NY’s Tax Jurisdiction

Last week we considered New York’s “statutory residence” rule pursuant to which an individual domiciled outside of New York may nevertheless be taxed by New York as to all of their income for a taxable year – including their business income – regardless of its source, by virtue of maintaining a permanent place of abode in the State for substantially all of the taxable year, and spending more than 183 days of the taxable year in New York.

Of course, New York’s taxing jurisdiction extends beyond those individuals who are domiciled or resident in New York, and covers nonresidents who have New York source income. Thus, a nonresident will be subject to New York personal income tax with respect to their income from:

  • real or tangible personal property located in the State, (including certain gains or losses from the sale or exchange of an interest in an entity that owns real property in New York State);
  • services performed in New York;
  • a business, trade, profession, or occupation carried on in New York;
  • their distributive share of New York partnership income or gain;
  • any income received related to a business, trade, profession, or occupation previously carried on in the State, including, but not limited to, covenants not to compete and termination agreements; and
  • a New York S corporation in which they are a shareholder, including, for example, any gain recognized on the deemed asset sale for federal income tax purposes where the S corporation has made an election under IRC section 338(h)(10).

Although the foregoing list encompasses a great many items of income, there are limits to the State’s reach; for example, New York income does not include a nonresident’s income:

  • from interest, dividends, or gains from the sale or exchange of intangible personal property, unless they are part of the income they received from carrying on a business, trade, profession, or occupation in New York State; and
  • as a shareholder of a corporation that is a New York C corporation.

A recent series of decisions, culminating in an opinion from the Third Department, considered one taxpayer’s futile attempt to fit within, or expand upon, these excluded items.

Income from “Intangibles”?

Spouse was a member of LLC, a company that was treated as a partnership for income tax purposes and that did business in New York. He assigned his entire 18.75% ownership interest in LLC to Taxpayer. Spouse and Taxpayer were residents of New Jersey[ii] during the periods at issue.

This assignment was challenged by other members of LLC, which resulted in litigation, and in a ruling that the assignment was valid.

Litigation and Settlement

Taxpayer then commenced an action against LLC seeking a valuation of her interest in LLC, including her share of its profits. After receiving an accounting report from a court-appointed referee, the trial court determined that Taxpayer was entitled to an award of approximately $600,000 for her ownership interest in LLC and a profit distribution of approximately $1 million, together with both pre- and post-judgment interest.

Shortly thereafter, Taxpayer settled her claim against LLC for just over $2 million, and the parties agreed that approximately $600,000 of that amount would be allocated as payment for her interest in LLC and “not as ordinary income.”  

Tax Audit and Aftermath

Taxpayer and Spouse, being New Jersey residents,[iii] reported a capital gain of almost $600,000 and “other income” in the amount of almost $1.5 million on their federal return (IRS Form 1040), but none of the settlement was allocated to New York on their nonresident return (NY Form IT-203).

An audit by New York’s Department of Taxation and Finance ensued, and a notice of deficiency was issued assessing taxes and interest based on the $1.5 million that Taxpayer had identified as “other income.” Taxpayer and Spouse challenged the notice, but it was upheld by an Administrative Law Judge who noted that the litigation commenced by Taxpayer sought, among other things, her distributive share of LLC’s profits as the assignee of Spouse’s membership interest. The ALJ’s finding was, in turn, upheld by the Tax Appeals Tribunal.

Taxpayer brought an Article 78 proceeding in the Appellate Division of the Third Department to challenge the Tribunal’s decision upholding the deficiency.[iv]

The crux of Taxpayer’s challenge was that the “other income” was not taxable to them as nonresidents because it was a “return on an intangible asset” and not a distributive share of profits from a partnership doing business in New York.

Taxpayer’s Appeal

The Court began by explaining that New York may tax a nonresident only on income that is “derived from or connected with New York sources.”[v] New York source income, the Court continued, includes a taxpayer’s “distributive share of partnership income, gain, loss and deduction.”

Further, the Court continued, “only the portion [of source income] derived from or connected with New York sources of such partner’s distributive share of items of partnership income . . . entering into [her] federal adjusted gross income”. . . is included as the source income of a partner or limited liability company member.[vi] The Court noted that this includes income “derived from or connected with . . . a business . . . carried on in this state.”[vii]

However, Taxpayer contended that the Tribunal was incorrect in upholding the assessment because she was neither a “partner” nor a member of LLC, and she did not receive a distributive share of profits from LLC. According to Taxpayer, her assignee interest did not allow her to participate in the management and affairs of LLC, or to exercise any rights or powers of a member. Thus, Taxpayer argued, she should not be subject to tax as a member of LLC.

Taxpayer also asserted that her assignee interest in LLC was an intangible asset, and that income from such an asset should not be considered New York source income.

The Court disagreed, stating that the “membership interest” assigned to Taxpayer included “the member’s right to a share of the profits and losses of the [LLC]”. As the assignee of a membership interest, Taxpayer was not automatically entitled to participate in the management or affairs of LLC, but she was entitled “to receive . . . the distributions and allocations of profits and losses to which the assignor would be entitled.”[viii] Considering these provisions, the fact that Taxpayer was not a member of LLC had no bearing on whether the profit distribution to her was taxable. Further, it was undisputed that LLC “carried on” business in New York.

Origin of the Claim?

According to the Court, to determine the taxable status of a sum reached by settlement of the litigating parties, it is generally necessary to consider “[i]n lieu of what were the damages awarded?”[ix] The record showed that the settlement payment was made in consideration of Taxpayer withdrawing the causes of action in her complaint seeking her share of LLC profits. The parties, through counsel, expressly allocated approximately $600,000 of the total settlement as payment for Taxpayer’s ownership interest in LLC and “not as ordinary income,” without further characterization.

Consistently therewith, Taxpayer and Spouse reported the balance of almost $1.5 million as “other income” on their tax returns.[x] Pointing to the award in the underlying litigation, they also claimed that a portion of the settlement was attributed to interest and, therefore, not taxable in New York.

The Court pointed out that while interest income is generally not taxable as nonresident personal income, it was Taxpayer’s burden to establish that the assessment was erroneous. However, no portion of the settlement payment was expressly attributed to interest.

The Court then observed that the litigation was resolved by settlement, not court order. Given this structure, the Court continued, the Tribunal reasonably concluded that $1.5 million of the settlement was for lost profits. As such, the Court declined to disturb the Tribunal’s finding in this regard.

Having found that the Tribunal’s determination had a rational basis and was consistent with the statutory language, and that Taxpayer’s interpretation was not the “only logical construction” of the relevant provisions,[xi] the Court decided to defer to the Tribunal’s construction, and concluded that the determination by the Department of Taxation to issue the notice of deficiency was reasonable and supported by substantial evidence.

“Other Income”

Did Taxpayer actually believe that the income at issue was not taxable to a nonresident? The settlement payment was clearly attributable to Taxpayer’s interest in LLC’s profits, which were generated by the business that LLC conducted in New York. Accordingly, the “other income” was derived from New York sources and, as such, was taxable.

Yet Taxpayer stuck by her position through the audit, through the proceeding before the ALJ, through the Tax Appeals Tribunal, and through the Appellate Division.[xii]

The fact that the income at issue was not specifically addressed in the settlement, that is was paid “in exchange for” Taxpayer’s claims for her share of LLC profits, that Taxpayer labeled it as “other income” on her tax returns, and that she treated it as ordinary income for federal purposes, sealed the matter and forced Taxpayer to defend her position with fairly desperate arguments, like the one based upon her assignee status, described above.

Now, don’t get me wrong. There are times when perseverance in the face of many challenges may be commendable. There are also times, however, when advisers have to be blunt with their clients, when they cannot continue to stoke their hopes for a miracle, when no amount of legal creativity will save the day, when they simply have to throw in the proverbial towel.[xiii]

The moment for structuring a plausible argument for not taxing the settlement proceeds began when Taxpayer filed her first cause of action; it passed when the settlement was executed. Having failed to establish a basis for exclusion of the proceeds at that time, Taxpayer should have saved herself the additional interest, penalties and legal fees; she should have known “when to walk away.”[xiv]

[i] Apologies to Kenny Rogers, The Gambler.

[ii] I am told that people who live in New Jersey or who come from New Jersey are called New Jerseyites or New Jerseyans.

[iii] You may recall that last week’s post began with a review of the Tax Foundation’s State Business Tax Climate Index. You may also recall that NY did not fare too well with respect to individual income taxes, ranking 48th in the nation. Well, here’s some consolation: New Jersey ranked 50th.

[iv] Decisions rendered by the Tribunal are final and binding on the Department of Taxation and Finance, i.e., there is no appeal to the courts. Taxpayers who are not satisfied with the decision of the Tribunal have the right to appeal the Tribunal’s decision by instituting a proceeding pursuant to Article 78 of the Civil Practice Law and Rules to the Appellate Division Third Department of the State Supreme Court.

[v] Tax Law Sec. 631. https://codes.findlaw.com/ny/tax-law/tax-sect-631.html

[vi] Tax Law Sec. 632(a). https://codes.findlaw.com/ny/tax-law/tax-sect-632.html

[vii] Tax Law § 631(b)(1)(B). https://codes.findlaw.com/ny/tax-law/tax-sect-631.html

[viii] NY Limited Liability Company Law § 603. https://codes.findlaw.com/ny/limited-liability-company-law/llc-sect-603.html

[ix] What federal tax jurisprudence refers to as “the origin of the claim.”

[x] Indeed, they reported this amount as ordinary income on their federal tax return.

[xi] The Court was being kind.

[xii] “Please sir, may I have another?”

[xiii] Remember what happened to Apollo Creed in Rocky IV when the eponymous Rocky hesitated?

[xiv] As the refrain says:

You’ve got to know when to hold ’em
Know when to fold ’em
Know when to walk away
And know when to run


Welcome (?) to NY

The Tax Foundation recently issued its annual State Business Tax Climate Index. The 2019 Index compares the fifty States across five major areas of taxation: corporate taxes, individual income taxes, sales taxes, unemployment insurance taxes, and property taxes; it then adds the results to generate a final, overall ranking. According to the Index, the individual income tax component accounts for approximately 30% of a State’s total score.

After finding itself in 49th place during 2016, 2017, and 2018, it appears that New York is making a move to improve its standing in the business community – the 2019 Index has New York ranked in – patience, wait for it, wait for it – 48th place with respect to individual income taxes, and 48th overall. Woo hoo! Way to go team.[i]

“You Can Never Leave” [ii]

Of course, New York’s high personal income, estate, sales and property tax rates are all too familiar to those who reside, or used to reside, in the State. However, the State’s appetite for challenging a former resident’s assertion of a change of domicile is notorious, as is its penchant for taxing certain nondomiciliaries as so-called “statutory residents.”

The anxiety that this engenders among many informed taxpayers is understandable,[iii] though it may push some to borderline paranoia – or is it? – as illustrated by a recent advisory opinion issued by the Office of Counsel for New York’s Department of Taxation and Finance.[iv]

“Where [You] Lay [Your] Head is Home?” [v]  Hopefully Not?

