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Legislative Update

Week Ending April 13, 2007

• Revised Notice to Pa. S Corps Regarding Distributions
• Revenue Department Releases March Collections
• New Study Finds Litigation Costs America $865 Billion Per Year
• Tennessee Legislature Passes Mobility Bill
• Maryland Closes Corporate Tax 'Loophole'
• School Boards Approve Earned Income Tax for Ballot Question
• Section 987 Regulations Concern AICPA
• AICPA Issues Statement on Tax Filing Season and Tax Gap

Revised Notice to Pa. S Corps Regarding Distributions

The Department of Revenue has issued a newly revised notice to PA Subchapter S corporations concerning distributions. Act 67 of 2006 eliminated the requirement to file a Pennsylvania S Election and Shareholders’ Consent in order to be a Pennsylvania S Corporation. Under the new law, all Federal Subchapter S Corporations are Pennsylvania S Corporations.

According to the notice, Federal Subchapter S Corporations that have been Pennsylvania S Corporations throughout their corporate existence, should have been tracking their PA “accumulated adjustment account” (AAA) and PA “earnings and profits” (E&P), if applicable, to provide the information required for resident shareholders to correctly report distributions.

Federal Subchapter S Corporations that have become Pennsylvania S Corporations by the operation of Act 67, similarly should track PA AAA and PA E&P. However, it may be extremely difficult to obtain the necessary information to compute the initial PA E&P.

The Pennsylvania Department of Revenue will allow a transitional election by Federal Subchapter S Corporations that have become Pennsylvania S Corporations by the operation of Act 67 of 2006. The Department may allow a “new” Pennsylvania S Corporation taxpayer to elect to use its Federal AAA as the functional equivalent of its PA E&P.

Questions about the revised notice should be directed to the Department’s Pass-Through Business Office at 717.705.7400.

Revenue Department Releases March Collections

Acting Secretary of Revenue Thomas Wolf recently reported that the state collected $4 billion in General Fund revenue in March, $138.4 million, or 3.6 percent, more than anticipated for the month. Fiscal year-to-date General Fund collections total $19.3 billion, which is $250.5 million, or 1.3 percent, above estimate.

Wolf noted that $66.7 million of the overage was allocated in Gov. Ed Rendell’s 2007-2008 budget proposals and $42 million came from a one-time, unanticipated corporation tax settlement in November 2006. Overall revenue collections are slightly above estimate through March – mostly due to higher than anticipated collections in corporate and personal income taxes. However, several taxes continue to lag below estimate, including the sales and realty transfer taxes.

Sales Tax receipts totaled $626.2 million for March, which is $12.1 million below estimate. Sales Tax collections fiscal year-to-date total $6.4 billion, which is $39.5 million, or 0.6 percent, less than anticipated.

Personal Income Tax (PIT) revenue in March was $746.6 million, which is $22.1 million above estimate. This brings fiscal year-to-date PIT collections to $6.8 billion, which is $89.3 million, or 1.3 percent, above estimate.

March Corporation Tax revenue of $2.4 billion is $181.4 million above estimate. Fiscal year-to-date Corporation Tax collections total $4.2 billion, which is $263.8 million, or 6.8 percent, above estimate.

Realty Transfer Tax was $45.3 million for March, bringing the total to $432 million for the year, which is $25.6 million less than anticipated.

Other General Fund revenue figures for the month included $76.4 million in Inheritance Tax, which is $7.5 million above estimate, bringing the fiscal year-to-date total to $557.6 million, which is $20.2 million below estimate.

The Gaming Fund received $26.9 million in unrestricted revenues for March. Fiscal year-to-date collections for the fund total $371.2 million. Gaming Fund receipts include taxes, fees and interest. Of the total for the month, $25.9 million was collected in state taxes for property tax relief, bringing the fiscal year-to-date total to $68.4 million.

New Study Finds Litigation Costs America $865 Billion Per Year

America’s out-of-control legal system imposes a staggering economic cost of over $865 billion every year according to a new study released by the Pacific Research Institute (PRI). This figure is 27 times more than the federal government spends on homeland security, 30 times what the National Institutes of Health dedicate to finding cures for deadly diseases, and 13 times the amount the U.S. Department of Education spends to help educate America’s children.

The authors of Jackpot Justice: The True Cost of America’s Tort System calculated that the nation’s tort system imposes a yearly “tort tax” of $9,827 for a family of four and raises health care spending in the U.S. by $124 billion.

Tennessee Legislature Passes Mobility Bill

On March 29, the Tennessee House unanimously passed Senate Bill 443 which amends the state’s current substantial equivalency law to include “no notification” provisions. The bill already passed the Senate by a vote of 30 – 0. SB 443 will now be sent to Gov. Phil Bredesen who is expected to sign it in the coming weeks.

