Year-End State and Local Tax Planning

As states continue to adapt to the post-Wayfair landscape, the initial focus on establishing economic nexus thresholds has largely stabilized. With these standards now firmly in place, many jurisdictions are shifting their attention toward expanding the sales tax base or adding other indirect taxes or fees. This includes broadening the scope of taxable items and services, particularly in areas such as software, professional services and digital advertising.

Although the U.S. Supreme Court’s decision in Wayfair specifically addressed sales tax nexus, many states have extended the concept of economic nexus to include income tax obligations as well.

While a business may establish economic nexus in a given state, strategic planning – particularly through a thorough sales sourcing analysis – can play a critical role in mitigating state income tax liabilities. As more states transition to single-factor apportionment formulas based solely on sales and adopt market-based sourcing rules, accurately allocating sales across jurisdictions has become increasingly vital. The evolving landscape of economic nexus presents both challenges and opportunities for multistate businesses, especially as states continue to apply diverse sourcing methodologies. In response, many companies are proactively reassessing their sales sourcing approaches to ensure compliance and to optimize their state tax positions.

In today’s post-Wayfair landscape, economic nexus is no longer a temporary concern – it’s a permanent fixture in the tax environment. For multi-state businesses, sales and use tax compliance can pose a substantial financial risk if not proactively managed. Key areas such as taxability reviews, marketplace facilitator rules and exemption certificate management have become critical focal points, demanding deeper analysis and strategic oversight to ensure compliance and minimize exposure.

Companies should regularly review their sales and use tax process and procedures.

Regularly assess physical presence and economic nexus throughout the year to proactively identify jurisdictions where your business may have new or evolving sales tax collection and self-assessment obligations.

Regularly reviewing sales and use tax reserves and disclosures under ASC 450 is more than just a compliance exercise – it’s a critical component of financial risk management and strategic planning. Ensuring that potential liabilities are properly identified, assessed and disclosed helps maintain the integrity of financial statements and supports transparent, compliant reporting.

A proactive approach to evaluating tax exposures not only reduces the risk of unexpected assessments and penalties, but also prepares the organization for scrutiny during key financial events – particularly due diligence in mergers, acquisitions or financing transactions. Unrecorded or under-analyzed sales and use tax liabilities can quickly become red flags, potentially delaying deals, impacting valuations or leading to costly indemnifications.

By embedding regular tax reserve reviews into financial close processes and leveraging cross-functional collaboration between tax, finance and legal teams, companies can better manage uncertainty, demonstrate strong governance and position themselves for successful outcomes in both day-to-day operations and strategic transactions.

As the year comes to a close, it’s an ideal time for businesses to review the tax implications of any new products or service lines introduced or planned for the upcoming year. Conducting a thorough taxability analysis is essential, especially as many states continue to broaden the definitions of taxable software and digital services – including areas such as information services and data processing. Staying up to date on these evolving state tax laws helps ensure accurate compliance and reduces the risk of unexpected tax liabilities heading into the new year.

As 2025 comes to a close, we recommend conducting a comprehensive review of purchases to identify potential sales and use tax refund opportunities. This exercise can uncover significant savings and ensure compliance going forward.

Key Considerations

A business should be considering state and local income tax nexus and sales sourcing assessment if:

Several states have recently enacted corporate or personal income tax rate changes. While the majority of state statutory rate changes have lowered tax rates for individuals and businesses, California enacted the nation’s highest personal income tax rate (14.4%) and New Jersey enacted the nation’s highest corporate income tax rate (11.5%). Companies should review Deferred Tax Asset estimates to determine if state income tax rate changes will affect those calculations.

In the aftermath of Wayfair, the Multistate Tax Commission (MTC) has targeted one of the remaining legal barriers that businesses have to shield themselves from state assertions of income tax economic nexus – P.L. 86-272.

On August 4, 2021, the MTC voted to adopt a revision to its “Statement of Information” whereby a business could lose P.L. 86-272 protection solely by engaging with customers through the internet. In 2022, New York and California issued guidance stating that they were adopting the MTC’s revised Statement of Information. Currently, there are legal challenges to the adoption of the MTC guidance in both states. The taxpayer was recently successful in overturning the state’s adoption of the MTC guidance in California; however, the case was decided on procedural grounds and the court did not reach the question of whether the MTC guidance violated federal law. New York’s appellate division recently upheld the regulations adopted by New York to implement the MTC ‘s P.L. 86-272 rules. Other legal challenges are sure to follow.