Taxpayer was domiciled in Washington, D.C. He was an executive with an investment management firm that maintained New York offices. Taxpayer was responsible for overseeing the firm’s daily trading activity for several funds that traded in domestic and foreign markets. He was required to work during the night and consult with the firm’s traders during overseas trading hours. Because of his work duties, the firm allowed him to stay overnight in his New York office, but only when the markets in which the firm traded were open. Otherwise, Taxpayer was required to vacate the office at the end of the work day. The firm advised him in writing of these restrictions, noting that overnight stays were limited to those nights needed for work purposes, and that the office building was neither zoned nor insured for residential use.

Taxpayer typically travelled from Washington to the firm’s New York office on Monday mornings, stayed in New York on Monday, Tuesday and Wednesday nights, and returned to Washington on Thursday evenings.[vi] He did not own or rent any abode in New York. When Taxpayer was in New York overnight, he slept on a “murphy bed” in the office. The office was approximately 330 square feet[vii] and did not include any cooking facilities, bathing facilities, or a separate bathroom within its four walls. However, Taxpayer had access to common restrooms and an on-site gymnasium with showering facilities, both of which were available to all firm employees. In addition, the firm’s space had a kitchen area; however, the kitchen was intended for use by the firm’s kitchen staff and not for employees’ personal use. When taxpayer was in New York, he ordered meals from local restaurants and did not use cooking facilities in the building.[viii] Taxpayer was not required to provide any consideration, contribution, or reimbursement to the firm for the sleeping arrangement. He was prohibited from having overnight guests. Also, Taxpayer did not receive any personal mail at the office. He did maintain a small closet of work clothes in the office, along with some toiletries, but otherwise maintained his personal effects in Washington.

The Department’s Analysis

An individual is a resident of New York for a taxable year if such individual maintains a permanent place of abode in New York for substantially all of the taxable year and spends more than 183 days of the taxable year in the State.[ix]

It is not necessary that the individual actually stayed at, or even visited, the permanent place of abode for more than 183 days during the taxable year; it is only necessary that the individual could have done so while they were spending time in New York.

Thus, an individual who is domiciled in New Jersey, who owns a small studio pied-a-terre on the Upper West Side of Manhattan that they use occasionally on a Friday or Saturday, and who commutes to work Downtown on weekdays, is a statutory resident of both New York State and New York City.[x]

The term “permanent place of abode” means a dwelling place of a permanent nature maintained by an individual, whether or not owned by such individual.[xi] In general, a construction that does not contain facilities ordinarily found in a dwelling, such as facilities for cooking, bathing etc., will not be considered a permanent place of abode for tax purposes.

In order to qualify as a permanent place of abode, “there must be some basis to conclude that a dwelling is utilized as the taxpayer’s residence.”[xii] Case law and the Department’s Income Tax Nonresident Audit Guidelines (June 2014) have identified certain factors to consider when determining whether a dwelling satisfies the requisite relationship. These factors include, but are not limited to, the physical attributes of the dwelling and the relationship of the individual to the dwelling, such as ownership, property rights, maintenance, the relationship to co-habitants, personal items, and access.

Whether or not an individual has free and continuous access to a place of abode is a primary consideration in determining whether they maintain a permanent place of abode. For example, an individual maintains a permanent place of abode when they have an unrestricted right to use a room (despite the fact that they have no legal right to the property), contribute to the household expenses, have exclusive use of the room, provide their own furnishings and personal effects, regularly use the residence for a long-standing period of time to access their full-time job, and have unlimited access to the room. However, an individual does not maintain a permanent place of abode where they have intermittent access to an apartment rented and maintained by another individual, cannot access the apartment without prior notice, do not maintain clothing, personal articles or furniture in the apartment, do not have a dedicated room to which they have free and continuous access, do not use the residence for daily attendance at their full-time job, and do not share in the expenses of maintaining the apartment.

All Clear

According to the Department, the facts and circumstances in the present case indicated that Taxpayer’s arrangement did not provide unfettered access to a dwelling. His use of the office space was restricted to work nights when overseas markets were open and Taxpayer was required by his position to consult with firm traders of those markets. Furthermore, Taxpayer was prohibited from staying at the office overnight except on those nights when specifically allowed or required.

In addition to the absence of unfettered access, the Department found that Taxpayer’s arrangement lacked other necessary characteristics to be considered a permanent place of abode; these factors included the absence of bathing or kitchen facilities in the office that are ordinarily found in a dwelling, as well as other physical attributes of an abode.

Other relevant factors included the fact that: the building was not permitted by zoning laws to be used as a residence; Taxpayer did not contribute any money or other consideration to maintain the dwelling; the personal items kept in the office generally were work clothes; Taxpayer did not use the office address on any registrations, such as a driver’s license, voter registration, car registration, etc.; and he did not receive personal mail or maintain any other personal items at his office.

Considering the foregoing factors, the Department concluded that Taxpayer’s office did not constitute a permanent place of abode; consequently, the Taxpayer’s days spent in New York would not result in his being treated as a statutory resident.


I questioned earlier whether the Taxpayer was crazy to have requested the foregoing ruling. I don’t think so.

Some of you may be thinking, “C’mon Lou, the guy slept in a murphy bed in his office. He had no expectation of privacy there. He couldn’t just walk around in his skivvies, and isn’t that the ultimate indication of a place of abode? Oh, and by the way, many of us keep extra clothes in the office[xiii], plus a toothbrush; some of us have a refrigerator or microwave.[xiv] Don’t some firms provide showers for their employees? How can the State ever claim that this guy maintained a permanent place of abode in New York?”

To which I respond, “Why, then, did the Department feel compelled to go through the foregoing analysis? Hmm? Why bother with the exercise of considering the absence of a bathroom or of kitchen facilities within the office itself?[xv] Or the fact that Taxpayer didn’t pay his employer for the use of his office? Seriously? And why would a resident of Washington, D.C. include his New York office address on his license or registration?”

Indeed, couldn’t the Department have simply stated – relying upon the decision of the Court of Appeals in Gaied – that Taxpayer had no “residential interest” in his office – period, case closed?

Clearly, the Department decided not to go in that direction because it believed that Taxpayer did utilize his office as a residence – there was a reason that Taxpayer felt compelled to request this ruling in the first place. Thus, the Department had to establish that this particular office, in the circumstances described above, was not a permanent place of abode.

With that, did the Department leave open the possibility that a slightly larger office (say, the size of a small studio, perhaps with its own bathroom, a murphy bed or pull-out couch – maybe even a wet bar[xvi]) may constitute a permanent place of abode? And might the occupant of such an office – who is an owner of the tenant business that occupies the space – have a “residential interest” therein, such that they may be treated as a statutory resident notwithstanding that they commute to their domicile almost every night?

I don’t like it.

[i] “Every journey begins with a single step.” Lao Tsu.

[ii] Apologies to The Eagles. Speaking of California, its 2019 Index overall ranking is 49th.

[iii] Ignorance may be bliss, but I hate surprises.

[iv] An advisory opinion is issued at the request of a taxpayer – thus my statement about paranoia, or not. The opinion is limited to its facts, and is binding on the State only with respect to the taxpayer to whom it is issued.

[v] Apologies to Metallica (“Where I Lay My Head is Home”). I often answer my office phone with “Vlahos residence,” and it’s not entirely facetious.

[vi] Thus, he was “present” in New York four days per week.

[vii] There are many studios of this size in downtown Manhattan.

[viii] My kinda guy.

[ix] N.Y. Tax Law Sec. 605(b)(1)(B). This is referred to as “statutory residence,” as distinguished from “domicile,” which involves a much more subjective determination based upon the taxpayer’s intent or the objective manifestations of such intent. Under either characterization, the taxpayer’s worldwide income would be subject to New York’s personal income tax.

[x] And is subject to State and City income taxes at 8.82% and 3.876%, respectively.

[xi] 20 NYCRR Sec. 105.20(e)(1).

[xii] Matter of Gaied v. Tax Appeals Trib., 22 N.Y.3d 592, 594 (2014). It’s unfortunate that the State pays lip service to the holding in Gaied but practically limits the application of the decision to its facts.

[xiii] In today’s “dress-down” business environment, how does one distinguish between work and non-work clothes?

[xiv] That is neither an admission nor a Christmas wish list – I’m simply giving an example.

[xv] Does the Department realize that there are still a few boarding houses in Manhattan? Yes, rooms without bathrooms, and where residents eat in a common area. Would anyone seriously claim that these are not “permanent places of abode?”

[xvi] A guy can dream, can’t he?

“Leaving” the Business

There is a common theme that runs through the history of most closely held businesses. It begins with a motivated, diligent, and independent individual who is not afraid to take charge and to make things happen. Add a bit of luck to the mix, plus the support and guidance of family, friends and mentors, and the business may grow and thrive. The years pass and, at some point, the owner may decide that they are ready to begin the next stage of their life.

In many cases, that next stage is retirement – the owner sells their business and rides off into the sunset.

For some owners, however, the next stage looks more like a form of quasi-retirement, where they step back from the day-to-day management and operation of their business – turning this function over to a family member or a trusted employee – and become a passive investor. This “conversion” may be accompanied by a transfer of some equity in the business to the owner’s anointed successor.

Alternatively, it may mean selling all or part of the business and starting another. The new business may be a variant on the old one, though on a smaller scale; it may be something entirely new; or it may be one that does not require as much hands-on involvement.

For many business owners who reside in New York, this quasi-retirement is often coupled with a change in residence, usually to a warmer, less expensive, and less taxing environment, like Florida.

A quasi-retired business owner who decides to make such a move has to recognize that, at some point, they may be required to convince the New York State Department of Taxation and Finance that they have established Florida as their new domicile.


Under New York’s Tax Law, an individual’s “domicile” is defined as the place the individual intends to be their permanent home. It is a subjective inquiry because it goes to one’s state of mind.

Once an individual’s New York domicile has been established, it continues until they abandon it and move to a new location with the bona fide intention of making their permanent home there.

Whether or not an individual’s domicile has been replaced by another depends on an evaluation of their circumstances.  According to the State, certain “primary” factors must be considered in determining the individual’s intent as to domicile – these factors are viewed as objective manifestations of such intent.

Each primary factor must be analyzed to determine if it points toward proving a New York or other domicile.  In conducting this analysis, an individual’s New York ties must be explored in relationship to the individual’s connection to the new domicile claimed.  Each factor is weighed separately, and then collectively.

The primary factors are as follows: (i) the individual’s use and maintenance of a New York residence, (ii) their active business involvement, (iii) where they spend time during the year, (iv) the location of items which they hold near and dear, and (v) the location of family connections.

The evidence required to support a change of domicile must be “clear and convincing.”  Thus, a taxpayer who has been historically domiciled in New York, and who is claiming to have changed their domicile, must be able to support their intention with unequivocal acts.

This is where the nature of the business owner’s continuing connection to their New York business – when weighed against their connection to any business activity in which they are already engaged in Florida, or which they decide to undertake after moving to Florida – may put them at a disadvantage in proving the abandonment of their New York home, as was demonstrated in the decision described below.

Audit of Nonresident Return

Like many others, Taxpayer immigrated to New York and established a successful business. Taxpayer started his business with a single retail location in New York. He later opened additional locations, both in New York and in Florida. Building upon the success of, and parallel to, his retail business, Taxpayer also developed extensive real estate holdings by investing in New York and Florida rental real estate.

