Pennsylvania Governor Tom Wolf signed House Bill 1342 (“HB 1342”) into law on July 8, 2022, phasing in a corporate net income tax (“CNIT”) rate reduction over nine years.
Along with the rate change, the new bill codifies the economic nexus standard for entities subject to the CNIT and implements market-based sourcing rules for receipts from sales of intangibles. HB 1342 also imposes sales and use tax on peer-to-peer car sharing, provides Internal Revenue Code (IRC) conformity updates for the Pennsylvania personal income tax (“PIT”), and modifies certain tax credit and economic development zone provisions.
Corporate Income Tax Rate Reduction
Pennsylvania currently levies the CNIT at a rate of 9.99% for tax year 2022, making it the second-highest corporate income tax rate in the country. HB 1342 implements an incremental rate reduction to occur automatically as follows:
8.99% for tax year 2023
8.49% for tax year 2024
7.99% for tax year 2025
7.49% for tax year 2026
6.99% for tax year 2027
6.49% for tax year 2028
5.99% for tax year 2029
5.49% for tax year 2030
4.99% for tax years beginning January 1, 2031, and thereafter
Sales Factor Update: Market-Based Sourcing for Receipts from Sales of Intangibles
Currently, under the Pennsylvania sourcing rules, sourcing of gross receipts from intangibles – those receipts that are neither sales of tangible personal property nor sales of services (e.g., receipts from patents, royalties, franchise agreements, securities, loan interest) – are subject to the cost-of-performance method.
With the passage of HB 1342, Pennsylvania will now employ market-based sourcing standards for sales of intangibles. This change aligns the sourcing of this revenue with the methodology already employed for the sourcing of tangible personal property and services.
Specifically, market-based sourcing will apply to the sourcing of the following receipts:
the lease or license of intangible property
the sale of intangibles
the sale, redemption, maturity or exchange of securities held by a taxpayer primarily for sale to customers
receipts for lending activities involving real property and tangible personal property
receipts received from interest, fees and penalties from credit card holders
receipts received from interest not otherwise addressed in the revised law
Intangible property not described is excluded from both the sales factor numerator and denominator.
The law directs the Pennsylvania Department of Revenue to promulgate rules and regulations to implement this new methodology.
CNIT Economic Nexus Provisions Are Now Law
HB 1342 codifies the Pennsylvania Department of Revenue’s Corporation Tax Bulletin 2019-04, imposing for tax years beginning January 1, 2020, a rebuttable presumption of substantial nexus for corporations with $500,000 or more of PA sourced gross receipts. The bulletin, released in response to the U.S. Supreme Court’s decision in South Dakota v. Wayfair, created the possibility of Pennsylvania nexus without regard to physical presence in Pennsylvania.
The new law applies the CNIT to corporations that have a “substantial nexus” with Pennsylvania – a “direct or indirect business activity that is sufficient to grant the commonwealth authority under the Constitution of the United States to impose.” Such business activity includes:
Leasing or licensing intangible property utilized in Pennsylvania
Regularly engaging in transactions with Pennsylvania customers involving intangible property, including lending to unaffiliated entities or individuals
Selling intangible property that was used by the corporation in Pennsylvania.
Personal Income Tax: Conformity Updates
Applicable to property placed in service in tax years beginning after December 31, 2022, Section 179 property may be deducted consistent with IRC Section 179 “in effect at the time the property is placed in service.” The federal 2022 tax year limit is $1,080,000.
Prior to H.B. 1342, such property generally was depreciated under Section 179 of the Internal Revenue Code of 1986, which limited the expense to $25,000.
Applicable to transactions occurring in tax years beginning after December 31, 2022, Pennsylvania provides that Section 1031 of the Internal Revenue Code is applicable. Prior to H.B. 1342, Pennsylvania personal income tax did not follow the federal nonrecognition rules in IRC Section 1031.
Sales and Use Tax
Beginning January 1, 2023, HB 1342 places new peer-to-peer market facilitator requirements for sales and use tax on shared vehicle rentals. However, the Commonwealth’s 2% vehicle rental tax does not apply to a shared vehicle that is rented through a peer-to-peer car sharing program. The bill also extends the computer data center sales tax exemption qualification period from 15 years to 25 years for qualified purchases of equipment installed in the computer data center.
Our Thoughts On Pennsylvania’s CNIT rate reduction
Pennsylvania’s CNIT rate reduction is a welcome change that has been years in the making. Unlike recently enacted rate reductions in other states, Pennsylvania’s rate reductions are not dependent on revenue thresholds being met to take effect.
While the CNIT rate reduction may be a welcome change, the economic nexus provisions may surprise companies that previously did not have Pennsylvania nexus under a physical presence standard. These companies should evaluate whether they meet Pennsylvania’s new “substantial nexus” standard and model the tax impacts of the new legislation. Further, because the codification of the economic nexus provision is not effective until tax years beginning after December 31, 2022, a refund opportunity may exist for corporate taxpayers that filed their Corporate Net Income Tax returns pursuant to the economic nexus standard beginning in 2020.
Finally, companies with receipts from intangibles should evaluate the need to source to Pennsylvania and model the economic impact, especially in light of the economic nexus provisions, which may impose a CNIT obligation on entities that did not previously have Pennsylvania nexus.
The Schneider Downs State and Local Tax practice is well equipped to help your business navigate these changes in the Pennsylvania tax code. If you have questions, please direct inquiries to Stephen Worth, State & Local Tax Practice Leader, at [email protected]
About Schneider Downs Tax Advisors
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