On-Demand: Financial Services Year-End Tax Planning | Part I

That specific bill does not contain a lot of tax provisions. However, there is a couple that are very relevant to our industry, so I wanted to highlight those. It's not really a tax per se, but it's information reporting, it's additional information reporting that is specific to digital currency as defined, and this is one of the first times that the legislation is defining virtual currency.

So the structure of this is that the information reporting section of the code have been updated to include the reporting on digital currency and also have expanded the definition of brokers to include any person who for consideration is responsible for regularly providing any service effectuating transfers of digital assets on behalf of another person.

So anybody who would fall into this definition of a broker, will now similar to the brokers that report on the securities transactions will now have to report on all the transactions, including virtual currency transactions. So if you potentially fall into the definition of the broker, that is something to start planning for and considering of how to comply with these reporting requirements.

If you are more on the investment trading side of the virtual currencies, you can expect to start receiving reporting related to those trades and transactions. So the effective date for this specific section of the bill is for digital assets that are acquired after January 1st, 2023. So there's effectively two years of implementation, so it's for the assets that are acquired after January 1st, 2023.

So the reporting would happen in the beginning of 2024, but if we go back and look at what happened in a more traditional space of securities reporting and basis reporting, when the basis reporting regulations came out, it took quite a bit of time for the brokers to get their infrastructures up and running to be able to provide the necessary reporting to the investors.

In this space, we're expecting that a lot of players and a lot of entities that will now fall under the required reporting regime just don't have a historical infrastructure to provide the necessary reporting, so those would need to be built from the ground up. There's still a lot of questions really remaining of who falls into this definition of a broker or into the expanded definition of the broker, and what transactions would really have to be reported because in addition to any transactions by the brokers, any transfers that are not sales from a broker to a non-broker would also have to be reported.

So I think we're still going to be looking for clarifying regulations from the IRS to come out and obviously for the entities affected to be able to build up the infrastructures to be able to comply. The second part of that reporting or second part of that section really expands the definition of the cash under the reporting sections of the code to include digital currencies, and they're really impacting anybody who is engaged in a trade or business.

So not necessarily investors in digital currency, but rather trades and businesses that are accepting digital currencies as a method of payment. Under the current rules, any transaction that occur in cash with the value of over $10,000 have to be reported. So now the definition of the cash for these purposes has been expanded to include digital assets and therefore, just regular businesses that are accepting virtual currency as a method of payment, will have to do reporting to the IRS or treasury.

And questions are being raised whether traders in virtual currencies who are engaging in trade of business of trading, would be caught in these rules and would be required to provide additional reporting. Once again, this does not as of itself, raise any taxes or put any additional tax burdens, but rather these are reporting obligations, but they potentially could be quite heavy on compliance. And the thinking behind this is with more reporting, there's going to be more tax reporting and more taxes paid on the transactions.

So the other bill that it does contain a lot of the additional taxes and tax provisions that we have been talking about or that have been hitting the news airwaves in the last few months is the Budget Reconciliation Bill, the official title of that is Built Back Better Act.

It has been written and rewritten several times in the house of representatives, so we're going to talk about the provisions that are contained in the latest rewrite, but as you will note here that the bill has not been passed at the time of this presentation, it is now being debated in the house of representatives, it will still have to get passed in the house of representatives and then move on to the Senate before it can become a law.

And there's still quite a bit of questions remaining, whether Congress will be able to pass it in its current form. But some of these provisions, we are expecting to make it into a final life if one does in fact get passed, so we will talk about them for awareness and any planning that can be done at this point.

So one of the areas that is impacting the funds industry again, is the wash sale rules, and similarly, to what we talked about the reporting wash sales, as well as constructive sales are now going to apply to the digital assets, the definition of the digital asset is the same as what was passed by the house for purposes of reporting or was passed and signed for purposes of reporting.

So it's any digital representation of value, which is recorded on a cryptographically secured distributed ledger or any similar technology. So to the extent there are losses that are recognized as a result of trading virtual currency or any asset that falls into this definition and substantially identical assets are purchased within the 30 day window, similar to securities. Those would cause wash sales and therefore dis-allow losses.

The other aspect of the wash sale rules that is being proposed to change is that the wash sales can be caused not just by the same tax purchasing essentially identical securities in the 30 day window or 60 day window with 30 days before, 30 days after the sale. But the wash sale can also be caused by a related party, which would include spouses, dependent, individual retirement plans, and education savings plans.

Individual retirement plans is where we see the area potentially being problematic. So the scenario would be if a taxpayer sells the security of a loss, and then in that 60 day window, their retirement plan purchases the security back. The loss would be dis allowed for the individual, and the way the rules are currently written is that the loss will not adjust the basis of the securities that are purchased by the retirement plan, so it effectively becomes a permanent disallowance of that wash sale.

