Doug Houser:
From Rea & Associates studio, this is unsuitable. A management and financial services podcast for entrepreneurs, tenured business leaders, and others who are ready to look beyond the suit and tie culture for meaningful, measurable results. I'm Doug Houser.
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Even though the 2021 tax season is coming to an end. If you are a business owner, taxes should always be a topic of consideration, especially your tax obligations at the state and local tax levels. Today, Luke Lucas, a senior manager on Rea & Associates state and local tax team, is here to give us some insight into how different states, including our own Buckeye state, have responded to the CARES Act, federal tax updates, and ongoing nexus guidance. He will explain how state and local taxes impact businesses all year long and what you should do to minimize your liability. Welcome to unsuitable, Luke.
Luke Lucas:
Thank you, Doug. It feels great to finally get on here with you.
Doug:
Yeah. Great to have you on, we should have certainly done so sooner. We've got to get on Joe, he needs to delegate that a little bit more to you. He tends to take more of that spotlight himself. So we'll work on that.
Luke:
Yeah, he does enjoy it.
Doug:
Absolutely, but so much important stuff with regard to state and local taxes, or as we like to say, SALT, in our world. A lot of consternation around the CARES Act and all of these things, PPP and all of this stuff. And yet a lot of people didn't pay attention or tended to ignore, maybe, the impact at the state and local level, some of which has been addressed, some of which has not. So can you give us maybe a quick overview on some of those things?
Luke:
Yeah. I think you summed it up great. I mean, from my experience, it does seem like state and local tax sort of falls on the back burner sometimes. And probably rightfully so, honestly, compared to federal taxation. But as everybody's aware, there's been a ton of that's going on in the past year with coronavirus, the government responds to it, but it's at the federal and state level. And the first topic I kind of wanted to bring up today was really just the state responses to the CARES Act. And then with what was passed in late December of 2020, the Consolidated Appropriations Act really did end up being very taxpayer-friendly at the federal level.
Doug:
Yeah, absolutely. So talk a little bit about some of those things and how they impact state and local obligations. In Ohio, obviously, we've got CAT tax and all those things and some of what's been addressed, and as far as that goes.
Luke:
Yeah. So to tee it up, I'm going to focus on the paycheck protection program deductibility, since that really affects, I would say most taxpayers, not only in the state of Ohio but throughout our whole audience, even though this concept really applies to any provision that may get passed by the federal government.
So to understand, we need to understand where the states are coming from and really what factors into their decision, to see how they would treat this paycheck protection program deductibility. States, by and large, really don't want to hurt their economy, they want to be business-friendly. So they don't want to react to this and hurt businesses that may already be struggling from COVID, more than they already are. But the fact is, and I don't think a lot of people realize this is, unlike the federal government, states are actually required to maintain balanced budgets. So that plays very heavily into their decision-making.
And as I brought up the Consolidated Appropriations Act, which was passed on December 27th of 2020, it does now allow the deductibility of the paycheck protection program proceeds, for federal tax purposes, which is certainly a big win for taxpayers. But being that is passed so late in the year, the states are really now scrambling to assess the effect it's going to have on their state's budget. And of course, after they analyze that effect, they have to get the legislation drafted and run through the system in order to get that approved if they do approve a taxpayer-friendly provision, which would be allowing the deductibility of those expenses at the state level as well.
Doug:
Some states automatically follow the federal legislation, but Ohio does not, we have to enact our own provisions as it works. Correct?
Luke:
Yeah, that's right. So without doing anything, a state may automatically allow the deduction or require it to be added back. And kind of what you're getting at here is this depends on the states to formally date with the Internal Revenue Code.
