable compensation under this section may also include an amount not to exceed 15 percent of the gross selling price as commission on the sale of business assets.

(e) Each business organization claiming a compensation deduction under RSA 77-A:4, III shall provide on a schedule attached to its annual return setting forth the following information:

(1) The total reasonable compensation deduction claimed by the business organization for the tax year; and

(2) The amount of such deduction allocated to each proprietor, partner, or member actually devoting time and effort in the operation of the business organizations entitled to the deduction.

(f) In lieu of substantiating the value of the personal services of proprietors, partners, or members, a business organization or group of related business organizations may elect, as a record-keeping safe-harbor, to deduct up to $50,000 as total compensation for the tax year;

(g)(1) In this paragraph, “record-keeping safe harbor” means that amount of compensation for personal services claimed by a business organization which does not need to be substantiated by any evidence, records, or legal or regulatory authority, except as provided in subparagraph (h) of this section.

(2) Notwithstanding subparagraph III(g)(1), the record-keeping safe harbor shall not be relevant or admissible for any purpose in determining whether a compensation deduction claimed in an amount in excess of any such record-keeping safe harbor is fair and reasonable.

(h) A business organization or group of related business organizations may elect the record-keeping safe-harbor option in subparagraph III(f) without a redetermination of the reasonableness of the deduction by the commissioner. Any such deduction claimed by the business organization or group of related business organizations shall not be subject to challenge; provided, that upon request, the business organization or group of related business organizations shall be required to substantiate that the proprietor or at least one partner or member performed personal services for the business organization or group of related business organizations.

(i) Related business organizations electing not to substantiate the extent of the personal services of their proprietors, partners, and members, shall be limited to the safe harbor deduction, less any owners’ compensation taken on the federal tax returns of corporate members of the group, allocated among the related business organizations. For the purposes of RSA 77-A:4, III, “related business organizations” are unitary business organizations and business organizations that would qualify as unitary but for the fact that they conduct business only within the state.

324:3 Applicability.

I. RSA 77-A:4, III(f)-(i) as inserted by section 2 of this act shall apply for taxable periods beginning on or after January 1, 2011.

II. The remainder of section 2 of this act shall apply for taxable periods beginning on or after January 1, 2010.

324:4 New Section; Committee to Study the Record-Keeping Safe Harbors for the Compensation Deduction and the Taxation of Investment Organizations. Amend RSA 77-A by inserting after section 4-a the following new section:

77-A:4-b Committee to Study Safe Harbors and Taxation of Investment Organizations.

I. There is established a committee to study the record-keeping safe harbors for the compensation deduction and taxation of investment organizations. The committee shall consist of the following individuals:

(a) Three members from the house of representatives, 2 of whom shall be members of the ways and means committee, appointed by the speaker of the house of representatives.

(b) Two members of the senate, appointed by the president of the senate.

II. The committee shall:

(a) Study whether the burden of proof for safe harbors should be revised.

(b) Consider the provision of additional safe harbors based on the percentage of the gross selling price on the sale of business assets other than inventory, or the percentage of gross revenues, or the percentage of gross business profits using the independent investor return test, or any other issue related to the reasonable compensation deduction.

(c) Study the taxation of distributions received from investment organizations under the Interest and Dividends Tax.

(d) Consider any other issue which the committee deems relevant to the study of safe harbors and taxation of investment organizations.

III. The committee may solicit testimony from any individual or organization with information or expertise which the committee deems relevant to its objective.

IV. Three members of the committee shall constitute a quorum. The committee shall select a chairperson from among its members. Members of the committee shall receive mileage at the legislative rate when attending to the duties of the committee.

V. No later than November 1, 2011 and annually thereafter, the committee shall submit a report of its findings and any recommendations for legislation, to the speaker of the house of representatives, the president of the senate, and the chairpersons of the house and senate standing committees with jurisdiction over business taxation.

324:5 Income Accumulations; Taxation. Amend RSA 77:11 to read as follows:

77:11 Accumulations.

[I. Income accumulated in trust for the benefit of unborn or unascertained persons shall be taxed as if accumulated for the benefit of inhabitants of this state.

II.] Income accumulated in an employee benefit plan, as defined by the Employment Retirement Income Security Act of 1974, section 3, 29 United States Code § 1002(3), as amended, or in a trust comprising a part of such a plan, shall not be subject to taxation under RSA 77:1.

324:6 Contingency. If SB 483-FN-A of the 2010 regular legislative session becomes law, RSA 77-A:4-b as inserted by section 4 of this bill shall be renumbered as RSA 77-A:4-c.

324:7 Effective Date.

I. Section 5 of this act shall take effect January 1, 2011.

II. The remainder of this act shall take effect upon its passage.

Approved: July 20, 2010

Effective Date: I. Section 5 shall take effect January 1, 2011.

II. Remainder shall take effect July 20, 2010.