Tax Changes in Tennessee—Many Effective This Year—Expand Nexus and Implement Market Sourcing

Tax changes in Tennessee House Bill (HB) 644, known as the Revenue Modernization Act (RMA), are effective in 2016 and may impact your 2016 tax return and beyond.

Described by the governor’s office as a way to benefit local businesses and require out-of-state companies to pay taxes in Tennessee, the RMA both expands nexus, including specified activities and economic nexus, and implements market sourcing as opposed to cost-of-performance sourcing of revenue.

The different effective dates for nexus and market sourcing, coupled with Tennessee’s three-prong excise (net income), franchise (net worth), and business tax (gross receipts) structure, could result in more complicated tax return preparation and possibly higher Tennessee taxes.

Expanded Nexus Provisions

The RMA added Tennessee Code Section 67-4-2004(49). Under this new section of the code, a taxpayer has substantial nexus in the state if the taxpayer:

  • Is organized or commercially domiciled in Tennessee
  • Owns or uses its capital in Tennessee
  • Has systematic and continuous business activity in Tennessee that’s produced gross receipts attributable to Tennessee customers
  • Licenses intangible property for use by another party and derives income from that use in Tennessee
  • Establishes “bright-line” presence in Tennessee, which occurs when one of the following standards applies:
    • Total Tennessee receipts exceed the lesser of $500,000 or 25 percent of total receipts.
    • The average value of owned and rented property exceeds the lesser of $50,000 or 25 percent of total property.
    • Tennessee payroll exceeds the lesser of $50,000 or total payroll.

Unlike the nexus provisions of some other states, the Tennessee bright-line presence standard is in addition to the other substantial nexus standards. A taxpayer need meet only one standard to have substantial nexus, and therefore filing responsibilities, in Tennessee.

The expanded nexus provisions are effective for tax years beginning on or after January 1, 2016.

Cost-of-Performance Sourcing for Sales Is Eliminated

The RMA also modified Tennessee Code Section 67-4-2012(i). The revised code eliminates cost-of-performance sourcing for sales of other than tangible personal property. These sales must now be included in the Tennessee revenue if the “market for the sale” is in Tennessee.

This provision is effective for tax years beginning on or after July 1, 2016.

Taxpayers with tax years beginning between January 1, 2016, and June 30, 2016, must apply the revised nexus standards with cost-of-performance sourcing. For tax years beginning on or after July 1, 2016, taxpayers apply the revised nexus standards with market sourcing.

Excise and Franchise Taxes Affected

The additions and revisions to the Tennessee code significantly impact both excise and franchise taxes. Taxpayers that may have taken the position that they didn’t have nexus in previous years may now have nexus for both taxes. This is especially important as Public Law (PL) 86-272 provides no protection from net worth taxes. A taxpayer with substantial nexus must include Tennessee-destination sales in the sales factor numerator for calculating the Tennessee franchise tax, even if these receipts would be excluded from the excise tax sales factor under PL 86-272. The Tennessee franchise tax rate is 25 cents per $100 of apportioned net worth or $2,500 per $1 million.

Tennessee Business Tax

Tennessee imposes an additional tax on businesses that’s sometimes overlooked. The Tennessee business tax is imposed on gross receipts of a taxable business. Limited deductions are available for certain items such as bad debts and discounts. The tax rate varies from 0.02 percent to 0.3 percent, based on the business classification. Certain credits, such as a credit for taxes paid on personal property, are allowed against the Tennessee business tax, although several limitations apply. Additionally, certain businesses are exempt.

The expanded nexus provisions and revised sourcing rules apply to the Tennessee business tax as well as the excise and franchise taxes. Tennessee cities and counties are also allowed to impose the business tax. If a taxpayer has a physical presence in a Tennessee city or county with a business tax, local business taxes will be due as well as the state business tax.

We're Here to Help

If you have questions about how these new Tennessee tax laws could affect your business or the various effective dates, contact your Moss Adams professional or email statetax@mossadams.com.