Upon the Governor’s approval of SB 443, Tennessee will become the first state in 2007 to enact newly proposed provisions which removes the notification requirement, and also subjects the licensee to automatic jurisdiction in the state.

PICPA is currently working on similar legislation to amend the CPA Law and hopes to have a bill introduced for consideration by the Pennsylvania General Assembly in the next few weeks.

Maryland Closes Corporate Tax 'Loophole'

Maryland Comptroller Peter Franchot has announced that Maryland will no longer allow payments to "captive" Real Estate Investment Trusts (REITs) to be deducted from state corporate income tax returns.

Franchot said the state will begin auditing companies using this tax "loophole" and seek to collect the taxes it is owed. It is estimated that Maryland could bring in millions of dollars annually in additional revenue due to this change in policy.

Maryland has long been a leading center for REITs. In 2006, 326 REITs paid the state's $300 Annual Report fee for total General Fund Revenue of $97,800. This makes Maryland home to more than 50 percent of the nation's REITs, according to the National Association of Real Estate Investment Trusts. The genesis of this can be traced back to 1963, when Maryland became the first state to pass a REIT statute called the Maryland REIT Law.

It is important to note that the typical investment REIT, corporate REIT, and trust REIT will not be effected by this action. The accounting practices targeted by the comptroller are used solely by the captive REITs and are solely for the purpose of tax avoidance.

School Boards Approve Earned Income Tax for Ballot Question

An overwhelming majority of school boards have selected the earned income tax (EIT) as the basis for the front-end referendum question required for the May ballot by Act 1 of 2006, the Taxpayer Relief Act, according to a survey by the Pennsylvania School Boards Association (PSBA).

In response to the PSBA survey, 409 school districts (88.7 percent) indicated they approved a ballot question seeking to increase the district’s earned income tax to achieve property tax relief. Only 52 districts (11.3 percent) selected the personal income tax rate for the front-end referendum question. Thirty-seven school districts did not respond to the survey.

The estimated statewide average property tax reduction for EIT districts is $340. Possible tax reductions range from $35 to $1,168. The range of EIT increases proposed is between 0.1 percent and 1.9 percent, producing a total EIT tax rate range of 0.55 percent to 3.4 percent. Currently, there are 12 different tax rates across Pennsylvania. If all EIT ballot questions are approved, there will be 15 different tax rates, not including PIT rates.

Under the front-end referendum circumstance, the reduction in property taxes is offset by the increase in income tax. In EIT districts, the average income where the reduction in property taxes is equal to the increase in EIT is $48,593. The range of break-even levels is $12,000 to $270,000.

The estimated statewide average property tax reduction for PIT districts is $407. Possible tax reductions range from $102 to $1,180. The range of proposed PIT rates is between 0.6 percent and 2.95 percent. If all PIT ballot questions are approved, there will be 11 different tax rates, in addition to the EIT tax rates.

Under the front-end referendum, the reduction in property taxes is offset by the increase in income tax. In PIT districts, the average income where the reduction in property taxes is equal to the increase in PIT is $51,119. The range of break-even levels is $12,200 to $114,600.

For a copy of the PICPA’s Act 1 Fact Sheet, click here.

Section 987 Regulations Concern AICPA

The AICPA has commented on proposed regulations released in 2006 by the Department of the Treasury and the IRS regarding how businesses should determine the taxable income or loss of a foreign branch qualified business unit whose books are kept in foreign currency.

The AICPA recommended that the Treasury and IRS “reconsider the approach of the proposed regulations” relating to Internal Revenue Code Section 987 and offered to discuss with government officials other proposals for determining Section 987 gain and loss.

The AICPA said it is “concerned that the proposed regulations will frustrate the currency reforms made by The Tax Reform Act of 1986 and will pose an unreasonable compliance burden on taxpayers.”

Furthermore, the AICPA said if Treasury and IRS decide to keep the approach in the proposed regulations, then the almost 20 recommendations for modification the AICPA outlined in its comments should be made to the final Section 987 regulations.

AICPA Issues Statement on Tax Filing Season and Tax Gap

The AICPA submitted a written statement to the House Ways and Means Subcommittee on Oversight that will be included in the March 20, 2007 hearing record on “IRS Operations, 2007 Filing Season, and Tax Gap” that may be of interest to tax practitioners.

The AICPA statement provides comments on the status of the current filing season, as well as four penalties and tax administration provisions that were contained in S. 1321, the Telephone Excise Tax Repeal and Taxpayer Protection and Assistance Act of 2006. These provisions were considered by the Senate Finance Committee during the last Congress and are expected to be considered again this Congress.