Whereas, if the taxpayer themselves created a wash sale, the basis adjusts the securities that caused the wash sale and presumably would be allowed when that security is sold effectively. So in terms of planning transactions, and in planning on the selling by the taxpayer and buying back by retirement plan is not an uncommon transaction that we see, is really means of transferring a security into a retirement plan.

So if the sale is at a loss, this potentially may change. So if this is something that people are contemplating doing, they need to sell a security and then put it back into their retirement plans before this gets passed is probably, would be the time to do it because if it does get passed, the effective date would be December, no transactions after December 31st, 2021.

So like I said, similarly to wash sales, the constructive sales, sales against the box with under these proposals would apply to virtual currencies or any other digital assets. The other proposed change that would be relevant to the funds industry is the amendment to section 1202, which is qualified small business stock.

The general rule under 1202 is that 50% of gain can be excluded on the stock that qualified small business stock. However, that 50% has now been raised to 100%, becoming really very valuable feature for a lot of private equity investors. So this proposed change would really roll it back to 50% for anybody who's earning over $400,000.

So this is an individual provision, the determination would still be at the private equity or the fund level, but as whether something qualifies as small business stock and qualifies for an exclusion, but as it moves up the chain to the individual investors under this proposal, anybody who makes $400,000 would only be able to exclude 50% of the gain instead of the 100%.

This proposed provision if it does get passed, the proposed effective date on that is September 13th, 2021. So there's not really a lot of planning that can be done at this point, unless there was a binding contract to sale the stock at the time, and unless the Congress changes the effective date, but as it stands right now, the expected effective date is September 13th.

So if there've been sales of qualified small business stock, after that date, it is possible that any gain on that would now be subject to a lower exclusion rate. The other one that I think could be very relevant to some of the structuring that we've gotten used to doing in the private equity side, the amendment to the portfolio interest exemption, so current currently, generally speaking, any interest that is allocated to non-US investors or non-US entities, as long as it needs the portfolio interest exception is not subject to withholding, it's not subject to tax in the US.

But to meet the portfolio of interest exemption, it has to be paid to entity that owns less than 10% of equity of the payer. So in the context and any blocker corporations that are being used out there, generally speaking the fund that owns the blocker corporation that is making the interest payments, owns 100% of the blocker corporation. And then we test up the chain of how much of that equity is indirectly owned by the investors in the fund.

So under the current rules, the 10% testing is only by vote. And so generally speaking the vote on the blocker corporations would get separated from the value. So we're not really as concerned with anybody who owns 10% of the value as long as the vote has been separated. The proposed change will do the testing not just by vote but also by value.

So any blocker corporations that now have effectively 10% shareholders through the funds, the interest paid to those equity holders or indirect and equity holders will not qualify for portfolio interest exemption and would be subject to withholding. Like I said, I think it has significant implications to the way we think about blocker corporations and our structuring for the private equity funds.

The effective date on this proposed change is date of enactment of the bill. So it is prospective, so if anybody is in any planning stages or set of stages of blocker corporations, it's advisable to get those set up before year end. And as you think about the debt that is being issued by these blockers, think about the maturity dates because the measurement is the issuance of the debt.

So if the debt is issued during this year before this bill becomes final, depending on how long, the interest will be able to meet the exception for as long as that specific debt remains in place. So longer maturity dates, obviously without jeopardizing the status of debt.

Some other provisions out there that are more specifically geared toward individuals, but will be impacting our investors as well as principles of our funds, there is a limitation on business loss deduction that can be taken of currently $250,000. That provision was introduced as far as the 2017 act and was set to sunset at the end of 2025.

This proposed bill will be making it a permanent limitation, it will change the mechanics of how it is applied, it will not be treated as unwell, but rather will continue being tested as a business loss deduction in all the subsequent years, there's no limitation how long it can be carried forward.

In lieu of raising rates overall, the proposed bill has 5% surcharge on income exceeding 10 million, plus 3% surcharge on gross income exceeding 25 million, bringing up the total individual top rate on anybody earning over 25 million to 45%.

And the proposed bill also will expand the 3.8% net investment income tax to business income. What that really means is that all income except for income that is subject to self-employment tax, will now be subject to the 3.8% net investment income tax. And we're sort of looking at possibilities of anything that has been previously been able to stay out of the net investment income tax and the self-employment income tax.

We're now thinking that there may be benefits to subjecting income to self-employment tax instead of ANI, just because there's some ability to deduct self-employment taxes, whereas no ability to deduct net investment income tax. But the headline here is all income will be subject to either one or the other if this passes.