Effective July 31, 2023, New Jersey adopted the MTC’s P.L. 86-272 revisions. It is expected many other states may adopt the MTC’s guidance implicitly through their MTC conformity provisions. The loss of P.L. 86-272 protection may result in additional income tax filing obligations for many businesses. The federal law known as P.L. 86-272 was passed more than 60 years ago, and it prohibits a state from imposing a net income tax on businesses that only sell tangible personal property (TPP) and whose activities in a respective state do not exceed the solicitation of orders. For many years, even preceding the Wayfair case, for income tax it has been generally accepted that economic nexus has been the law of the land unless a business was otherwise protected by limiting its activities to those outlined in P.L. 86-272.

The MTC’s Guide provides examples of when the use of an interactive website will exceed P.L. 86-272 Protection, including:

The MTC’s revised statement adoption by multiple states could result in significant income tax liabilities for many remote businesses, as many of these businesses use a website or app to interact with their customers. Even if businesses have performed a nexus or P.L. 86-272 review in the past, they should consider having such studies refreshed, considering many of the developments over the last several years. Furthermore, the state application of the MTC rules is certain to be challenged. It is important to stay abreast of developments in this area. The MTC’s guidance greatly expands the list of activities that are not protected by P.L. 86-272 and it is likely that some state courts will reject the MTC’s interpretation of the federal statute.

The OBBBA expanded the $10,000 cap on state and local taxes (SALT) to $40,000 for 2025 through 2029, subject to income phaseouts. Pass-through entity taxes (PTETs) remain viable s a workaround to mitigate the impact of the SALT deduction limitation.

Prior to making a pass-through entity election, there are several key issues that businesses need to consider:

As the economy continues to evolve, widespread remote working and state budget shortfalls have increased the focus on state and local taxes.

Although telecommuting raises many concerns, some of the central issues put into focus are:

Nexus, with respect to telecommuting, is generally straightforward. An employee’s presence in a state creates nexus unless the company is engaged in activities that are protected by P.L. 86-272. For income tax apportionment, in some states, the consequence of an employee working from a different state could affect sales sourcing, payroll and the property factor. For example, the New York City UBT (for non-corporate entities) uses cost-of performance sourcing, which can lower taxes if employees leave New York to telework in nearby states. Such sourcing is generally determined based on where the services are performed.

Payroll withholding also presents challenges. Most states source employee wages to the state where the employee performs the services; however, with “Convenience of the Employer” rules, such as those in New York, there is added complexity. These rules, some of which preceded the pandemic, essentially require non-resident wages to be sourced to the state’s office where the employee is assigned, even if the employee works remotely in another state. The New York Division of Tax Appeals recently upheld the state’s implementation of the convenience of the employer rule but there will likely be more litigation to come on this issue. This could result in double withholding requirements for the employer.

Some of the key issues impacting payroll withholding decisions include:

Employee mobility and telecommuting are here to stay, and businesses must adapt and plan for the many tax issues that arise.

Now that working from home has become more common, are you considering a move to another state? Perhaps to a low-tax or no-tax state? If so, you are not alone, and there are several things you should be considering for income tax purposes.

In order to change one’s domicile, an individual must physically move to a new jurisdiction with the concurrent intent to make the new jurisdiction their fixed and permanent home. Individuals domiciled in a state are subject to that state’s taxing authority on all their income. An individual who is required to pay tax as a nonresident in a state, even though they are domiciled elsewhere, is only subject to tax on income derived from sources originating outside his or her state of domicile (e.g., wages earned while working in a nonresident state, pass-through entity income).

Domicile is the place you regard as your permanent home – the place to which you intend to return after a period of absence (e.g., a vacation, a short-term business relocation, educational leave). As a practical matter, you can only have one domicile at any point in time, although you may have multiple residences. Once established, domicile continues until you affirmatively establish a new domicile.

Determining where an individual is domiciled requires a subjective analysis of several factors, including, but not limited to:

Additional factors demonstrating an intent to permanently move include voter registration and obtaining a driver’s license and vehicle registration in the new state. The burden of proof is upon the person asserting a change of domicile. They must maintain sufficient records to demonstrate an intention to abandon their previous domicile and establish a fixed and permanent home in a new one.

Proper planning and understanding of the residency rules in the states the taxpayer is leaving and the state they are moving to are critical for individuals contemplating a change of domicile.

Additional considerations when planning a change of domicile include:

State Tax Authorities in high-tax states are aggressively examining taxpayers’ claims that they broke their domicile and demanding substantial documentation to back up the taxpayer’s assertions. Failing to prepare for a tax examination at the outset of a move jeopardizes the ability to ultimately prevail at the audit. Failing to plan is planning to fail.

Disclaimer: No action should be taken without advice from a member of Withum’s Tax Services Team because tax law changes frequently, which can have a significant impact on this guide and your specific planning possibilities.