Taxpayer and his spouse jointly filed New York State and City resident income tax returns up until the tax years under audit (the “Audit Years”). For both those years, Taxpayer filed a New York nonresident income tax return, claiming the filing status of married but filing separately, and identifying his Florida address as his home.

The Department of Taxation and Finance examined Taxpayer’s nonresident income tax returns for the Audit Years – which included a large gain from the sale of real property in Florida – and concluded that he had failed to present clear and convincing evidence that he had abandoned his New York domicile and acquired a new Florida domicile.

The Department issued a notice of deficiency assessing additional personal income taxes, as well as penalties, against Taxpayer, which he challenged. However, an Administrative Law Judge (“ALJ”) sustained the deficiency. Taxpayer appealed the ALJ’s decision to the Tax Appeals Tribunal, which affirmed the ALJ’s determination. Following this setback, Taxpayer filed a so-called “article 78 proceeding” to appeal the Tribunal’s decision.

Taxpayer’s Business Connections

The Appellate Division, Third Department (to which Tax Appeals Tribunal decisions are appealed), began by stating that, for income tax purposes, an individual is a resident of New York when that individual is domiciled in this State. A person’s domicile, the Court continued, “is the place which an individual intends to be such individual’s permanent home.” Once a domicile is established, it “continues until the individual in question moves to a new location with the bona fide intention of making such individual’s fixed and permanent home there.”

As the individual seeking to establish a change in domicile, it was Taxpayer’s burden, the Court noted, to prove his change of domicile by clear and convincing evidence.

The Court observed that Taxpayer did not contend that his domicile changed from New York to Florida as of a date certain. Rather, Taxpayer maintained that his contacts in Florida dated back over 25 years, to when he opened his first retail location in the State and purchased a condominium there. Taxpayer contended that, slowly over the course of time, his business interests grew and he began spending an increasingly significant amount of time at his Florida residence such that, by the Audit Years, he had effectively abandoned his New York domicile and established a new domicile in Florida.

The Court acknowledged that Taxpayer had submitted evidence demonstrating his significant business ties to Florida, including his ownership and operation of four retail locations and nine rental properties, and the fact that he helped manage another business located in one of his Florida buildings. Taxpayer had also submitted evidence that he had moved many personal items to his Florida residence, and that he had spent the majority of the Audit Years in Florida.

The Court pointed out, however, that there was similarly no dispute that Taxpayer also continued to maintain substantial and significant business and personal contacts in New York.

Significantly, Taxpayer continued to maintain his New York business and, in fact, was working on expanding it. He also maintained a warehouse affiliated with his New York business and another that he rented to third parties.

In addition, Taxpayer acknowledged that the administration and bookkeeping functions for all of his New York and Florida businesses were centralized and maintained in New York. All tax filings for the Florida businesses listed Taxpayer’s New York City office address, and his New York City bookkeeper processed all receipts from the Florida businesses and rental properties.

The Court observed that, over the years, Taxpayer had established a regular pattern of travel, generally consisting of his spending long weekends in Florida, during which he visited his Florida business and investment locations, while spending the rest of the week working in New York.

Moreover, Taxpayer managed and controlled all administrative, operational, and financial aspects of his New York and Florida business and real estate investment interests from his New York City office, and he continued to be the sole owner of the entities that held these interests.

The Audit Years were no exception: all administrative and financial functions for all of Taxpayer’s businesses and real estate investments continued to be handled in New York, Taxpayer spent almost half the year in New York, he derived significant income from his New York businesses and investments, and he continued to be actively engaged in the management and control thereof.

Such active business ties to New York, the Court maintained, typically indicate a failure to abandon a New York domicile.

On the record before it, including Taxpayer’s New York business and real estate investment interests, the presence of his spouse in New York, and his continued ownership and use of his long-time New York City condominium, the Court sustained the Tax Appeal Tribunal’s determination that, as of the Audit Years, Taxpayer had not shown a change in his lifestyle that would support his claimed change of domicile to Florida and the abandonment of New York as his domicile.[I]

Is It All or Nothing?

A business owner’s continued employment or active participation in their New York business, or their substantial investment and management of their New York business, after they have acquired a new residence elsewhere, will be a primary factor in determining their domicile.

If the owner continues to be actively involved in their New York business by managing or actively participating in such business without establishing comparable or greater business connections to the location they claim to be their new home, then their New York business activity will support their continued status as a New York domiciliary.

Does this mean that a business owner who has moved out-of-state cannot remain connected to their New York business if they hope to abandon New York as their domicile?

Not necessarily. It depends upon the extent and nature of the owner’s control and supervision over the New York business.

On the one hand, an owner’s active participation in the day-to-day operation or management of a New York business points to continued New York domicile, even if the business is being run from an out-of-state location.

On the other hand, an owner’s conversion of his interest in a New York business from an active to a passive investment is not supportive of continued domicile; for example, where the owner has resigned his position as an officer and employee of the business, has reduced his compensation accordingly, and has actually – not simply formalistically – turned management over to others.

The conversion of the owner’s interest to that of a “mere” investment does not require that the owner disregard the business entirely. In fact, it is reasonable to expect that the owner would take some interest in the business they have built and which now supplies a stream of income to them in retirement. This continuing interest does not compel a conclusion that the owner remains actively involved in the business.

Thus, the owner’s occasional office visit or phone call to the business should not constitute evidence of active involvement where they are limited in amount of duration.

If the owner has also undertaken other activities in their new home on which to focus their attention and efforts, the change of their relationship to the New York business is consistent with the so-called “change in lifestyle” that supports a conclusion that one domicile has been replaced with another.

Of course, it may be difficult for some owners to step away from their business and to pass control to someone else – did I mention something about an owner’s independence and determination? It’s the same issue they confront when considering gift and estate planning strategies, or in approaching succession planning. Interestingly, the proper planning for any one of these purposes will necessarily assist the owner in successfully removing themselves from New York.

[i] It should be noted that on both of Taxpayer’s nonresident income tax returns, the “No” box was checked in response to the question, “Did you or your spouse maintain living quarters in NYS [for that given year],” despite the fact that Taxpayer continued to own and maintain the condominium in New York City in which his spouse resided, and in which he stayed when he was in New York. The Court sustained the assessment of a negligence penalty against Taxpayer based on this “misrepresentation.” Despite the fact that Taxpayer claimed these misrepresentations were the product of a mistake by his accountant, the Court found no error in the Tribunal’s reliance upon these misrepresentations in upholding the negligence penalty.

I encounter the “‘No’ box” situation with too much frequency. First and foremost, a tax return must be accurate and truthful. The taxpayer is charged with reviewing the return to confirm the information contained therein – whether one owns or rents an apartment in the City is an easy one. Why give the auditor a lay-up, not to mention a bad impression?


“Personal liability?!” the client screams. “For sales tax? How is that possible?” The look on their face is at once incredulous and accusatory. “Didn’t you say that the LLC would protect me and my assets from the liabilities of the business so long as we respected ‘corporate’ formalities, and treated the LLC as a separate entity? I’m not even involved in its day-to-day operation and management – I’m just a ‘big-picture’ guy, a passive investor.”

The client’s confusion is understandable. Most investors do not realize that a member of an LLC may be held personally liable by N.Y. State for any sales tax required to be collected and remitted by the LLC, even when the “LLC veil” has not been pierced, and even when the member does not participate in the LLC’s business.

The rationale for this per se personal liability lies in the “trust fund” nature of the sales tax.

The Sales Tax

In general, the sales tax is a transaction tax, with the liability for the tax arising at the time of the transaction. It is also a “consumer tax” in that the person required to collect the tax – the seller – must collect it from the buyer when collecting the sales price for the transaction to which the tax applies.

The seller collects the tax as a trustee for, and on account of, the State. The tax is imposed on the purchase of a taxable good or service, but it is collected from the buyer by the seller, and then held by the seller in trust for the State, until the seller remits the tax to the State.

Responsible Persons

The State’s Tax Law imposes personal responsibility for the collection and remittance of the sales tax on an LLC’s so-called “responsible persons,” which may include certain employees or managers, as well as the members, of the LLC.  More than one person may be treated as a responsible person.

A responsible person is jointly and severally liable for all of the sales tax owed, along with the LLC and any of the LLC’s other responsible persons.  This means that the responsible person’s personal assets could be taken by the State to satisfy the entire sales tax liability of the business. Members of an LLC can be held personally responsible even though they are otherwise protected from the business liabilities of the LLC.

Personal liability attaches whether or not the tax imposed was collected.  In other words, it is not limited to tax that has been collected but has not been remitted.  Thus, it will also apply where a business might have had a sales tax collection obligation, but was unaware of it.

Along the same lines, the personal liability applies even where the individual’s failure to take responsibility for collecting and/or remitting the sales tax was not willful.

In addition, the penalties and interest on the corporation’s unpaid sales tax pass through to the responsible person.

Administrative Relief

In general, the Tax Law provides that every member of an LLC is a “person required to collect” any sales tax for which the LLC is responsible; thus, a member is per se liable for the LLC’s unpaid sales tax, plus interest and penalties, without regard to their role or degree of involvement in the LLC’s business. 

Beginning in 2011, however, the State’s Department of Taxation and Finance provided some relief from the per se personal liability for certain LLC members.

Specifically, a qualifying member would not be personally liable for any penalties relating to the LLC’s unpaid sales taxes, and their liability for such taxes would be limited to their pro rata share thereof.

In order to qualify for this relief, a member of an LLC had to document that their ownership interest in, and distributive share of the profits and losses of, the LLC were each less than 50%. They also had to demonstrate that they were not “under a duty to act” on behalf of the LLC – for example, because of their management position – in complying with the sales tax.

In addition, the member had to agree to such terms and conditions as the State may require in exchange for such relief, including cooperation with the State by providing information regarding the identities of other potentially responsible persons—particularly those persons involved in the day-to-day affairs of the business.

It is important to note that any member of an LLC that held a 50% or more ownership interest in the LLC, or that was entitled to a distributive share of 50% or more of the profits and losses of the LLC, was not eligible for this relief.

2018-2019 Fiscal Year Budget

A variation on this administratively-provided relief was recently codified by the State as part of its 2018-2019 Fiscal Year Budget.

Under the new law, a member of an LLC continues to be treated as a “person required to collect” sales tax. Thus, membership by itself remains a sufficient reason for imposing personal liability on a member for the LLC’s unpaid sales tax.

Application for Relief

However, the new law also provides that the State may grant a member relief from such personal liability if the member applies for relief, and demonstrates that (i) their percentage ownership interest, and their percentage distributive share of profits and losses, of the LLC are each less than 50%, and (ii) they were not under a duty to act for the LLC in complying with the sales tax.

If the State approves a member’s application for relief, the member’s liability will be limited to that percentage of the LLC’s sales tax liability that reflects the member’s ownership interest or distributive share, whichever percentage is higher, plus any interest accrued thereon; the member will not be liable for any penalty owed by the LLC.

Practical Impact?

It is unlikely that more LLC members will find relief under the 2018-2019 Budget provision than under the administrative relief program it replaced.