So that's on the legislative front, we are obviously continuing to monitor what is happening in Congress. As I've mentioned, the house is currently debating this proposal. If the house votes and passes, it will then go to Senate, but there's sort a lot of moving parts with a lot of different groups within the house that are opposed to one part of the bill or the other, and there is very thin majority to allow the passage of the bill, so stay tuned, we'll see what happens.

I think the other piece of that, that wasn't on the slides, there is an amendment to the latest written proposal in the house that would increase the state and local deduction cap from $10,000 to $80,000. Denisse, who's speaking right after me will be talking a lot about what the states have done to work around for taxpayers who are subject to the $10,000 state and local tax deduction, there is a proposal to lift that limitation up to 80,000. But once again, it's uncertain whether that would be able to get passed.

On the non-legislative front, but coming from the IRS, there is a significant new tax compliance requirement, or we believe to be significant, that taxpayers and specifically, fund entities will need to comply with. There are new schedules, K-2 and K-3 that have to be filed with the partnership tax returns.

These schedules really expand and try to standardize the amount of information, and the type of information, and the format related to international holdings, foreign in source income, foreign in source deductions. So a lot of things that are already being presented on the K-ones but are being possibly some of the items that we have traditionally seen being presented in the footnotes, will now have to be presented on the schedules in a systematic way, but it's also a lot more information that's being currently presented.

So this presentation is part one of our year-end series, there's two more parts to this, and one part on December 16th, will specifically be dealing with international provisions in the post legislation, as well as the specific compliance with these schedules.

But I think as a means of planning, if you are planning for year-end compliance, the expectation is that the investor K-1 will become a lot more of illuminous and provide significantly more detail, which could be helpful to the investors, but may not necessarily be, but we'll also provide a lot more transparency to your portfolios, into the fund portfolios, as more information needs to get reported up to the investors.

So, we'll go through- There seems to be a lot of questions on the polling questions, I'm hoping that they get answered. So some things as we're expecting things to change, there are some things that haven't changed then as we get to the year end, we still have to plan for or think about.

So for the hedge funds, wash sales are still consideration. As a reminder of what a wash sale is, is a loss on sale if security is not allowed, if substantially identical securities purchased 30 days before or after the date of sale.

So if we are still looking to recognize the losses in the current year as opposed to when the security that creates a wash sale is disposed of some of the positions are-- Some of the ways around it, I guess, is to not trade in a substantially identical securities or find a replacement for the securities that are not substantially identical, doubling down on the position, or just waiting your 30 days. As far, these straddles are still a consideration.

Straddle is a holding offsetting positions in actively traded personal properties such as long and short of the same stock, but it's really anything that offsetting is defined by the code as anything that causes a substantial termination of risk in the position that it's offsetting.

So unlike wash sales, it doesn't have to be substantially identical, it just has to be diminishing the risk substantially, diminishing the risk of loss of the positions, the losses-- If one leg of the straddle is sold at a loss and the other leg of the straddle is held with unrealized gain, the loss is disallowed until the gain leg is disposed of.

And there are significant holding period limitations as well. So if the straddle is put on when the position is held for short term, the holding period is suspended. So you really can get a long term out of the leg, unless you hold it long term unhedged.

Constructive sales are sales that are-- It's short against the box, is a classic constructive sale. It requires a realization of gain to the extent there was any unrealized appreciation in the position that was at the time when the short was put on, if there is a constructive sale that was inadvertently created, and you get out of the short, and stay out of it, then you don't have to recognize the gain on the constructive sale.

And as I've mentioned before, if the new bill does get passed, our sales and constructive sales will apply to digital assets but that's obviously prospectively, we don't expect those to apply in 2021, even if it gets passed in 2021, the trader versus-- So continuing with what to think about in the hedge fund arena, the trader versus investor consideration is as applicable as ever, and probably more so since 2017, as a reminder, a trader fund is, any expenses of the trader funders are treated as trader business expenses, and therefore, would not be subject to the limitation or disallowance as other itemized deductions for the investors.

Whereas, any expenses that are sustained by an investor fund are classified as other itemized deductions for the investors, and they're not deductible until 2026. So, trader versus-- Who's a trader and who's an investor, the code doesn't give us really definition of what a trader is, but there is a number of court cases out there that have defined traders, and it's a high bar.

There has to be high volume of trading, high volume of portfolio turnover, but not only that the courts have looked at the number of days during the year that the traders have traded. So if you have a few 1,000 trades in three days of the year, which just would be highly unlikely more unusual circumstance, but nonetheless, you still may not be a trader.

