Service-based businesses which had a significant presence in NYC before the pandemic began, may now be able to allocate income outside the city.
As businesses are finding their employees more dispersed throughout the region and nation as a result of COVID-19, they are surprised to learn there may be significant opportunity for tax savings, including in New York City. According to Reuters, the coronavirus pandemic created a $9 billion shortfall in revenue, which has led to painful budgetary cuts across city agencies.1 Back in April, as reported by Law360, revenue from the New York City Unincorporated Business Tax (UBT), which is imposed on partnerships, LLCs, and sole proprietorships, was expected to decrease by $406M in 2021, nearly 20% lower from earlier projections.2 Much of this loss may stem from how New York City statute allocates income.
The New York City UBT subjects non-corporate entities to a 4% tax on companies that conduct business in the city, and is a considerable revenue raiser. The UBT is an entity-level tax that is imposed directly on an unincorporated business, such as a LLC, and applies regardless if its owners live outside the city. The amount of taxable income sourced to New York City is determined by using a single receipts factor allocation formula. This is computed by dividing the amount of New York City gross income by total gross income from all jurisdictions.
In determining New York City gross income, the city generally sources income from services by the place where the services are performed (the “place-of-performance method”). This is in contrast to the former provision which sourced sales based on the office which its personnel (i.e. employees, independent contractors, etc.) were situated at or connected with. Notwithstanding, there are statutory exceptions to this sourcing rule. For financial service-based businesses, such as investment advisers which derive receipts from Regulated Investment Companies (RIC); special rules require market-based type sourcing based on the location of the RIC’s shareholders. Moreover, financial service providers which are structured as broker-dealers are also required to use a market-based type sourcing rule, in effect based on the location of its customer.
Still, for most businesses subject to the NYC UBT, it’s possible there may be a position to source income to the city based on the proportion of services performed at locations within the city to outside the city. Essentially, this means that for New York City centric businesses which now have more of its employees working outside of the city, there may be a position to significantly reduce UBT taxes.
Preceding COVID-19, the amount of revenue sourced to NYC could have been substantial for businesses with significant presence in the city. With the accelerated trend of telecommuting, many employees are no longer traveling into the city and instead are telecommuting from their homes which in many instances are in the suburbs. With the reduction in the city receipts factor, this may translate to less taxable income being allocated to the city, resulting in a lower UBT liability for the year.
contact a member of Withum’s State and Local Tax Team.
Planning in These Uncertain Times
Despite the disruption caused by the pandemic, New York City has not offered any formal guidance as to how temporary teleworking employees affect the UBT tax. As such, there may be potential risks. This lack of clarity in addition to a number of city provisions that can be open to interpretation, makes it imperative that proactive planning and analysis is carried out as each business has its own set of facts and circumstances.
A number of planning considerations must be taken into account for such analysis; such as does the business have a regular place of business outside of the city; regulations in applying and computing place of performance sourcing, including the payroll factor as a proxy, or time spent in/outside the city; to HR policies in ensuring adequate records can support employee work locations. With the burden of proof on the UBT taxpayer, businesses need to consider how to track and substantiate employee work locations in the event of an audit.
New York City has in recent years enacted significant provisions, departing from prior allocation methodologies. This has impacted various sourcing provisions. However, in some cases the current regulations have not been amended, and may conflict with current statute and interpretation. Considering the unexpected COVID-19 pandemic, and the impact of the pandemic on state and local government budgets, it is uncertain if NYC will take an aggressive position on a sourcing approach that further jeopardizes the budget. For instance, if the city views that the receipts does not result in proper reflection of the taxpayer’s business income, the Department of Finance may be authorized to make adjustments under “alternative apportionment” provisions. Likewise, a business may be able to proactively request alternative apportionment allocations. As such, it is vital that UBT planning specific to the business is considered, since some uncertainty remains if the city will contest these sourcing positions.
What Does This Mean for You and Your Business?
Businesses planning on revising their sourcing methodologies should consider how statute and case law may impact them. States and localities continue to face significant budget shortfalls due to COVID-19, and it is expected they will be aggressive with audits. As such, it is important for businesses to holistically review their state and local tax positions. Withum’s State and Local Tax Group can help businesses navigate through these uncertain times.
Authors: Jason Rosenberg, CPA, CGMA, EA, MST | [email protected] and Adam Caputo, CPA, MBA | [email protected]
 Reuters; New York City passes budget with police cuts, but some say it’s not enough (June 30, 2020)
 Law360; NYC Faces $9.7B Tax Shortfall From Virus, Budget Office Says (April 15, 2020)