There are really two conformity types states out there, and they're either a rolling conformity state. So they'll automatically update and allow the PPP deduction unless legislation is passed to disallow it. And the other half is a fixed date conformity state like Ohio is. And Ohio is of course, most relevant to our audience and Ohio's current conformity date is March 27th of 2020, and that coincidentally happens to be the date that the CARES Act was signed into law. So it does include some of those benefits and provisions, but however, because it has not been updated to December 27th of 2020, which is the date that the Consolidated Appropriations Act was passed, they need to update their conformity date to at least December 27th of 2020 to conform with the PPP deduction.
I do. So actually just today I did get an update that legislators are moving the bill, which is Senate Bill 18, along to allow the deduction. It was passed at the Ohio Senate in favor of a vote of 32 to zero. And it's not the house. So with that 32 to zero Senate vote, I would say it's very highly likely that this will end up getting passed and will probably be passed by the time, actually, our listeners hear this podcast, just because it's such a time-sensitive matter.
Doug:
That's great. And the other piece, I think that's in that too is for Ohio, specifically, the BWC dividends and rebates, which were massive, obviously, in 2020 for companies. And as I understand currently, those would have to be included in your CAT tax calculation. Although as you said, there's a big push to change that and not include that. Correct?
Luke:
Yeah. I kind of feel like you're reading my mind here. So yeah, something else that is included in the bill and actually got added after the fact, but it's really been a big question mark that came up recently, and that's the exclusion of the BWC refunds or dividends from the commercial activity tax base. So as you said, Doug, there were 8 billion, with a B, dollars issued in refunds in 2020 to help higher taxpayers. So it is pretty important and it can make a sizable difference in your commercial activity tax base. And as most should know, if you're a quarterly taxpayer, your final 2020 CAT return would have been due on February 10th. So if, or when, I should say, this bill ends up being passed and you're allowed to exclude the BWC refunds from the CAT tax base, you should amend the appropriate returns for 2020, file a refund claim if you report those [inaudible 00:08:40] like you probably should have and a claim there's BWC refunds that you're entitled to.
Doug:
Yeah. Lots to keep track of and pay attention to for business owners out there. That's why you've got to make sure you've got an expert team like you and Joe and our SALT team because it's a lot of complex stuff. Let's talk a little bit about the individual side. I've seen some noise about these lawsuits, they're withholding basically wherever that their business was, even though they may have been working from home or remotely, other things like that. And that was kept in place, I think during this time of emergency, but now there's some litigation around that and people upset. Give us an overview of what that is and how that might impact things.
Luke:
Absolutely. So Ohio's current municipal withholding rule with the passing of House Bill 197, which provided emergency relief to Ohioans during the pandemic. This allows employees working from home to be treated as working at their quote-unquote principal place of work. So, as an example of myself, even though I may work from home about 80% of the time now, I'm still treated as working in independence, that's my home office.
The rule pre-pandemic, for the most part, without getting too much into the weeds, was that employers were to withhold based on where the employee was actually working that day. Going back to the new rule, this new rule expires 30 days after the declaration of emergency from Governor DeWine is lifted, which it has not yet. However, I believe the intention of this bill was to help employers.
So it creates no income tax, filing obligations or payroll, withholding obligations, where they otherwise wouldn't have them under normal circumstances. And it's certainly a benefit for an employer who may be filed it in only one municipality, pre-pandemic. If they had everybody coming into say, location independence, and they have 50 employees who live in 50 different jurisdictions, that's going to create an absolute tax compliance nightmare for them probably at one of the worst times that they could handle it.
My initial observation, as I said, was that this was done to primarily help employers, but as time has passed, and this is kind of what you brought up, getting more into detail, I've realized that it was likely done to help municipalities and probably more so your larger municipalities. In September, there was a report released by the Greater Ohio Policy Center. And that report said that a repeal of the new withholding rule, as a result of House Bill 197, would be a quote-unquote mortal threat to the economic competitiveness of Ohio's largest cities. As an example for that report, as of 2017, 75% of Cleveland's tax revenue came from individual income tax and 88% of Columbus's income revenue came from individual income tax. So it is certainly a big problem out there right now.