So it has to be a sustained continuous activity that is undertaken to really capture the timing fluctuations of the market, as opposed to being invested for gradual appreciation or current income like dividends or interest. So we always look at the portfolios, a lot of times it's clear cut, somebody's a trader, somebody's an investor, but a lot of times there are people there are funds that really view themselves as traders that they trade actively and often that still really don't have enough of an activity, enough just sheer number of trades that would qualify.

So I think that's a conversation to have, I don't think there's much that can be done in the last month of the year to get somebody out of the investor status to a trader status. But if you're in the line and there's really, you're thinking of not trading for the month of December, but there is an opportunity to trade maybe there's something that could up the story to be treated as a trader.

As I said, it's a valuable status from the expenses perspective, so something to think about. I think we talked about business loss limitation, but as we talk about business loss in case of trader funds, traders are considered to be a trader business and so to the extent there's losses from the activity, those are limited at the individual level, and while the cares act suspended this until years beginning after December 31st, 2020, 2021 is that year, so in 2021, the limitation is back in play, and their reconciliation bill will make this limitation permanent going forward.

The NOL limitations, the CARES Act similarly, the CARES Act has suspended the limitation on the NOLs, that were generated in 2018, 2019, or 2020, but any NOLs that are generated in 2021 will be subject to the cap of 80% of taxable income, with no carryback. So they can only be carried forward. Okay. Anybody who is looking for a poll question, here it is.

Speaker 1: So this poll question number one. Do you expect past and proposed tax law changes to have a significant impact on you? A, yes or B, no. Please remember, in order to qualify for your CPE certificate, you will need to remain logged in for at least 50 minutes and respond to three out of the four polling questions.

And because we have had so many questions about the polls in our Q&A, I just want to reiterate that there will be four questions out asked throughout the presentation, they are being launched within these slides widget. So as long as you can see the slides, you should be able to see the polls, keep an eye on the slides throughout the presentation, as there's no set time that these polls will be asked, so pay attention, and you should see all four, and you only have to answer three and remain logged in for at least 50 minutes.

We'll keep this poll open for about another 30 seconds to give everyone a chance to answer it. And all the other polls will also be open for around 60 seconds.

(silence).

All righty. And I am now going to close the poll and share the results.

Irina Kimelfeld: Okay-
Speaker 1: Irina back over to you.
Irina Kimelfeld: 72%, think there's going to be significant impact, I think so. I think that if past as designed, it will have a lot of impact and a lot to think about. So we talked a little bit about things to think about if you are in the hedge fund, running a hedge fund, invested in the hedge fund, we'll talk a little bit about private equity considerations.

So effectively connected income, something to always keep an eye out on, I would say, not as you are invested in portfolio companies, but as you're considering investments in portfolio companies, generally so effectively connected income is income that is effectively connected with a US trade or business. It is specifically impactful for non-US investors and funds.

Generally speaking, non-US investors are not looking to generate income that is effectively connected with US trade or business because not only is it taxed here in the US, it brings the investors into the fold of US taxation. So generally something they would want to avoid.

So investing in corporate equity, doesn't generate effectively connected income. However, investing in portfolio companies that are flow through that pass through all the income that they're generating, does give effectively connected income to the, excuse me, to all the way up to the investors.

Most of the time, we'll see provisions in the LPAs of the funds that the GPS will take steps to mitigate effectively connected income coming up to the non-US investors. This is where we see structuring being done, and that discussion that I had about the blocker corporations or leverage blocker corporations, usually comes in when we are trying to mitigate potential effectively connected income issues.

So before the 2017 Act on TCGA, at the very least there was ambiguity, whether the sale of a portfolio company that generates, that is a flow through, that is a partnership that generates effectively connected income is subject to tax. TCGA made it abundantly clear that it is, so to the extent that flow through portfolio companies are getting sold.

At least a portion of the gain, depending on the operations of the company, will be considered effectively connected income. And to the extent that gain is going up to the investors, the investors now have effectively connected income, even if, well, it will have effectively connected income.

So generally if ECI is subject to withholding, whether it's from the regular operations of the portfolio company that flows up or through the sale of the portfolio company, ECI withholding is at the highest tax rate, 37% for individuals, 21% for corporate partners, corporate investors, and the withholding is due on a quarterly estimated basis. Sorry.

So, if you do have portfolio companies that are generating ECI, that flows up to the non-US partners, non-US investors, that's something to think about is making those quarterly payments or if they haven't been done to date, thinking about the year-end payment or the fourth quarter payment.

And 1446 (F) is the withholding on the disposition. So if there was a disposition of a portfolio company that is generating ECI and you haven't been in habit of paying estimated ECI withholding, once again, time to take a look back and think about the implication. But ideally doing that before the sale takes place.

