In order to curtail multinationals from attempting to shift profits offshore through intangible assets, 2017’s Tax Cuts and Jobs Act (TCJA) imposes a federal 10.5 percent tax on global intangible low-taxed income (GILTI), pursuant to Internal Revenue Code (IRC) Section 951A. To alleviate the tax cost of GILTI, under IRC §250, corporate taxpayers are allowed a 50 percent deduction of GILTI for 2018 through 2025, which will decrease to 37.5 percent in 2026.
Although GILTI is a federal law, states generally use federal taxable income as the starting point for their state income tax base, giving GILTI a state impact as well. Tracing its roots to the decision in Kraft General Foods Inc. v. Iowa Dept. of Revenue and Finance, 505 U.S. 71 (1992), where the U.S. Supreme Court found that Iowa's corporate income tax treatment of domestic dividends was more favorable than its treatment of foreign dividends and, therefore, violated the commerce clause, states must generally grant a form of relief to foreign-sourced dividends not required for federal income tax purposes.
Currently, states are split over if and how they account for GILTI on state tax returns. Some states tax GILTI amounts included in federal taxable income, while others allow taxpayers to subtract any GILTI inclusions or provide a dividends-received deduction (DRD) to offset any inclusion at the state level. To further complicate matters, the application of GILTI also varies by taxpayer type (C corporation, pass-through entity, etc.).
Alabama, Idaho, Maryland, New Jersey, Oklahoma and Vermont require taxpayers to include GILTI in determining state tax liability. All of these states except for Oklahoma also allow the IRC §250 deduction at the state level.
Generally, Connecticut, Illinois, Indiana, Kentucky, Massachusetts, Missouri, North Dakota, Oregon and Pennsylvania categorize GILTI as dividend income for state corporate income tax purposes. However, states differ on how that dividend income is then treated. For example, Pennsylvania and Indiana do not allow taxpayers to take into consideration the GILTI deduction provided under IRC §250, and for Kentucky corporate taxpayers, GILTI is classified as nontaxable dividend income.
Eight states (Connecticut, Illinois, Indiana, Massachusetts, Missouri, North Dakota, Oregon and Pennsylvania) offer a partial or full offsetting foreign-sourced DRD for any GILTI inclusions at the state level. However, Connecticut requires an addback for expenses related to dividend income equal to 5 percent of the taxpayer’s dividend income. In Missouri, the net GILTI amount (after taking into account the IRC §250 deduction) may be offset, in whole or in part, by a DRD, as nonbusiness income or as a non-Missouri dividend, depending on the taxpayer’s apportionment method. On July 15, 2019, Oregon passed a law entitling taxpayers to an 80 percent DRD for the gross amount of GILTI included in income. Corporate taxpayers in Massachusetts are eligible for a 95 percent GILTI DRD.
Another way states are excluding GILTI amounts from the state income tax base is through a Subpart F subtraction. Specifically, Arizona, California, Florida, Georgia, Hawaii, Maine, Minnesota, Mississippi, New Hampshire, New Mexico, New York, North Carolina, South Carolina, Tennessee, Virginia and Wisconsin require a subtraction modification for any GILTI amounts included in the taxpayer’s federal taxable income and an addback of any amount deducted under IRC §250.
Each state modifies this approach here as well. For example, for tax years beginning on or after January 1, 2019, New York excludes 95 percent of included GILTI amounts as “exempt CFC income,” and taxpayers must include the remaining gross GILTI amount (before the IRC §250 deduction) in taxable income. Similarly, Tennessee requires taxpayers to add back 5 percent of the IRC §951A amount included in federal taxable income, also prior to any deduction taken under IRC §250. Maine provides a 50 percent subtraction modification for GILTI included in federal gross income but adds back the federal IRC §250 deduction.
Alaska, Arkansas, Colorado, Delaware, District of Columbia, Iowa, Kansas, Louisiana, Michigan, Montana, Nebraska, Ohio, Rhode Island, Texas, Utah and West Virginia would seem to tax GILTI (based on the way their tax codes are written), but have not yet provided specific guidance to businesses.
Nevada, South Dakota, Washington and Wyoming do not impose a corporate income tax.
Nearly two years after the TCJA’s enactment, GILTI continues to be equally complex and uncertain for states and taxpayers alike, requiring diligent monitoring of state legislative developments. To learn more about the state tax effects of GILTI, contact your BKD trusted advisor.