Members with an LLC ownership interest or distributive share of at least 50% will continue to be out of luck in avoiding personal liability, notwithstanding the level of their “disengagement” from the business of the LLC – there will continue to be an effective presumption that such a member could have acted to ensure compliance with the sales tax law.

This “presumption” was illustrated in a recent ALJ decision. Taxpayer and his partner each owned 50% on an LLC. According to Taxpayer, his partner was the general manager of the business and oversaw all the daily activities of the business, including, among other things, hiring, firing and supervising employees, and purchasing supplies. Taxpayer testified that his health prevented him from being actively involved in the business.

At some point, LLC began having issues paying its bills, and its vendors began pursuing collection from LLC, Taxpayer and his partner.

The State performed a sales tax audit of LLC, which resulted in the assertion of a sales tax deficiency, which LLC agreed to satisfy pursuant to a payment plan. Unfortunately, LLC failed to make any of the scheduled payments, and the State issued a notice and demand for payment of tax due.

The auditor determined that Taxpayer was a responsible person for LLC and, consequently, the State issued a notice of determination to Taxpayer assessing the sales and use taxes due from LLC.

Taxpayer agreed that LLC owed owes sales taxes, and did not challenge the underlying audit amount. However, he asserted that he was not a responsible person during the audit periods. Taxpayer asserted that he could not take an active role in managing LLC because of his health. He further asserted that the other 50% owner was the general manager of the business and the responsible person during the audit periods.

Taxpayer might as well have been speaking to the wall.

ALJ’s Opinion

The ALJ explained that, under the Tax Law, “every person required to collect the sales tax shall be personally liable for the tax imposed, collected or required to be collected.”

The Tax Law, the ALJ continued, defines “person required to collect” sales tax to include: “any employee or manager of [an LLC] . . . who as such . . . employee or manager is under a duty to act for such . . . [LLC] . . . in complying with [the sales tax law]; and any member of a . . . limited liability company.”

The ALJ emphasized that the law “clearly states that any member of [an LLC] is a ‘person required to collect’ [the sales tax]” and, furthermore, that a member of an LLC “shall be personally liable for the [sales] tax imposed, collected or required to be collected.”

The ALJ also pointed out that the Tax Law contains no factors to qualify or limit the liability imposed upon members of an LLC. “[Taxpayer] was a member of [an LLC] and . . . , such members are subject to per se liability for the taxes due from the [LLC]. . . . Since [the Tax Law] imposes strict liability upon members of . . . [an LLC], all that is required to be shown by the [State] for liability to obtain is the person’s status as a member.”

Because Taxpayer was a 50% member of LLC during the audit periods, the ALJ concluded that he was per se personally liable for the sales taxes due; moreover, he was not eligible for the administrative relief afforded under the 2011 program described above.

“Minority” Member?

Ah, the fate of a 50% member.

But what about a “less-than-50%,” or minority, member who was unable to secure any voice in the management of the business from the other member(s) of the LLC (for example, executive employment or a position on its board)? Such a member may be able to demonstrate that they were not “under a duty to act” in connection with sales tax matters and, so, they should be able to avoid personal liability for the LLC’s unpaid sales taxes.

That may provide some comfort to a minority member, who may not be in a position to compel or influence decision-making, and thereby enjoy the economic benefits of membership, including the distribution of profits, or the sale of the business, and who, for the same reasons, was unable to extract any contractual indemnity obligation from the controlling member of the LLC.

As in so many instances involving the application of the tax laws, there seems to be a direct relationship here between the ability to control one’s investment in a business, on the one hand, and one’s exposure for the tax liability of the business, on the other. Decisions, decisions.

New York’s legislature has been in the news lately after having “rotated an avian creature through more than 90 degrees”[1] at Congress in response to the limitations passed under the Tax Cuts and Jobs Act on the deduction of state and local taxes. The provisions recently enacted by the State that have received the most attention are also the ones that are likely to have the least impact: the voluntary payroll tax (which business owners don’t care for) and the statewide charitable funds (which the IRS doesn’t care for and has stated it will challenge).

NY-Source Income

In the meantime, the Department of Taxation (the “Dept.”) has just issued some helpful guidance that will be of far greater interest to certain closely-held businesses that count nonresidents among their owners.

Specifically, the Dept. issued a memorandum that discusses the expansion of the definition of New York (“NY”) source income for nonresident individuals – effective for taxable years beginning on or after January 1, 2017 – to include the gain or loss from the sale of ownership interests in certain entities that own shares in cooperative housing corporations located in NY.

Before discussing the memorandum, let’s review its background.

Some History

In general, nonresidents are subject to NY personal income tax on their NY source income.

NY source income is defined as the sum of income, gain, loss, and deduction derived from or connected with NY sources. For example, where a nonresident sells real property or tangible personal property located in NY, the gain from the sale is taxable in NY.

In general, under NY tax law (the “Tax Law”), income derived from intangible personal property, including interest and gains from the disposition of such property, constitute income derived from NY sources only to the extent that the property is employed in a business, trade, profession, or occupation carried on in NY.

From 1992 until 2009, this analysis also applied to the gain from the disposition of interests in entities that owned NY real property. Thus, generally speaking, a nonresident who owned an interest in a close corporation, for example, that owned NY real property, could sell such interest without realizing NY source income and incurring NY income tax.[2]

2009 Amendment

However, in 2009, the Taw Law was amended to provide that items of gain derived from or connected with NY sources included items attributable to the ownership of any interest in real property located in NY.

For purposes of this rule, the term “real property located in” NY was defined to include an interest in a partnership, LLC, S corporation, or non-publicly traded C corporation with one hundred or fewer shareholders, that owns real property located in NY and has a fair market value (“FMV”) that equals or exceeds 50% of all the assets of the entity on the date of the sale or exchange of the taxpayer’s interest in the entity.

In accordance with an “anti-stuffing” rule, only those assets that the entity owned for at least two years before the date of the sale or exchange of the taxpayer’s interest in the entity are used in determining the FMV of all the assets of the entity on such date.

The gain or loss derived from NY sources from a nonresident’s sale or exchange of an interest in an entity that is subject to this rule is the total gain or loss for federal income tax purposes from that sale or exchange multiplied by a fraction, the numerator of which is the FMV of the real property located in NY on the date of the sale or exchange and the denominator of which is the FMV of all the assets of the entity on such date.

2017 Amendment – Coops

Then, in 2017, the definition of “real property located in NY” was expanded once again, this time to add an interest in a partnership, LLC, S corporation, or non-publicly traded C corporation with one hundred or fewer shareholders that owns shares of stock in a cooperative housing corporation where the cooperative units relating to the shares are located in NY, provided that the sum of the FMV of the entity’s real property located in NY, plus the FMV of its cooperative shares, and related cooperative units, equals or exceeds fifty percent of all the assets of the entity on the date of the sale or exchange of the nonresident taxpayer’s interest in the entity.

This is no small change when one considers (a) the number of nonresidents with interests in entities that own real estate, including cooperatives, in NY, and (b) estimates that between 70% and 75% of Manhattan’s residential inventory consists of cooperatives.  It was also a change that was bound to occur in light of the fact that the IRS concluded long ago that stock in a NY cooperative apartment constitutes real property for many tax purposes, including the like kind exchange rules, and that NY itself has long taxed (since 2004) the gain recognized by nonresidents on their sale of cooperative apartments.

The Memorandum

The Dept.’s memorandum restates the amended Tax Law, as outlined above, and then explains that a nonresident must include all or part of the gain or loss from the sale or exchange of an interest in any of the above entities in the nonresident’s NY source income if the entity owns:

  • real property located in NY, and/or
  • shares of stock in a NY cooperative,

and the FMV of all its real property in NY and shares of stock in NY cooperatives equals or exceeds 50% of the FMV of the assets the entity has owned for at least two years on the date of the sale or exchange.

Less than Two Years

According to the memorandum, if all the entity’s assets have been owned for less than two years, then the 50% condition is met.

Fraction of Gain Included

The portion of the gain or loss the nonresident must include in NY source income is the total gain or loss reported on their federal return from that sale or exchange multiplied by the following fraction (determined as of the date of the sale or exchange): (a) the FMV of the entity’s real property in NY and the shares of stock in NY cooperatives, over (b) the FMV of all the assets that the entity owns.

Part-year Resident

A part-year resident individual – one who is not a statutory resident and who successfully changed domicile during the tax year – is subject to this inclusion rule if they have a sale or exchange of an interest in an entity and the gain or loss on the sale or exchange occurs in the nonresident portion of the tax year.

Tiered Entities

If a nonresident sells or exchanges an interest in an entity that is part of a tiered structure of entities, the change in the “NY source inclusion rule” applies to the sale or exchange if any entity in the tiered structure owns real property in NY or shares of stock in NY cooperatives.

If a partnership in a tiered structure of entities sells or exchanges its interest in an entity in the tiered structure, the partnership must determine whether it has any NY source income relating to the sale or exchange for personal income tax as if it were a nonresident individual.

Looking Ahead

In any investment transaction, a price must be established for the amount of the investor’s equity contribution in the investment entity. Similarly, in any sale by the investor of their interest in the entity – whether to a third party buyer or back to the entity itself – the price at which the interest is to be sold must be established.

Each of these situations will entail negotiations between the investor and the investment entity, and between the investor/seller and the buyer. In each case, it will behoove the investor/seller to understand and account for the tax costs of the investment and of the ultimate sale in advance of any discussions. This will enable the investor/seller to settle on the appropriate sales price: one that will yield, as closely as possible, the desired after-tax economic result.

In the case of a nonresident taxpayer with an interest in an entity that owns at least some NY real property and/or shares of stock in a NY cooperative, the taxpayer will need to determine whether the entity meets the 50% threshold described above. In some cases, depending upon the entity’s business or investment purpose, not to mention the authority or leverage possessed by the nonresident, it may be possible to periodically adjust the entity’s investment holdings – being mindful of the two-year “anti-stuffing rule” – so as to fall short of the threshold. Of course, any such adjustments must make sense from a business or investment perspective.

Where the nonresident has little control over the entity, it may be possible to “time” the sale of his or her interest, taking advantage of a drop in real estate values or of an increase in the value of other assets held by the entity (for example, securities). However, this option may be impractical in cases where, for example, a shareholders or operating agreement restricts the sale of interests in the entity.

The important point is for the nonresident to recognize at the inception of their investment in an entity that there may be an issue on a subsequent disposition of the investment, to try to account for the ultimate tax cost when pricing the acquisition of the investment and/or its later sale, and to try to secure the periodic valuation of the entity’s underlying assets so as to facilitate any decision as to a disposition, and to support one’s reporting position in the event of a sale.

[1] One of my high school teachers would sometimes respond with “tauric defecation” to a student’s excuse for not having completed an assignment. Bronx Science, after all.

[2] I’ve seen too much of this. Real property should rarely be held in a corporation by a U.S. person.

“Life” Goes On

Over the last month or so, most of the nation’s tax practitioners have been devoting an extraordinary amount of time to analyzing the recently enacted changes to the Code, to understanding the resulting consequences, and to determining how they may advise their clients.

Based upon the volume of material that these tax professionals have produced in this endeavor – myself included[1] – one might think that these folks have nothing else to do, or that the very clients that they are seeking to assist may, in fact, be suffering from neglect.