Things that we think about in the private equity is installment sales, if there have been sales during the year that have payout provisions, that have contingent payouts, there is an opportunity to recognize the gain, not all in one year, but rather elect into installment method sale. The gain is spread across payment periods, it's not available if there's a loss, which presumably, people would not want to spread the loss, and it's not available for publicly traded stock.

So interaction with 1202 qualified small business stock, the gain exclusion will be prorated based on the ratio of current year gain inclusion to total gain. But if there are sales of 1202 stock during the year, something to think about is how that would interact with the proposed change in the exclusion.

So probably the best to not elect into installment sale, if there were 1202 sales before September 13th, 2021, when the exclusion provisions are going to change or potentially change. So installment sales, we're saying, well, if there's an earn out or if there's future payments that have to be made, a lot of earn out payments would be considered contingent payments, meaning we don't really know what the amount is going to be.

And there are three possible ways of accounting for that or calculating the taxable gain on those sales. One is the installment method, the closed transaction method and the open method. And it really goes to when and how much gain do you pick up and when do we use the basis to offset against the gain?

I'm a little bit cognizant of time here to make sure that we give Denise plenty of time to talk about state and local issues. So I'm going to put this a little bit short, give me an opportunity to still do the next polling question. The one thing that I do want to talk a little bit about before I close out is the worthless securities.

That's something to think about before year end, and this is the investments that potentially have become worthless during the year. So section 165(g) allows for deduction and worthless securities, but for someone to be able to take deduction, the security has to be completely worthless not partially, with no reasonable expectation of future value.

So sometimes it's a little bit difficult to determine at what point and what year that complete worthlessness has occurred, and when is the appropriate timing for taking the loss. There needs to be an identifiable event to allow for the loss. So what happened that really rendered the company worthless.

Bankruptcy may or may not be indicative of worthlessness, but if that's what really cemented the lack of any expectation of future value, then bankruptcy could be the identifiable event. But if it's a restructuring bankruptcy, then not necessarily.

So one way to really cement a loss, if you think you have a worthless security, if you think you have a company that's really not going to produce any further value, selling to a third part really cements it, that becomes a realization event and you get a loss.

So the issue here is misidentifying the year in which the loss can be taken, if you take it too late, and then the IRS comes in and says, "Well, you really didn't have a loss in this year, you really had a loss three years ago." And then three years ago, your tax returns they're closed due to statute of limitation. So you really can't go back and take the loss three years ago.

So identifying the year in which the loss is properly deductible is important. So if there is a question around when that identifiable eventually occurs, selling a security to cement the losses is a good strategy. Abandonment actually taking an action of sending to the company saying, I’m abandoning any interest in whatever holdings you have, and equity that you have is another way of doing it, because once again, that's an act, and that can be pointed to as an identifiable event that you really no longer have a security if you've abandoned it. So selling it, you've abandoned it.

The proposed tax act now, actually does talk to section 165, specifying that abandonment is an identifiable event for purposes of worthlessness, something that we've always relied on, but it's helpful to have it and may now being proposed in the law. And it also specifically talks about the worthlessness of a partnership interest.

So if you have any portfolio companies that are partnerships, there have been questions, whether those would be classified as securities for purposes, 165(g) the proposed act will specify that abandonment of part or worthlessness of a partnership interest does fall under 165(g).

The proposed law also changes the date of the deem sale upon worthlessness. So under the current law, if something is worthless, it is deemed to be sold on the last day of the year. The change would make it so that the deem date is not the last day of the year, but rather the date of the identifiable event that rendered the company worthless, potentially having some holdings period implications though, I can't imagine somebody becoming worthless less than one year in.

So I would encourage you to go through our portfolio if anything's been written down for book purposes but hasn't really been written off for tax yet, reviewing those holdings and making sure that they're still not worthless for tax, if you're not going to take the loss or doing something to cement the tax loss would be helpful. And I'm really going to let Denise speak now to make sure she has a chance to talk about everything that stayed in the local taxes for us.
Irina Kimelfeld: So, as you guys are answering, this really goes to the, there've been a lot of discussions around carry in the original proposed legislation. There were more stringent limitations on carry than they are now. Currently, you need to have a three year holding period to be able to claim long term capital gains on carried interest.

So the rewrite, the good news is that the rewrite of the proposal no longer has anything about carried interest. The bad news is that there is a number of other bills that are being proposed both in the house and in the Senate, that would potentially eliminate carried interest or opportunity for long-term capital treatment for carried interest entirely. So that's something to still look out for just, it's still a possibility that it's going to continue coming under attack as you're thinking about your carry.

Irina Kimelfeld: And we-- It looks like 80% people have not had early carry, which means almost 20% have had early exits that resulted in carry being reclassified to short term. As is my experience, I've seen a number of clients who have had really good results, but unfortunately those have required the carry recipients to reclass their gain to short term. So with that, I will turn it over to Denisse.

