The Golden State sourcing rules for dividends and its factor-presence nexus standard could result in an unexpected filing obligation for an out-of-state corporation receiving dividends from a California-based payor. That’s because, for corporate franchise tax purposes, business income dividends are assigned to California based on Cal. Code Regs. tit. 18, § 25136-2, which generally assigns the source of such dividends according to the sale of stock rules.
If the amount of the dividends assigned to California under those rules exceeds the state’s factor-based nexus standard of more than $547,711 (as indexed for tax year 2016) then per se “doing business” nexus would be created for the corporation receiving the dividend. “A dividend should be a receipt counted against that $500,000 metric—assuming you cannot argue that dividend is excluded from gross receipts because it is falls within the ‘treasury function’ exception in RTC 25120,” said Eric Coffill, senior counsel with Eversheds Sutherland’s Sacramento, Calif., office and co-author of the California Corporate Income Tax Navigator (subscription required).
“One of the items raised in the Franchise Tax Board’s discussion paper for the current FTB interested parties meetings process on amending Regulation 25136-2 is perhaps taking dividends out of that regulation or creating different dividend assignment rules in the next round of amendments,” said Coffill. “But until they are removed or amended, those rules apply. If under those rules, you end up with more than $500,000 of dividends assigned to California you will be doing business in California (unless there is some other provision that would apply and provide an exemption).”
The FTB is already aware of the problems caused by adding the factor-presence nexus standards and how they impact the water’s-edge provisions, and already released Legal Notice 2016-02 last year on this interaction. However, legislation is likely needed to address all the issues presented.
Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: Does your state have factor presence nexus and, if so, could it trigger unexpected filing obligations?
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