Rest assured that this is not the case. Speaking for myself, life has gone on with the usual flow of projects, including a smattering of corporate transactions and reorganizations, partnership formations and break-ups, deferred compensation and succession planning, not-for-profit compliance and UBIT, plus a healthy dose of New York residency audits.

The Residency Exams

As to the residency exams, the focus has not been on whether the clients were “domiciled” in NY during the years at issue – they clearly were not – or on whether the clients spent over 183 days in NY – they clearly did because the businesses that they owned and operated were located in NYC during those years.

Rather, the state’s emphasis has been on demonstrating that each of the clients maintained a permanent place of abode (“PPA”) in NYC, near his place of business and, consequently – according to the state – was an NY statutory resident.

Our own position has been that neither client maintained a PPA in NY because he did not have a residential interest in the property at issue. We argued that, aside from the proximity of the property to the place of business – from which the state deduced that “he must have used” the property as a residence – there was no basis to conclude that either client maintained his property as a personal dwelling. Simply stated, the property did not “relate to him” in the manner required by the NY Court of Appeals.[2]

It appears, however, that the Court’s holding is either being conveniently ignored by the Department of Taxation, or it is being interpreted in such a way as to render it meaningless.[3]

In any case, because of these circumstances, we have been following any NY decisions that address the PPA requirement for a statutory residence. One such decision is described below.[4]

Welcome to NY

Taxpayer entered into an employment contract with Corp, after which she participated in Corp’s relocation program, which provided her with several options for apartments in NYC.

In late January 2011, Taxpayer chose a fully furnished apartment with a bedroom, bathroom, living area, and kitchen. She testified that there was no lease, but that the original arrangement for the apartment was for 90 days, or approximately until the end of April 2011. The taxpayer had exclusive use of this apartment for the duration of her stay there.

In early April 2011, Taxpayer’s fiancé entered into a lease on a different NYC apartment, following which Taxpayer contacted Corp’s relocation manager to inquire whether she might be able to give the requisite 30-day notice to leave her apartment early. The relocation manager was able to extend Taxpayer’s living arrangement at the apartment until the end of May so as to accommodate her. The taxpayer then moved into her fiancé’s apartment in early June 2011.

The state audited Taxpayer’s income tax return and determined that she was liable as a statutory resident of NY and of NYC for 2011.[5] Specifically, the state found that Taxpayer maintained a PPA in NYC during 2011, and was present within NYC in excess of 183 days.

The Taxpayer did not dispute that she was within NYC in excess of 183 days during the year 2011; after all, she worked there for Corp. However, she did challenge the state’s finding that she maintained a PPA in NYC.

Statutory Residence

For purposes of NY’s and NYC’s personal income tax, a “resident individual” is defined as one:


(B) who is not domiciled in this state [city] but maintains a permanent place of abode in this state [city] and spends in the aggregate more than one hundred eighty-three days of the taxable year in this state [city], *****.

As there was no dispute that Taxpayer was physically present within the city for more than 183 days during 2011, the sole issue in the case involved whether Taxpayer maintained a PPA in NYC during 2011.

“Permanent place of abode” is defined by regulation as:

a dwelling place of a permanent nature maintained by the taxpayer, whether or not owned by such taxpayer, and will generally include a dwelling place owned or leased by such taxpayer’s spouse. However, a mere camp or cottage, which is suitable and used only for vacations, is not a permanent place of abode. Furthermore, a barracks or any construction which does not contain facilities ordinarily found in a dwelling, such as facilities for cooking, bathing, etc., will generally not be deemed a permanent place of abode.

The Court’s Analysis

According to the Court, the determination of a taxpayer’s status as a resident or nonresident for purposes of the personal income tax has long been based on the principle that the result “frequently depends on a variety of circumstances.”

Given the various meanings of the word “maintain,” the Court continued, and given “the lack of any definitional specificity on the part of the Legislature, we presume that the Legislature intended, with this principle in mind, to use the word in a practical way that did not limit its meaning to a particular usage so that the provision might apply to the ‘variety of circumstances’ inherent” to this subject matter.

“In our view,” the Court stated, “one maintains a place of abode by doing whatever is necessary to continue one’s living arrangements in a particular dwelling place.” This would include making contributions to the household, in money or otherwise.

With regard to whether a place of abode is “permanent” within the meaning of the statute, the Court did not agree with Taxpayer that the statute required that the place of abode be owned, leased, or otherwise based upon some legal right in order for it to be permanent.

Rather, the Court stated, “the permanence of a dwelling place for purposes of the personal income tax can depend on a variety of factors and cannot be limited to circumstances which establish a property right in the dwelling place.” Thus, the absence of a lease was not determinative.

The Court noted that “permanence,” in this context, “must encompass the physical aspects of the dwelling place as well as the individual’s relationship to the place.”

For example, it seemed clear to the Court that an apartment leased by one individual, and shared with other unrelated individuals, may be the permanent place of abode of those who are not named on the lease, given other appropriate facts (for example, contributing to living expenses and having unfettered access).

The Court observed that Taxpayer’s apartment was permanent in nature: the apartment contained a bedroom, bathroom, living area and kitchen; and Taxpayer had exclusive access to this apartment from January 2011 through May 2011.

Taxpayer argued that, during the period January 29 through the end of May, she stayed at the apartment for only 79 days. However, this argument did not establish that anyone else stayed at the apartment when she was out of town or that, because she did not spend every day during this time period at the apartment, her use was not exclusive.

Taxpayer also argued that her living in the apartment was temporary in nature, since the duration of the rental was for a fixed period of time. She pointed to language in the correspondence between her and Corp wherein it was stated that her living arrangement at the apartment was temporary.

The Court explained that a permanent place of abode meant a dwelling place of a permanent nature. It concluded that the apartment was permanent: it had a bedroom, bathroom, living area and kitchen. Taxpayer’s belief that her living arrangement was temporary based upon the agreement with Corp was misplaced, the Court added.

The Court clarified that a place of abode “is not deemed permanent if it is maintained only during a temporary stay for the accomplishment of a particular purpose.” The regulation’s use of the word “temporary,” it stated, did not apply to the intention of living in a certain, physical living space as temporary, but rather, a taxpayer who travels to NY for a temporary stay for the accomplishment of a particular purpose.

Clearly, Taxpayer accepted employment with Corp in NYC, and such employment did not have a certain, fixed duration. Therefore, her travel to NYC was not “temporary” within the meaning of the regulation, despite her intention to remain at the apartment for a limited time.

Taxpayer also asserted that she did not maintain the apartment. The Court replied that this argument was also without merit. Taxpayer had exclusive use of the apartment for the entire length of her stay. There was no suggestion that she was prohibited from using it at any time during her stay. Indeed, she kept her clothes and personal belongings there.

Since it was determined that Taxpayer maintained a PPA at the apartment and, subsequently, at her fiancé’s apartment, the Court next determined whether Taxpayer maintained a PPA for substantially all of 2011.

According to the applicable regulation, a resident is:

any individual . . . who maintains a permanent place of abode for substantially all of the taxable year (generally, the entire taxable year disregarding small portions of such year) in New York State and spends in the aggregate more than 183 days of the taxable year in New York State.

The Court observed that, although the statute does not “numerically” define what constitutes “substantially all” of the taxable year, the state’s Audit Guidelines indicate a length of time in excess of 11 months.

In this case, Taxpayer maintained a PPA within NYC continuously from late January through December; more than 11 months. The Court concluded that this constituted substantially all of the taxable year.

Taxpayer accepted employment for Corp in New York City; such employment was not limited in duration. Taxpayer lived at the first apartment until she found suitable living arrangements with her fiancé; then she lived in his apartment. Thus, the Court determined that Taxpayer was a statutory resident for the tax year 2011.


The Court’s conclusion was consistent with the principles underlying the statutory residence test, and Taxpayer was rightfully assessed as a statutory resident.

The test was enacted to discourage tax evasion by New York residents, and “serves the important function of taxing those who, while really and [for] all intents and purposes [are] residents of the state, have maintained voting residence elsewhere and insist on paying taxes to [NY] as nonresidents.”[6]

With respect to determining the “permanence” of a dwelling place, the Court rightly stated that it can depend on a variety of factors, and cannot be limited to circumstances that establish a property right in the dwelling place. Other courts have held that permanence in this context “must encompass the physical aspects of a dwelling place as well as the individual’s relationship to the place.[7]

That “relationship to the place” element should be key; the taxpayer himself should have a residential interest in the place in order for it to constitute his PPA. It is not enough to base a residency determination on the fact that a taxpayer had a property interest in a dwelling, nor should it suffice that the property was located relatively near to his place of business. There must be some basis to conclude that the dwelling was used as the taxpayer’s residence; the inquiry must focus on whether the dwelling is actually “utilized as the taxpayer’s residence.”[8]

Unfortunately, it appears that the state and its examiners will continue to either interpret this requirement out of the law or to distinguish Gaied. Stay tuned.

U.S. Taxation of Foreign Income After Tax Reform 
Will Tax “Reform” Affect Domestic M&A?
The Real Property Business and the Tax Cuts & Jobs Act
The Federal Estate Tax Lives On, But “Where, O death, is your sting?” (*)
Some of the TC & JA’s Corporate Tax Changes
The New Deduction for “Qualified Business Income”: Tax Simplification Gone Awry?*

[2] Gaied v. New York State Tax Appeals Tribunal, N.Y., No. 26, 2/18/14, 2014 NY Slip Op 1101, 2014 WL 590486, rev’g 101 App Div 3d 1492, 957 NYS2d 480, 2012 NY Slip Op 9108, 2012 WL 6699044 (3d Dept., 2012). The Court of Appeals considered whether a taxpayer can have a PPA in New York unless “[he], himself, ha[s] a residential interest in the property.” The Court concluded that he could not.

[3] For example, by allowing the most attenuated of connections to establish a personal residential interest.

[4] Some are more interesting than others.

[5] It was conceded that Taxpayer was not domiciled in New York for 2011.

[6] 91 N.Y.2d 530, 535 (1998), cert. denied, 525 U.S. 931 (1998).

[7] Matter of Evans v. Tax Appeals Tribunal, DTA No. 806515 (N.Y. Tax App. Trib. 1992), confirmed, 199 A.D.2d 840 (N.Y. App. Div. 3d Dept. 1993).

[8] See Gaied, FN 1, supra.

Some shareholders are content with being wholly passive investors in a corporation. Others desire some degree of participation in the day-to-day management of the corporation’s business. Still others are willing to abstain from any involvement in the operation of the business, but insist upon having a say with respect to certain “significant” matters (so-called “sacred rights”). Then there are those who, as a result of unforeseen circumstances, are thrust into positions of authority.

Many of these taxpayers fail to appreciate that any shareholder, director, officer, or employee of a corporation who has a “duty to act” for the corporation in complying with the NY sales tax law, may be held personally liable for the sales tax collected or required to be collected by the corporation, even if the circumstances that ultimately led to the imposition of personal liability were not of the responsible person’s doing, as illustrated by a recent decision of NY’s Division of Tax Appeals.