Denisse Moderski: Thank you, Irina. Good afternoon, everyone. My name is Denisse Moderski, I'm a state and local Senior Manager, and I'm going to try to cover as much as I can, but let's first start with the state and local tax workaround. As everyone knows, went back in 2017 with TCJA, there was a limitation of $10,000 on the individual tax payers.

So anyone who lived for example, on any high tax jurisdiction, such as New York, Connecticut, for example. If you have between your state and local tax and your property tax, we're looking at well above $10,000. So this was a big impact on too many taxpayers, where people were limited to $10,000 on their schedule A limitations. So as a result of these, we have seen a number of states that enacted a pass through entity tax, which essentially is an entity level tax at the partnership level.

Connecticut was one of the first ones that came out in 2018. And this was a mandatory, this is so far the only state that enacts a mandatory pass through entity tax. So this not an optional election. As you can see in this list, we have about 20 states that recently came out with this pass through entity tax.

And the major ones I will highlight has been New Jersey, New York, and California as of this year. Some of this are applicable to tax year 2021, and some 2022. And except for Connecticut, this election, it's an annual election and it's irrevocable. So if you were to make an election, let's say for this year and then next year, it doesn't make sense, you do not have to make an election next year. Again, it's an annual election.

All right. So one thing to know here is that there is no uniformity here between the state. So each state varies, the rules varies, the calculation, how the credit is computed, who gets a credit, whether a resident partner gets a credit or not, everything varies.

So we really need to think about this on a state by state basis. For example, for New York, just to give you an overview, it's for your resident individuals, your taxable base will be based on all of your income, versus a non-resident, which will only be based on a New York source amount.

And we have a lot of states that are similar. We have states where it's completely based on your state source income. So again, there's a lot of caution and not a lot of things to keep in mind when looking at whether it makes sense to make this election or not.
But the biggest point here is that this is creating a federal benefit at the individual level, because if this election was not in place, the individuals will be limited to $10,000 on individual return, versus by making this election, the pass through entity, it's not limited to $10,000, they can deduct the full state and local tax deduction, and that gets distributed to the partners.

So when you're getting your federal K-1, your income is net of this state tax deduction. And we also have states where they would honor that credit on your individual return. For example, New York, you get a federal deduction, a federal benefit, but you would also get a credit on New York return. And if there's any excess or any overpayment that can potentially be refunded at the individual level.

One thing too, I want to know is that in order to get the federal deduction, the estimated payments must be made by December 31st for New York, for example, you have to make the payments by December 31st in order to get federal deduction in your 2021 return.

So here, we have been seen is we have been working a lot of projections, looking at it doesn't make sense to make this election, which partner will get-- Which will get the credit, which states will grant the credit. So we have been working a lot.
There are a lot of opportunities for restructuring, for planning and we make more sense to make this election for states where you have a higher portion and higher exposure, versus states where it's limited, or maybe the tax rate is lower. So again, things start to consider us, as we thinking about planning for year end. And now we're going to go over a polling question.

Denisse Moderski: Okay. So I see about 665%, said yes, and that's, we have seen a high rise in past runners making this election again, because the benefit is at the federal level you getting the most benefit or you can versus being limited to the $10,000 limitation.

Okay. So moving on to other things that are also important to keep in mind, is change of domicile. We have seen a high rise in change of red domicile in 2020, 2021 as a result of the pandemic. And what it basically means is that we have seen investors, partners, where they were New York residents and now they change their domicile to Florida.

This is more an impact on the individual level, but things to keep in mind is when changing domicile, there should be some steps taken to prove that you are a non-resident. For example, if you were a New York resident and now became a Florida resident for purposes of defining domicile, you can only have one domicile.

By domicile, what we are looking at is, for example, is where your sentimental value property is. Where are your permanent place of a book? For example, where's your home? Where is your resident where you go to? If you travel, where do you go back to?

All the things to keep in mind is the numbers of states spend in each state. So New York, for example, they have very detail and restrictive guidelines in terms of what is considered a resident versus a non-resident. So things that they look at it is the number of they spend in the state.

There is about 183 days that they look at, if you spend more than 183 days, you maybe consider a statutory resident in the state. And other things to keep in mind is also as you're moving, you want to make your changes as soon as possible, take a series of steps because a burden of proof is on the taxpayer.

So things that we recommend is changing your driver's license. If you're an investor in your partnership, I will notify the partnerships of the change of domicile, so when you get your K-1, you are recorded and also your source income is properly calculated. Other things is tax returns, make sure that it shows the right record, the right address, any other bank statements, cell phone records, E-Z pass records, credit card statements.

