As the deadline approaches to file a Pennsylvania corporate net income tax refund claim for the 2019 tax year (August 14 for calendar-year taxpayers), and the deadline approaches to file returns on extension for the 2022 tax year (November 15 for calendar-year taxpayers), companies should consider filing refund claims or taking return positions based on: (1) reducing their federal taxable income starting point for computing their Pennsylvania tax base, and (2) reducing their apportionment by including a property factor or a payroll factor, or both. We are making available a model refund claim that you can use to file a petition online to protect your rights based on these issues.
Tax Base
- Immediately deduct research expenses notwithstanding mandatory federal amortization: Beginning in 2022, taxpayers are generally required amortize research and experimental expenses over 5 or 15 years for federal income tax purposes.1 Taxpayers may assume that means they must likewise amortize such expenses for Pennsylvania purposes, but that may be incorrect. Recent Pennsylvania caselaw developments may mean that the state’s automatic conformity to mandatory federal amortization is unlawful. Based on those developments, a position exists to immediately deduct research and experimental expenses in Pennsylvania, notwithstanding mandatory federal amortization. Consider this issue when preparing your 2022 Pennsylvania return.
Immediately deducting these expenses would create a permanent tax benefit because it would accelerate deductions into higher-tax-rate years. Pennsylvania’s current 9.99% tax rate is set to gradually decrease until it reaches 4.99% in 2031. Accordingly, accelerating deductions—or claiming PA super-depreciation (see our prior alert)—would create a permanent tax benefit. - FDII deduction allowed in Pennsylvania: Under Pennsylvania law, federal taxable income is the starting point for computing the corporate net income tax, and there is no add-back or disallowance for the deduction for foreign-derived intangible income (“FDII”).2 Therefore, if a taxpayer claimed a FDII deduction for federal income tax purposes, that deduction should be incorporated into its Pennsylvania corporate net income tax base. However, taxpayers that followed the Department’s tax return instructions likely didn’t get the benefit of the FDII deduction for Pennsylvania purposes. The Department’s position is that the FDII deduction is not allowed for Pennsylvania purposes because it is a “special deduction” claimed after Line 28 on the federal income tax return.3 But that position is inconsistent with Pennsylvania statute, which states that federal taxable income (which is the amount reported on Line 30 of the federal income tax return and reflects the FDII deduction) is the starting point. Any taxpayer that claimed the FDII deduction on their federal return should consider this issue when preparing its 2022 Pennsylvania return. And if you had FDII that you didn’t deduct for Pennsylvania purposes in prior years, you should consider filing a refund claim.
Taxpayers may also be able to take the position that they are entitled to calculate their FDII without regard to the taxable income limitation of IRC § 250(a)(2).