Tale of Two Brothers

Taxpayer was an officer and shareholder of Corp, which was a subcontractor for general contractors on numerous projects in the NY metro area.

Corp was a family-owned business, and was originally owned by Taxpayer’s parents. Taxpayer, who was an attorney, joined Corp as its counsel. Over time, Taxpayer’s brother (“Brother”) became president of Corp, and Taxpayer became its CFO. In addition, the brothers eventually became shareholders, with Taxpayer owning 22% of Corp’s issued and outstanding shares, and Brother owning 28%; their parents continued to own the remaining 50%.

Corp entered into a contract with a general contractor (“GC”) to perform work on a construction project in NYC that was more than double the size of any previous project undertaken by Corp (the “Project”). Brother negotiated the contract on behalf of Corp.

Not long afterward, Brother resigned as president of Corp because he had significantly underestimated Project’s cost in making Corp’s bid, thereby causing significant financial hardship for Corp. Upon Brother’s departure, Taxpayer assumed control of Corp and, along with it, responsibility for all phases of its work on Project.

Despite the financial difficulties, Corp continued to work on Project under Taxpayer’s direction. However, according to Taxpayer, GC began to renege on payments to Corp required under the contract. Further, Taxpayer maintained that he was forced by GC to replace several of Corp’s own employees with those of an unrelated Company, on “a time and material basis.” According to Taxpayer, Company overcharged for the work it performed and abused its overtime allowance, further hampering Corp. In addition, Taxpayer claimed that GC paid Company directly from funds allocated for Corp under their contract, rather than simultaneously paying Corp. These efforts, according to Taxpayer, were made to force Corp to fail to complete Project and allow GC to collect on an insurance bond that would have provided GC with a windfall.

As a result of the difficulties arising from Project, Corp filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code. Corp continued to operate as debtor-in-possession while in bankruptcy.

Corp also brought adversary proceedings, in the course of its bankruptcy, against both GC and Company, seeking redress for fraud, breach of contract, and other similar causes of action.

The Responsible Person

In general, the sales tax is a transaction tax, with the liability for the tax arising at the time of the transaction. It is also a “consumer tax” in that the person required to collect tax – the “vendor” (Corp, in this case) – must collect it from the buyer when collecting the sales price for the transaction to which the tax applies.

The vendor collects the tax as trustee for and on account of the State, then holds it in trust for the State until the vendor remits the tax to the State.

NY imposes personal responsibility for payment of sales tax on certain owners, officers, directors, or employees (“responsible persons”) of a corporate vendor.  This means that a responsible person’s personal assets may be taken by the State to satisfy the sales tax liability of the corporation’s business.

Personal liability may attach even where the “responsible” individual’s failure to take responsibility for collecting and/or remitting the sales tax was not willful.


Every individual who is under a duty to act for a corporation in complying with the sales tax law is a responsible person required to collect, truthfully account for, and pay over the sales tax.  Whether an individual is a responsible person is to be determined in every case on the particular facts involved. Generally, a person is under a duty to act for a corporation if he is authorized to sign a corporation’s tax returns, is responsible for maintaining the corporation’s books, or is responsible for the corporation’s management.

It is important to note that the personal liability of a responsible person (like a corporate officer) for sales taxes is separate and distinct from that of the business – it extends beyond the business.   For example, a corporate bankruptcy does not affect the officer’s liability for the tax, since the latter involves a separate claim than one that is asserted in the corporate bankruptcy proceeding.

An officer-shareholder may not be held responsible where his role was essentially that of a minority investor who was precluded from taking action with regard to the financial and management activities of the corporation.

Bankruptcy Court’s Findings

Several examiner’s reports regarding Corp were prepared pursuant to an order of the bankruptcy court. One of these reports addressed potential avoidance actions against Corp’s insiders, and reported that disbursements from Corp were made, through the date that the bankruptcy petition was filed, to or for the benefit of Taxpayer, his father, and Brother.

Additionally, the examiner reported that during the two-year period ending with Corp’s petition, Taxpayer deposited funds into Corp’s account, but also withdrew funds from Corp that he deposited into his personal account. The net effect of these withdrawals and deposits was a deposit of $1.5 million into Corp’s account, which was treated by Corp as a loan from Taxpayer.

Another of the examiner’s reports stated that after the filing of the petition, two of Corp’s stockholders received compensation from Corp, and that Corp paid rent to an entity owned by Taxpayer’s father.

Thus, notwithstanding its financial challenges, it appeared that Corp may have had funds available with which to pay the sales tax owing, but chose, instead, to pay other obligations.

The DTA’s Analysis

The State issued notices of deficiency to Taxpayer that asserted sales tax penalties against him as a responsible person of Corp for the periods beginning after Brother’s resignation, noting that each of the sales tax returns for the periods in issue were signed by Taxpayer as president of Corp.

According to NY’s sales tax law, every person required to collect the tax shall be personally liable for the tax imposed, collected or required to be collected.

The law, in turn, defines a “person required to collect” the sales tax to include, in the case of a corporate taxpayer, any officer, director or employee of the corporation (including of a dissolved corporation), who as such officer, director or employee is under a duty to act for such corporation in complying with the sales tax law.

Whether a person is a “responsible person” must be determined based upon the particular facts of each case, including whether the person was authorized to sign the corporate tax return, was responsible for managing or maintaining the corporate books, or was permitted to generally manage the corporation.

The Court explained that the question to be resolved in any particular case is whether the individual had, or could have had, sufficient authority and control over the affairs of the corporation to be considered a responsible officer or employee. The case law, it continued, identified a variety of factors as indicia of responsibility: the individual’s status as an officer, director, or shareholder; authorization to write checks on behalf of the corporation; the individual’s knowledge of and control over the financial affairs of the corporation; authorization to hire and fire employees; whether the individual signed tax returns for the corporation; the individual’s economic interest in the corporation.

Once sales tax liability has been asserted against an individual taxpayer as a “responsible person,” the taxpayer has the burden of establishing the extent of his responsibilities and authority with respect to tax law compliance.

The Court observed that Taxpayer signed all the sales tax returns as president of Corp.

The Court also noted that Taxpayer did not testify to explain why he was not a person responsible for the collection and remittance of sales tax. Instead, Taxpayer’s case rested entirely upon the financial difficulties that Corp found itself in as a result of Project.

The Court pointed out that these financial difficulties did not absolve an otherwise responsible person from liability arising from nonpayment of sales tax. Consequently, the Court affirmed the notices of deficiency and Taxpayer’s personal liability.

Decisions, Decisions

An individual shareholder has to weigh his desire to have some control over his investment in a corporation against the personal exposure for trust fund taxes (like the sales tax) that such control may bring.

In the case of a family-owned business, a family member/shareholder may find himself having to “step up to the plate” because of the family relationship.

In either case, if an individual is to be involved in the corporation’s business and in its management, he must be prepared to subordinate his own economic and personal interests in order to ensure that the corporation’s tax liabilities are satisfied.

He must also be prepared to shut down the business where it cannot satisfy its responsibility for trust fund taxes owing to the government, instead of continuing its operation and further increasing its tax liabilities, in the hope of one day “turning the corner.” After all, the government is not in the business of making loans to a failing business.

Departing Individuals

Many of you may know that an individual who changes his status from New York (“NY”) resident to nonresident is required to accrue to the period of his NY residence – i.e., include in his final NY tax return – any items of income or gain accruing prior to the change of residence status. For example, assume a NY individual sold an asset in exchange for a promissory note, and was reporting the gain realized on the sale under the installment method, recognizing such gain for tax purposes only as principal payments were made under the note. Assume further that the individual successfully abandoned his NY domicile and established a new domicile in another state before the promissory note was fully satisfied. Under NY’s Tax Law, the individual would be required to include in his final NY income tax return the amount of gain from the sale that had not yet been recognized by the time he changed his residence status.

Departing Businesses?

At this point, you may be wondering whether a similar “accelerated inclusion” rule applies with respect to a business entity that decides to cease its NY operations.

The Tax Law provides that the State may, “whenever necessary in order properly to reflect the entire net income of any [foreign corporate] taxpayer, determine the year . . . in which any item of income . . . shall be included, without regard to the method of accounting employed by the taxpayer.”

According to the regulations promulgated under this provision, however, if a foreign corporation sells its NY real estate on the installment basis (typically, in exchange for a promissory note under which principal payments – i.e., the sale price – are made over two or more tax years), and terminates its taxable status in NY in the year of the sale, the full gain on the sale must be included in the foreign corporation’s entire net income in the year of the sale, even though no portion of the sale price had yet been received by the foreign corporation. If the foreign corporation, instead, terminates its taxable status in NY in a subsequent taxable year, prior to the receipt of all of the installment payments of the sale price, the remaining gain on the sale would be included in the corporation’s entire net income in the year it terminates its taxable status in NY.

The regulation makes sense; otherwise, a foreign corporate taxpayer may, for example, sell NY real property in a taxable transaction, defer receipt of the cash sale price until after the taxpayer has withdrawn from NY, and thereby avoid tax that was properly owing to the State.

Leaving NYC?

A recent decision demonstrated that New York City follows the same approach as the State in taxing a business that ceases to operate in the City.

“Final Return”

Taxpayer was a corporation that owned and operated a Property for many years before selling it in 2009. Taxpayer filed its corporate tax return for the year of the sale, indicating that Taxpayer had ceased operations and that the return was its final return. Attached to this “final” return was a 2009 federal corporate income tax return that was also marked as “final.” On both returns, Taxpayer reported the net gain from the sale of the Property under the installment method, reporting a net gain of approximately $200,000 in 2009, out of a gross profit (total gain realized on the sale) of approximately $6.3 million.

In 2012, the City’s Dept. of Finance asserted a deficiency against Taxpayer based on the Dept.’s addition of approximately $6.1 million to Taxpayer’s 2009 NYC income; this amount represented the balance of the gain from the sale of the Property not yet reported by Taxpayer under the installment method.

According to the Dept., when a foreign corporation sells its assets on the installment basis, and then files a final tax return, it is required to report on its final return the entire gain realized on the sale.

Ongoing Business Activity?

In order to counter this argument, Taxpayer filed an amended 2009 tax return in 2013 (the year after the deficiency was asserted), which was not marked as a “final” return, and which included an amended federal return, also not marked as final. Unfortunately, Taxpayer failed to file any City corporate tax returns for any periods subsequent to the 2009 tax year.

Taxpayer also tried to demonstrate its ongoing operations in the City, submitting statements from a bank account that Taxpayer maintained at a branch in the City. Those statements showed that Taxpayer maintained a cash balance in the account during the years 2014 and 2015, and that Taxpayer made a recurring monthly deposit of approximately $54,000, representing the installment payments Taxpayer collected under its agreement to sell the Property.

On the basis of the foregoing, and the fact that Taxpayer had not been formally dissolved, Taxpayer argued that it did not cease doing business in the City and, thus, the Dept. could not disregard the installment method of reporting and tax the full amount of the gain in 2009.

The Courts: Immediate Inclusion

The Dept. argued that it properly exercised its discretionary authority, pursuant to the City’s Administrative Code, to disregard Taxpayer’s use of the installment method of accounting in order to ensure that Taxpayer’s deferred gain from the sale of the Property did not escape taxation after Taxpayer ceased to do business in the City.