These are all steps that people can take in order to prove that they are no longer resident, for example, for New York. Moving value or personable value items, for example, house full furniture, collectables, any items that are near and dear, and that we previously present in the prior residence, and now it's in the new residence.

Also be mindful to try to spend less time in New York, for example, so it doesn't become an issue. So statute to our resident rules, this is what I mentioned earlier, we're looking at 183 days, if you are spending more than 183 days in New York, you may be considered a resident individual for in income tax purposes.

Here, again, this talking about what steps to take, one change in domicile? I mentioned this, but again, a lot of it cautions should be taken care here because again, the burden proof is on the taxpayer. So these are steps that you want to do as soon as possible to change your domicile. I believe this is our last polling question. So I'm going to stop for a few.

Speaker 1: Polling question number four. Have you moved out of state as a result of the pandemic? A yes or B no. Please remember, in order to qualify for your CPE Certificate, you will need to remain logged in for at least 50 minutes and respond to three out of the four polling questions.

And as Denise mentioned, this is our last polling question. I'll leave the poll open for about another 30 seconds. All right. I'm still seeing some responses roll in, so I'll give it another five seconds and then I'll close the poll and share the results. All right. I am closing the poll.

Denisse Moderski: Right. And again, this is in line to why we have seen-- Okay. All right. Moving on to telecommuting and COVID 19 considerations. I think this has been a big issue lately that we have seen where due to the pandemic, we had companies close their offices and people working remotely.

The question was, does remote work, does it create any nexus, any tax implications to the businesses? So we have seen a number of states that came out with guidance in 2020, and some were extended to midyear of 2021, some October, 2021, where basically it was noted that if you have a teleworker work at, excuse me, in a state outside of their work office, that it will not create nexus.

By nexus, usually we're looking at, does it create a filing obligation in the state? Does the state have any authority to tax income on that company because of presence in the state? Again, California, we have Connecticut, Indiana, Maryland, Massachusetts, New Jersey, Pennsylvania. They all came out with it relief to tax payers, basically accepting them from any nexus or/and filing obligations in terms of, because of telecommuters.

And it also varies, it depends, it could be related to corporate income tax, sales tax, or withholding tax. Now, however, due to more people going back to being in office, we have seen that these exemptions have been lifted. We have a list of states here that their nexus exemptions are no longer applicable.

So what's happening is that we do have a teleworker in some of these jurisdictions, you may no longer recover under this exemption. Therefore, you may have nexus and a filing obligation. And again, it varies on a state by state basis, but it is something to be mindful and cautious as going into next year, you may have filings in other states that you may not be aware of, but because you have a physical presence, there may be some exposure.

Also, what we have seen is we have companies that are hiring people on a permanent basis from different states. Now, I just want to make that clear that, that's a little different than under temporary arrangement due to COVID. Because if you have employees working permanently for another state, it may create nexus because now you have physical presence in state where people are performing services, they're doing business on behalf of the company.

So that's a little different than the telecommuter working because of the pandemic. And there are other questions that come into play also, whether having these folks in other states, would it create a payroll obligation? Does the company need to register with the state because they're doing business.

Some of them will be for some of them won't, it really depends. But in California, for example, if you have employees working more than a certain amount of days, you may be required to register because the employees' performance services in the state, and it may create a filing obligation.

Going a little further into how this impacts your calculation, the business apportionment. We're looking also the payroll factor, we have some states where you compute your income based on your apportionment, based on a three factor.

Most of them are single sale, but there are some, they use three factors. So now, because you have people in certain states, it may increase your apportionment and that's something to be mindful of.

Sourcing of revenue. And so what we're looking at here is there are two methods of sourcing revenue, right? We have a cost of performance versus a market sourcing. When we're talking about cost of performance, we're really looking at, is there anyone physically present in the state, are they performance services in state.

For example, for a partnership in New York state, New York city, you source it based on where the performance is, the services perform versus the market based source, and you're looking at, for example, where your customer, your marketplace is, instead of where your performing the service.

So now with telecommuting what we have seen is that because, for example, state like New Jersey for partnership purposes, now you have people working in the state of New Jersey. You are going to have some receipts assigned to New Jersey, even though the company will be in New York. But because you have someone working in New Jersey, you may have some of those fees may need to assigned to New Jersey because of the apportionment source and rules.

Other questions and other things to keep in mind is commercial domicile. Now that we have teleworkers work in front, all across the country, where is the company commercially domicile? Could that potentially change where the company that was previously headquarter in New York, but now they're working remotely from different places.

How does that determine the domicile of the company? Could that potentially change and create a registration in another state where you may have now, where you may need to create a new file and how does this impact your domicile?