Doug:
Yeah. I saw a quote from a couple of the large city mayors in Ohio say they would almost immediately declare bankruptcy because of all of a sudden the lack of revenue when you talk about those kinds of percentages, it makes sense. So I don't know if there's some middle ground here or what kind of traction, do you have any insight as to what you're hearing at all from that state level?
Luke:
Well, first I'd like to kind of get into a little bit more detail about what exactly the problem is, just to make sure that everybody's aware of it. And I guess to start, Ohio's largest cities, typically have a higher tax rate than most. So as an example, both Columbus and Cleveland, tax your income at 2.5%. I believe it's well-known that both of these cities have a large commuter base that comes in from the suburbs on a daily basis, not to pick on Cleveland too much, big Cleveland fan. But the latest information I was able to find is that their current resident population is around 380,000. Whereas their daytime population is 593,000. So that means over 200,000 people are commuting to Cleveland for work each day in normal circumstances.
Now there's kind of two examples. The one is if an employee commutes to Cleveland from living in a township, like me with no municipal income tax. If I'm treated as working in Cleveland with that 2.5% tax rate under this house bill, that I'm having 2.5% of my income tax, that wouldn't otherwise be taxed under normal circumstances. So quick math for somebody who makes a salary of 50,000 a year, that's $250 that you're losing out on and it's certainly been a tough year for most people and that money can mean a lot to the individual.
And then on the other side, I realized many people don't live in a township. However, the chances are you live in a suburb with once again, still, a lower tax rate than what you may be paying in say Cleveland or Columbus, and or your suburb may not give you a hundred percent tax credit for your taxes paid to Cleveland or Columbus. So even if you don't live in a township and still living in a [inaudible 00:13:54] municipality, there's a good chance you're losing out on money.
Doug:
Yeah. And if all of a sudden or ruled that those large cities couldn't have that income tax, in essence, it would really be a blow to their budgets, as you were saying. I'm not sure what the answer is. And in terms of that, obviously, it's been such an unusual situation, but you got to be fair to the cities. We all rely on those services that were in those cities, me in Columbus, for example, or yourself in Cleveland, you can't not contribute to those, but yet, like you said, if you're at home 80% of the time, is there some balance there? I don't know what the answer is. [crosstalk 00:14:43].
Luke:
Yeah. I really don't know where it's going to be at the end of the day. And of course, I'm not the first person to realize this. So as you were kind of hinting, there've been a couple of bills introduced for legislation, but to my knowledge, they haven't gained much traction. There are also a few lawsuits out there questioning the constitutionality of this house bill. I don't necessarily have a side because like you said, for me is a thousand dollars worth, maybe Cleveland not being able to pave the roads for a year. I don't know what that answer is. But regardless of the outcome, I do have trouble seeing, I would certainly probably prefer some sort of middle ground, but I do have trouble seeing how somebody won't end up getting the short end of the stick, whether it's the employer or city side or the employee side.
Doug:
Yeah, be something certainly we'll all be following. Well, let's pivot a little bit [inaudible 00:15:37] in the construction world as I am. Gosh, it seems like there's more and more targeting from a state-local tax perspective of construction companies. And we have a number of clients that have received notices, all those types of things. I have a theory on that. I think one, construction certainly fared better than most other industries through this time. And they're a little bit of an easier target because they've got equipment or vehicles or other stuff around and people might notice and say, "I wonder how they're doing there." They're withholding. And are they filing in all the right jurisdictions and all of that? Talk a little bit, maybe if you can, about what business owners should be on the lookout for, in terms of enforcement and even deeper, maybe process and procedures and all those kinds of thing.
Luke:
Yeah. So like I kind of mentioned earlier, both states and cities are required to balance their budgets, probably seeing an uptick in aggressiveness as a result of COVID. As you said, the construction industry has probably fared pretty well, but there are certainly other industries that have not, unfortunately. So what these cities are doing is they're probably looking for ways to balance that budget and meet their revenue goals.