The Administrative Law Judge (“ALJ”) sustained the deficiency, and the Tax Appeals Tribunal (“TAT”) affirmed the ALJ’s decision, concluding that Taxpayer had failed to establish that it was doing business in the City after 2009, and that the Dept. properly exercised its discretion under the Administrative Code to disregard the installment method of accounting for Taxpayer’s sale of the Property and include the entire gain from the sale of the Property in Taxpayer’s NYC income for 2009.

Taxpayer’s gain from the sale of the Property was properly subject to NYC corporate tax, the TAT continued. However, if Taxpayer were permitted to report the gain on the sale using the installment method for NYC tax purposes, Taxpayer would avoid paying NYC tax on the deferred gain reflected in the payments due under the installment sale of the Property after it ceased to do business in the City. With the exception of the gain reflected in the first installment payment (in 2009), the entire gain on the sale of the Property would permanently escape City tax.

The TAT noted that the Administrative Code allows the Dept. to disregard a taxpayer’s method of accounting where it results in the understatement of income subject to the corporate tax: “The [Dept.] may, whenever necessary in order properly to reflect the entire net income of any taxpayer, determine the year or period in which any item of income . . . shall be included, without regard to the method of accounting employed by the taxpayer . . .”

The TAT cited the following example interpreting the corresponding provision of the NY Tax Law: “A foreign corporation sells its [NY] real estate on an installment basis, and terminates its taxable status in [NY] in the year of the sale. The full profit on the sale must be included in entire net income in the year of the sale.”

Further, the TAT continued, “long-standing published statements of [Dept.] policy provide that the installment method of accounting should be disregarded when a corporation files a final return and ceases to do business in the City after selling its assets in an installment sale.” Unless Taxpayer can establish that it continued to do business in the City after 2009, the TAT stated, the Dept. was authorized under the Administrative Code to disregard Taxpayer’s use of the installment method and tax the entire gain from the sale of the Property in 2009.

As for Taxpayer’s argument that it remained in business by virtue of its maintenance of a bank account in the City, to which deposits from the sale of the Property were regularly made, the TAT replied that “[a] corporation will not be deemed to be doing business, employing capital, owning or leasing property in a corporate or organized capacity . . . in [the City] because of the maintenance of cash balances with banks . . . in” the City.

Thus, the maintenance of accounts at a bank branch in the City was insufficient, by itself, to establish that Taxpayer was doing business in the City after 2009. Taxpayer’s bank records provided no proof that Taxpayer was “doing business” in the City.

The only recurring item of any substance in Taxpayer’s bank records, the TAT noted, was the monthly deposit of $54,000. However, by asserting that these recurring receipts were the installment payments for the sale of the Property, Taxpayer brought itself squarely within earlier published Dept. rulings in which the taxpayer sold all of its assets under the installment method and its only activity was to collect the payments under the installment obligation. These rulings concluded that the taxpayer had ceased doing business in the City and that the Dept. properly exercised its authority to disregard the installment method and tax the entire gain in the year of the sale. The mere holding and collecting on an installment obligation received from the sale of property in the City did not constitute engaging in a trade or business in the City.

Finally, the TAT observed that Taxpayer did not file any corporate tax returns since the 2009 tax year. Thus, Taxpayer’s own actions served to confirm that it ceased doing business in the City when it sold the Property in 2009.

Please Note

It pays to know; or, rather, if you know, you may not have to pay.

The foregoing provisions of NY and City law have certainly caught a number of unsuspecting – i.e., uninformed – taxpayers by surprise, resulting in their having to satisfy state and local income tax liabilities with respect to gain for which they have not yet received payment.

With appropriate planning, one may plan for such “phantom gain” and its effects may be alleviated.

What’s more, the acceleration of gain recognition applies only to taxable gain; for example, the disposition of NY/NYC real property in exchange for like-kind property outside the State/City (as part of a Sec. 1031 transaction) should not be affected by this rule – except to the extent gain is recognized because of the receipt of “boot” – at least for the moment; several states have considered the imposition of an “exit tax” in such cases, and NY may do so in the future as the need for revenues increases.

NYC Never Sleeps – But It Does Tax

“If I can make it there, I’ll make it anywhere.”  So begins one of the most iconic of musical tributes to New York City. It is sung at every Yankees game. It sums up the feelings of thousands of aspiring artists. As it turns, out, however, it also captures the reaction of many closely-held businesses that choose to make a go of it in The Big Apple.

No, I am not referring to the intensely competitive business environment that is NYC, nor am I referring to the high cost of rent and labor in NYC that reduce the margins of every business and challenge the bottom line of every business owner.

Rather, I am referring to the many different kinds of taxes that NYC imposes on closely-held businesses. No business owner can afford to begin operations in NYC without first educating himself as to the taxes that may be imposed upon his business for the privilege of operating in NYC, and the economic cost that these taxes represent.

What follows is a brief summary of these taxes. Some taxes will be familiar to most readers; others will come as a surprise to some readers. Still other taxes are unique to NYC. In some cases, different taxes are imposed upon the same base amount; in others, the application of the tax will depend upon the “tax residence” of the business owner.

Personal Income Tax (the “PIT”)

An individual who is a resident of NYC is responsible for paying NYC Personal Income Tax (at a maximum rate of 3.876%, inclusive of a special surcharge) on the income he derives from all sources, regardless of where the income is generated, and regardless of the nature of the income; for example, it includes a NYC resident’s operating income generated through a sole proprietorship or partnership, as well as dividends received by the NYC resident from a corporation.

On the other hand, a nonresident individual is not subject to PIT, notwithstanding that his income is generated within NYC; for example, a nonresident who is a member of a partnership that does business in NYC is not subject to PIT as to his share of partnership income attributable to NYC; whereas a NYC resident of that same partnership would be subject to PIT on his share of the partnership’s income.

Resident Status

A business owner who calls NYC home – who is “domiciled” in NYC – is a resident taxpayer. One who owns and operates a business in NYC, but who lives outside NYC, and who does not maintain a so-called “permanent place of abode” in NYC, is not a City resident.

However, if the business owner, or if the business, owns or rents an apartment in NYC that the owner may use personally, the business owner could be treated as a City resident for purposes of the personal income tax by virtue of the number of days (more than 183) he spends working in NYC, even if he uses the apartment only infrequently (and even if the apartment is located in a borough other that the one in which the business is located).

Business Corporation Tax (the “BCT”)

Effective for tax years beginning on or after January 1, 2015, several significant changes were made to NYC’s corporate income tax, including, for example, with respect to the nexus, the primary tax base, combined reporting (based on ownership rather than intercorporate transactions), and the apportionment/sourcing of income to NYC.

Unlike the PIT, which is based on residency, a corporation is subject to the BCT based on whether it is “doing business” (i.e., doing business, employing capital, owning or leasing property, or maintains an office) in NYC, for all or any part of its taxable year.  The BCT is imposed at a maximum rate of 8.85%. A corporation may be considered to be “doing business” in NYC if it is a partner/member in a partnership/LLC that does business in NYC.

A “corporation” for this purpose includes any entity that is formed as a corporation under state law, as well as an entity that elects (under the “check the box” rules) to be taxable as a corporation for federal tax purposes.

A foreign corporation is not treated as doing business (and thus, would not be subject to the BCT by virtue of certain de minimis activities, including, for example, (1) maintaining cash balances with NYC banks; (2) owning shares of stock or securities that are kept in NYC (as in a safe deposit box, safe, or vault); (3) the maintenance of an office in NYC by a director or officer of the corporation who is not employed by the corporation, provided the corporation is not otherwise doing business in NYC; (4) keeping books or records of the corporation in NYC if they are not kept by employees of the corporation and the corporation does not otherwise do business in NYC; (5) or any combination of the foregoing activities.

The tax is generally determined upon the basis of the corporation’s business income, or the portion thereof that is allocated within NYC. The term “business income” means the corporation’s entire net income, minus investment income and other exempt income. The term “entire net income” generally means total net income from all sources that the taxpayer is required to report to the IRS.

An “S corporation” and its “qualified subchapter S subsidiaries” are not subject to the Business Corporation Tax, but remain subject to the pre-2015 provisions of the General Corporation Tax. NYC does not recognize “S-Corporation” elections, and thus, the S corporation itself is subject to the entity-level BCT (unlike for federal and New York State purposes).

Unincorporated Business Tax (the “UBT”)

NYC imposes the UBT on the unincorporated business taxable income of an unincorporated business (e.g., a partnership) that is wholly or partly carried on within NYC at a rate of 4%. If an unincorporated business is carried on both within and without NYC, a portion of its business income must be allocated to NYC. The UBT is an entity-level tax, and thus, unincorporated business taxable income is subject to both the UBT and, in the case of a NYC resident, the PIT (unlike for federal and New York State purposes, which generally do not impose an entity level tax on unincorporated business income).

An “unincorporated business” means any trade or business conducted or engaged in by an individual (a sole proprietorship) or unincorporated entity, including a partnership. If an individual or an unincorporated entity carries on two or more unincorporated businesses in NYC, all such businesses will be treated as one unincorporated business for the purposes of the tax.

An unincorporated entity will be treated as carrying on any trade or business carried on in whole or in part in NYC by any other unincorporated entity in which the first unincorporated entity owns an interest.

An individual or other unincorporated entity, except a dealer, shall not be deemed engaged in an unincorporated business solely by reason of (A) the purchase, holding and sale of property for his or its own account, (B) the acquisition, holding or disposition, other than in the ordinary course of a trade or business, of interests in unincorporated entities that are themselves acting for their own account, or (C) any combination of such activities. The term “property” generally means real and personal property, including, for example, stocks or bonds.

An owner of real property, a lessee or a fiduciary will not be deemed engaged in an unincorporated business solely by reason of holding, leasing or managing real property. In general, if an owner, lessee or fiduciary (other than a dealer) who is holding, leasing or managing real property, is also carrying on an unincorporated business in NYC, whether or not such business is carried on at, or is connected with, such real property, such holding, leasing or managing of real property shall not be deemed an unincorporated business if, and only to the extent that, such real property is held, leased or managed for the purpose of producing rental income from such real property or gain upon the sale or other disposition of such real property.

In general, the term “unincorporated business gross income” means the sum of the items of income and gain of the business includible in gross income for federal income tax purposes (with certain modifications), including income and gain from any property employed in the business, or from the sale or other disposition by an unincorporated entity of an interest in another unincorporated entity if, and to the extent, such income or gain is attributable to a trade or business carried on in NYC by such other unincorporated entity.

The term “unincorporated business deductions” of an unincorporated business generally means the items of loss and deduction directly connected with or incurred in the conduct of the business, which are allowable for federal income tax purposes for the taxable year (with certain modifications).

If an unincorporated business is carried on both within and without NYC, a portion of its business income must be allocated to NYC.

Commercial Rent Tax (the “CRT”)

NYC requires most tenants to pay the CRT based on the tenant’s base rent (generally at an effective rate of 3.9%) where the annual base rent exceeds $250,000. The CRT is imposed only with respect to “taxable premises.”