All the non-tax considerations, does an employer reduce the salary of employees who move to states? I mean, we have seen these issues with Google, where you have now employees working for in different states, how does they impact their salary now because you're moving into lower tax jurisdictions, could that potentially impact your salary?

In the past, it was different, we had all people working in the office and their salary was based on cost of living of the state. But now if we have telecommuters working from different states, how can that impact their salary?

And last but not least, New York city. We do want to spend a few minutes to talk about New York city, UBT, because this has been a big one, especially over the past two years with the pandemic, for New York city purposes in partnerships, management companies, the way they sourced the receipts was based on where the services are performed.

And for New York city purposes, they look at where the number of days spent in New York city. With the telecommuting and COVID, you have people working remotely, so how does that impact your business? Well previously, where you had everyone working in New York city, you had probably 100% of your apportionment all sourced in New York city.

Now with the pandemic, what we have seen is opportunities for companies to reduce and lower that apportionment, instead of having 100%, it could be 50%, it could be 40%. It really depends on how many people are physically performing and working in New York city.

And again, New York city has not come out with a guidance or any strict checklist of what steps companies can do to prove this, but what we recommend is definitely have a calendar, a way to know when people are physically working in the office, whether it's time sheets or a questionnaire, a survey, or on the computers, or an app to track the amount of time spend in New York city, when employees are physically in the office.

So we have seen a lot of opportunities in this area for UBT, where we were able to help clients save on some of their UBT. And again, with New York city UBT, this is an entity level tax of 4% on a partnership, LLC. So this is something to keep in mind as going into year end, because if we have companies where they're permanently going to have employees working outside of New York city, there's room for planning and reducing their apportionment exposure. And I believe that's it on a state and local tax. So we have a couple minutes left for any questions.

(silence)

Irina Kimelfeld: I think there's some questions in the Q&A, Denise here for you.
Denisse Moderski: Okay. Let me just go through them.
Irina Kimelfeld: If you're able to see them.
Denisse Moderski: So, there's a question on an S corporation to how to notify to California to pay corporate taxes in lieu of personal taxes. Now, just want to make that clear, the pass through entity tax election it's eligible for partnerships, LLC treated as partnership, and S corporations.

So if you have an S corporation that is going to make the election, they have to make estimated payments in order to qualify, and it needs to be paid by March, 15, there is no extension considered for purposes of making the estimated payments.

There are some forms that will be released by the state as to where you filed the pass through entity tax return, how you issue the credit to the shareholders. But that's the way you make the election for California. Another question is, do we come across hedge funds where they elect entry level state tax deduction?

So for New York, I'm going to use New York as an example is if you have a hedge fund and they have article 22 partners, and by article 22 partners, we're talking about individual stage trust, and they have a found requirement in New York. You can't make the election, you make the entity at the entity level tax and it gets passed on to the investors.

Irina Kimelfeld: Right. So, I mean, there's some-- So for a hedge funds for the actual fund. So there's a couple of issues. One is, the taxes that are deductible have to be trader business taxes. So we think that if it's a trader fund, it could work, so this is a federal provision that allows a deduction for trader business, state and local taxes.

But then also, you need to have, or state taxes really. So, you need to have state source income, the way the calculation would work as New York taxes on its New York taxes, right? So, in hedge funds, we typically see that you don't have a lot of state source income.

Denisse Moderski: Unless you have resident partners, but if you have the resident partners don't have --
Irina Kimelfeld: So, I think there's still a little bit of a question on this trader business and whether trader hedge funds that we view them as trader funds, trader business for purposes of the other deductions, whether those state and local taxes would be considered trader or business taxes. But we've definitely considered making elections on the trader funds.
Denisse Moderski: Thank you, Irina. Yeah, and I just want to make it clear that for state purposes, you may be able to make the election. The question is whether that state tax deduction will be allowed or could it be challenged by the IRS for federal purposes.
Irina Kimelfeld: And I think there another point that somebody's making is, to what extent that would affect the performance, right? Because these state and local taxes become an entity level tax. And so with that, what does that do to the carry?
Denisse Moderski: I just want to address one more question. So I want to ask about California forms to be filed by 12,31,2021. There is no form to be filled out, but in order to make the election for 2021, an estimated payment needs to be made by-- Well for 2021, there are no estimates required, there are voluntary, but it needs to be made by March 15th, of 2022.

And tax return needs to be filed in a timely fashion, either by March, 15, or by the extended due date of October 15. The state will release more forms, they haven't yet, but there will be three new four fleets by the state or where you file the past through entity tax and how you would distribute that credit to the investors.

Irina Kimelfeld: So I think we're at time or even a few minutes after, thank you everybody for attending. To the extent your questions have not been answered, we will try to follow back up or if you have an EisnerAmper engagement team, please reach out to them and we will be happy to follow up with you that way.

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