Some things that I predict happened behind the scenes, especially in construction is typically whenever you're doing any sort of job in a municipality, you got to pull permits. So as cities update their infrastructure, it should be pretty easy to cross-reference permits pooled with taxpayers in the municipality. So we get a lot of those. I would just say, for the most part, if you're in that sort of industry, if you're going to do any work, any project in that municipality at all, you're at least going to have an income tax filing requirement, maybe what some believe to be more of a compliance hassle than what it's worth. But at the end of the day, the laws are the laws, [inaudible 00:17:36] payroll side.
For payroll, Ohio does give you some relief in that if you have an employee in the city for under 20 days, then you don't need to worry about changing up withholding, but that doesn't change your income tax filing obligations.
Doug:
Yeah. And better to be, as we all say, better safe than sorry. Even if you're filing zero returns, maybe you've had activity there a couple of years ago, better to kind of keep that chain intact rather than create an issue and give more reason for them to look at you, right?
Luke:
Yep. Absolutely.
Doug:
And one of the interesting things I always see with that is people tend to ignore and say, "What's my risk? It's probably not that great. So I'm not going to worry about it. If they catch me, they catch me, and that I'll deal with it." The problem is we see there's a lot of businesses are in the mode where they're thinking about either generational transfer or external transfer, some kind of transaction, and they've never evaluated that risk, that's a huge issue, right? Talk a little bit about some of the stuff you guys do around those risk assessments.
Luke:
Yeah. So like you said, very common to hear from business owners for them to make a business decision. And maybe at the time say, "Hey, our exposure doesn't seem like it's too much, we'll pass on it. If they catch us, they catch us, fine." But like you said, if you're looking to sell your business or to refer business valuation, anybody doing their due diligence on the bias side of the transaction, they're going to be looking into those potential obligations out there. And they're certainly going to deduct that and use that in negotiations against you. So if you're looking to sell or transfer whatever it may be, a tip that I can say is to reach out to your tax repair and perform a nexus study to one, help you determine whether or not you've been filing obligation in any municipality or state.
And then two, a risk assessment to really kind of help quantify what that exposure might be. And then from there, I think it really does help our clients make a much more informed business decision. Because if you realize you have an obligation, you can take action ahead of time and remediate a lot of that exposure.
Doug:
Yeah. I think it's awesome what you guys do and the risk mitigation that you've brought to the table for clients. I know even in construction we've got folks doing ESOPs, all those types of things. No matter what type of transaction you're going to have, at some point, some type of transition, you want to know what your risk is. And the stuff that you guys can do in terms of that risk assessment and nexus study, it's just phenomenal and I applaud you and the whole team for it. So it's great to get you involved. So thanks for that.
Well, Luke, it's always a pleasure to have you on, and we could spend an hour on this topic and go around to different things that will impact certainly individuals and our business owners, more importantly, so great stuff.
I think the message for the day is to pay attention, communicate and get the right people involved because there's just so much that you don't know as a business owner and you've got to get the right experts involved.
Luke:
Certainly agree.
Doug:
Yep. Appreciate that. And thanks again, you and the entire team, and always love working with you. So if you want more business tips and insight, or to hear previous episodes of unsuitable, visit our podcast page at www.reacpa.com/podcast. And while you're there, sign up for exclusive content and show notes. Thanks for listening to this week’s show, be sure to subscribe to unsuitable on Apple podcast, Google podcast, or wherever you're listening to us right now, including YouTube. I'm Doug Houser, join us next week for another unsuitable interview with an industry professional.
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The views expressed on unsuitable on Rea Radio are our own and do not necessarily reflect the views of Rea & Associates. The podcast is for informational and educational purposes only and is not intended to replace the professional advice you would receive elsewhere. Consult with a trusted advisor about your unique situation so they can expertly guide you to the best solution for your specific circumstance.