The term “taxable premises” generally means any premises located south of the center line of 96th Street in Manhattan that are occupied or used for the purpose of carrying on any trade, business, or other commercial activity, including any premises that is used solely for the purpose of renting the same premises in whole or in part to tenants. Physical occupancy of the premises by the tenant is not required – a tenant’s possessory right to the premises makes them taxable.

The term “base rent” means the amount paid, or required to be paid, by a tenant for the use or occupancy of premises for an annual period, whether received in money or otherwise, including all credits and property or services of any kind, and including any payment required to be made by a tenant on behalf of a landlord for real estate taxes, water rents or charges, sewer rents, or any other expenses (including insurance) normally payable by a landlord who owns the realty, other than expenses for the improvement, repair or maintenance of the tenant’s premises, with certain adjustments.

Sales and Use Tax (the ‘SUT”)

In general, the Sales Tax applies to retail sales of tangible personal property made, and to certain services rendered, where such property or services are delivered within NYC. The SUT also applies to tangible personal property or services that are purchased outside NYC and then used within NYC. The SUT is imposed in addition to, and is administered together with, the New York State sales and use tax.

The SUT rate is 4.5%. Every vendor of property and services subject to the SUT is required to collect the SUT from the purchaser of such property or services. In addition to the SUT, taxable “retail sales” are also subject to the NYS sales and use tax of 4% and a Metropolitan Commuter Transportation District surcharge of 0.375%, thereby bringing the total NYC sales and use tax rate to 8.875%.

Real Property Transfer Tax (the “RPTT”)

The RPTT is imposed on the conveyance of real property, including certain economic interests in real property, situated in NYC. The RPTT is imposed in addition to the NY State Real Estate Transfer Tax.

The RPTT, which is payable by the grantor, applies whenever the consideration for the sale or other transfer is more than $25,000. The tax – which is usually paid as part of the closing costs at the sale or transfer of real property – is imposed as follows: in the case of an interest in non-residential real property, if the value is $500,000 or less, the rate is 1.425% of the consideration; if the value is more than $500,000 the rate is 2.625%.  (The New York State Real Estate Transfer Tax applies to transfers in excess of $500, and is imposed at a rate of 0.40% of the consideration.)

A taxable sale includes, among other things, the sale of real property, the grant of a lease of real property (unless the only consideration paid constitutes rent), and the sale of a leasehold interest. The tax is also imposed with respect to the sale or transfer of at least 50% of the ownership in a corporation, partnership, or other entity that owns or leases real property in NYC (and there have been legislative proposals to impose RPTT on all transfers of interests in entities that own or lease real property in NYC, not just those transfers of at least a 50% interest).

Certain transfers are exempted from the tax; among these are the following: a pledging of real property solely as security for a debt; a transfer from an agent or “straw man” to its principal (or vice versa); a transfer that effects a mere change of identity or form of ownership or organization, with no change of the beneficial ownership.

“Hand[s] in the Air for the Big City”? (apologies to Alicia Keys)

No, it’s not a hold-up – more likely a plea for divine intervention – but based upon the above description of some of NYC’s business-related taxes, it certainly may feel that way to a business owner operating in NYC. The number of different taxes for which returns must be filed and taxes paid, and the magnitude of the tax rates, will certainly make some businesses pause before venturing into NYC – even after accounting for the deductibility of some of these taxes for federal income tax purposes, for example – especially when one factors in the other costs involved.

That being said, there may be valid business reasons for a “taxable presence” in NYC, including the panache and visibility of a City address, the proximity to a sophisticated market, and the convenience afforded to certain clients or customers.

These business reasons need to be weighed against the costs of a NYC presence, and that includes City taxes.

Last month, Governor Cuomo presented his budget proposal for NY State’s 2017- 2018 fiscal year. Included in the proposal were a number of tax provisions that should be of interest to closely-held businesses and their owners.

S-Corporation Conformity with IRS Return

Under current NY law, a federal S-corporation that is subject to tax in NY (e.g., the corporation is doing business or owns property in NY) can “elect” to be taxed as an S-corporation or as a C-corporation for NY purposes. If a federal S-corporation is taxed as a NY S-corporation, the corporation is responsible only for the fixed dollar minimum tax, and the corporation’s income is passed through, and taxed, to its shareholders. Conversely, if a federal S-corporation is taxed as a NY C-corporation, it computes and pays tax on its apportioned entire net income or capital base.

Further, if a federal S-corporation has elected to treat its wholly-owned corporate subsidiary as a “qualified subchapter S subsidiary” (QSSS) for federal purposes, the QSSS is ignored as a separate taxable entity, and the assets, liabilities, income and deductions of the QSSS are included on the parent’s return. However, for NY purposes, the tax treatment of the QSSS is not required to be conformed to the federal treatment and the QSSS under certain circumstances can be a stand-alone C-corporation taxpayer.

While the Tax Law was amended a few years back to mandate that a federal S-corporation be treated as a NY S-corporation in any tax year in which its investment income exceeded 50% of its federal gross income, this mandate did not cover the entire universe of federal S-corporations that have elected to be taxed as NY C-corporations.

According to the budget proposal, the failure to mandate consistent treatment at the State level has resulted in a tax avoidance opportunity, as well as confusion and tax filing errors, for S-corporation shareholders.

For example, a federal S-corporation generally may choose to pay tax as a NY C-corporation when paying tax at the entity level reduces the corporation’s tax liability. It also may choose to pay corporate income tax in order to shield its nonresident shareholders from having a NY tax liability.

Under the budget proposal, NY’s tax law would be amended to require a federal S-corporation that is subject to tax in NY, or that has a QSSS subject to tax in NY, to be treated as an S-corporation for NY tax purposes.

According to the proposal, requiring conformity to the federal S-corporation status would simplify the corporation’s and its shareholders’ NY tax filings, and eliminate potential tax avoidance schemes. It would also result in NY-source income for nonresident shareholders.

Real Estate Transfer Tax on the Transfer of a Business Interest

Under current law, the transfer of a “controlling interest” in an entity that owns NY real property is subject to the real estate transfer tax (“RETT”), with the taxable consideration being determined by reference to the relative fair market value (FMV) of the entity’s NY real property. The RETT applies even where the FMV of the NY real property is not a significant part of the entity’s total FMV.

However, members of a closely-held business entity that owns real property are not subject to the RETT when they sell a minority (non-controlling) interest in the entity, even where the primary asset held by the entity is an interest in NY real property.

The budget proposal would amend the definition of “conveyance” to include the transfer of an interest in a partnership, LLC, S-corporation, or non-publicly traded C-corporation with fewer than 100 shareholders that owns an interest in NY real property with a FMV that equals or exceeds 50% of the FMV of all the assets of the entity on the date of the transfer of the interest in the entity. Only those assets that the entity owned for at least two years before the date of the transfer of the taxpayer’s interest in the entity would be used in determining the FMV of all the assets of the entity on the date of the transfer.

The consideration for such a conveyance would be calculated by multiplying (i) the FMV of the NY real property that is owned by the entity; and (ii) the percentage of the entity that is being conveyed.

As an aside, the proposal would effectively align the treatment of these conveyances, for purposes of RETT, with the personal income tax rules for determining the NY-source income of a nonresident individual when that individual sells an interest in an entity that owns NY real property.

Non-Resident Asset Sale “Loophole”

There are instances in which the purchase of a partnership interest may be treated, for federal tax purposes, as a purchase of the partnership’s underlying assets. In those situations, the consideration paid for the partnership interest must be allocated among the partnership’s underlying assets (which are deemed to have been acquired). As a result of this tax treatment, the buyer of the interest may receive a basis step-up with respect to his share of the partnership’s underlying assets. This step-up may afford the buyer additional depreciation deductions against his share of partnership income, and also may reduce the gain allocated to the buyer upon the partnership’s sale of the assets to which the basis step-up is allocated.

The selling partner, however, may nevertheless be treated as having sold his partnership interest, and not the underlying assets. Thus, a NY resident partner who sells his partnership interest will be subject to tax on the gain realized. On the other hand, the sale of an intangible – such a partnership interest – by a nonresident partner is not a taxable transaction, notwithstanding that the buyer may achieve a basis step-up in the partnership’s assets. As a result, non-residents are afforded an opportunity to avoid NY taxation on transactions that, in effect, involve the purchase of NY-source assets.

The budget proposal seeks to close this loophole by treating the transaction as a sale of the partnership’s underlying NY-based tangible assets for both the buyer and seller, so that the gains realized from the sale of an interest in the partnership by nonresident partners would be subject to NY tax as NY-source income.

Extend the Personal Income Tax Top Bracket

Currently, the top personal income tax bracket in NY, along with its associated tax rate of 8.82%, is scheduled to expire for taxable years beginning after 2017. Without legislative action, the top marginal tax rate will decline to 6.85%.

The budget proposal would extend the top tax bracket and the associated 8.82% personal income tax rate for taxable years 2018, 2019 and 2020.

Sales Tax Related Entity “Loopholes”

With certain exceptions, existing NY tax law allows a purchaser to buy tangible personal property or services that are intended for resale without paying sales tax. According to the budget proposal, however, certain related business entities have exploited this exemption by purchasing expensive property “for resale” and then leasing the property to a member or owner of the entity using long-term leases or lease payments that are a small fraction of the FMV of the property.

The budget proposal would amend the sales tax definition of “retail sale”, which currently contains the exception for resale, to include any transfer of tangible personal property to certain entities when the property would be resold to a related person or entities, including: (1) sales to single-member LLCs or subsidiaries that are disregarded for federal income tax purposes, for resale to a member or owner; and (2) sales to a partnership for resale to one or more partners. This change is intended to remove the incentive to use or create such entities to avoid sales tax.

In addition, current law allows a person or entity that is not a resident of NY to bring property or services into the State for use therein without incurring use tax. However, this construct has led to situations where a resident person or entity creates a new, non-NY entity, such as a single-member LLC, to purchase expensive property out-of-state and then bring the property into NY to avoid the use tax.

The budget proposal would provide that the use tax exemption does not apply when a person (other than an individual) brings property or services into NY unless that person has been doing business outside of NY for at least six months prior to the date the property is brought into the State. This amendment would still allow ongoing businesses to move into NY without incurring use tax on property or services brought into the State.

Looking Ahead

And you thought that tax relief was just around the corner. Silly rabbit.

While most eyes are focused on Washington, D.C. and the promised, but yet to be disclosed, “tax reduction and/or reform” legislation, states like NY are busy reviewing and amending their own tax laws and regulations to ensure the collection of much-needed revenues. Thus, in the case of NY, it may be that closely-held businesses and their owners will be faced with increased tax liabilities. We’ll know soon enough – the deadline for approving NY’s budget is April 1, 2017.

Speaking of Washington, the States themselves are undoubtedly waiting to see what comes out of the new administration and Congress and how it will impact them and their finances.

As always, until legislation is passed, it is imperative that taxpayers keep abreast of tax-related legislative developments that may impact their business and wallets. Increased tax liabilities will reduce the yield realized from one’s business efforts and investments; thus, it will be advisable for taxpayers to formulate a plan for addressing these developments and any resulting taxes.

It will be equally important that any business plans considered by a taxpayer be flexible enough to respond to, and accommodate, a changing tax environment, provided that doing so does not compromise business decisions.

Stay tuned.