Sunday, January 30, 2011

Massachusetts Department of Revenue Offers an Opportunity to Withdraw “Binding” 2009 Worldwide or Affiliated Group Election

Administrative Guidance, Filing Elections:     On January 20, 2011, the Massachusetts Department of Revenue (“the Department”) issued Department of Revenue Directive 11-1: Limited Time Allowance for Withdrawal of Election Made in Connection with 2009 Combined Report, in response to the Department’s belief that some Massachusetts combined groups may have erroneously made either a worldwide or Massachusetts affiliated group election on their 2009 Massachusetts combined report. Directive 11-1 is significant in that it allows any Massachusetts combined group that made either election an opportunity to withdraw their election by March 15, 2011, provided they complete their withdrawal in a timely manner and in accordance with the procedures laid out in Directive 11-1.

Brief Overview of Worldwide and Massachusetts Affiliated Group Elections 

Under the Massachusetts combined reporting law, which become effective for tax years beginning on or after January 1, 2009, unitary groups subject to combination have the option of making one of two mutually exclusive filing elections to determine their Massachusetts taxpayer group. A taxpayer group may make an election to file either on a worldwide basis, or may elect to “limit” its “water’s-edge” group by making the Massachusetts affiliated group election. Absent an election, a Massachusetts unitary group must file on the default “water’s-edge” basis, which includes members that:
  • are incorporated or formed in any of the 50 United States, the District of Columbia, or in a U.S. territory or possession;
  • are incorporated or formed anywhere and that have property, payroll, and sales factors within the United States that average at least 20%; or
  • earn more than 20% of their income, directly or indirectly, from intangible property or service-related activities, the costs of which generally are deductible for federal income tax purposes, whether currently or over a period of time, against the business income of other members of the group.
A combined group which makes a Massachusetts affiliated group election is required to include in its Massachusetts combined group, any corporation which meets the 50% voting control required for Massachusetts combination, regardless of whether such corporation is engaged in unitary business operations with other combined group members, and any corporation that meets the water-edge definition above.  Because Massachusetts uses a lower 50% voting control (as opposed to the IRS’ 80% voting control or value) affiliation requirement and includes foreign entities that meet the “water’s-edge” definition regardless of which of the three filing methods is chosen, it is very possible for a Massachusetts affiliated group to include corporations which might not be included in the same taxpayer’s federal consolidated group. Additionally, the Massachusetts combined reporting law statutorily excludes certain types of corporations, such as Massachusetts Security Corporations and captive insurance companies, from inclusion in any combined group even if these corporations are unitary and meet the 50% control requirement.  Therefore statutorily "excluded" corporations can never be members of any Massachusetts affiliated group even if they might otherwise be members of the same federal consolidated group. 

Both the worldwide election and the Massachusetts affiliated group election must be made on an original, timely filed return by the principal reporting corporation in the first taxable year in which the group wishes the election to be effective and remains in effect for the next nine taxable years. Either election can be made in any taxable year which begins on or after January 1, 2009.

Combined Reporting Transition Issues

When Massachusetts adopted mandatory combined reporting in 2008 it represented a significant shift from Massachusetts’ historical separate reporting structure. The new law contained complex, and in some areas ambiguous, rules. For instance, the combined reporting law uses a Finnigan-style (but not a true Finnigan) apportionment, requires that corporations subject to different apportionment rules or tax rates be included in the same combined report if they meet the rules for combination, and contains complex rules relating to the use of and adjustments to pre-combination net operating losses. Anyone who has reviewed the 75 page combined reporting regulation that interprets the statute will likely agree that Massachusetts’ “new” combined reporting law is indeed complex. It was not surprising, therefore, that the 2009 taxable year, the first year of implementation, proved to be challenging.

Recognizing that taxpayers would likely be challenged in the first year of filing, the Department announced in Directive 10-1, that it would grant a seven month extension, one month longer than its normal six month extension, for any combined group taxpayer subject to filing Form 355U. However, as the October 15th deadline approached, the Department acknowledged in taxpayer and practitioner forums, that taxpayers where still struggling with implementation and tax return software issues.

Directive 11-1 represents the Department’s latest response to first year implementation issues, specifically to the Department’s concern, based on communications with taxpayers and taxpayer representatives, that some Massachusetts combined groups had erroneously made one of the two available elections on their 2009 combined report.  The Directive states that "the Department believes that some taxpayers inadvertently made one of the two elections because taxpayers: (1) mistakenly believed that they were required to pick either the affiliated group election or the worldwide election; (2) in the instance of the combined groups that made the Massachusetts affiliated group election, they did not understand the consequences of making the affiliated group election; and/or (3) were forced involuntarily to make one of the two elections by the tax software they were using."  (Note, the Department also disclosed in a subsequent practitioner forum, that a disproportionate number, more than 30%, of combined reports filed had elected affiliated group status.) 

The Directive further acknowledges that Question 2 and Question 3 of the 2009 Form 355U were potentially misleading. Specifically, Question 2, which read “Are you making or subject to an affiliated group election?” and Question 3, which read “Are your making or subject to a worldwide election?”, may have lead some taxpayers to believe the they were required to make an affirmative selection in either box 2 or 3 since the 2009 Form 355U failed to include a question or box that would specifically indicate a preference that neither election apply. Additionally, as all combined groups were required to file their 2009 combined report electronically, tax software glitches may have forced certain taxpayers to choose one of the two elections in order to complete their filing.

Procedure for Withdrawing Either Election

Any combined group which filed its 2009 combined report in a timely manner on or before January 31, 2011, and which made an election to file on a worldwide basis by checking box 2 on Form 355U or on an affiliated group basis, by checking box 3 on Form 355U, may file an on-line application to withdraw its election. The on-line application, which is available through the Department’s Webfile for Business, must be filed no later than March 15, 2011 by the combined group’s principal reporting corporation. There is no requirement that a combined group filing the on-line application justify their withdrawal by offering an explanation for their prior erroneous election.

Additionally, in the event that the withdrawal causes a change in the combined group’s 2009 Massachusetts tax liability, additional action is required as follows:
  • Where the withdrawal of the election results in an increase in the combined group’s 2009 tax liability, the taxpayer is also required to electronically file an amended 2009 combined report and remit any additional tax plus statutory interest. Penalties that might have otherwise been due on the underpayment of the tax liability, are not due and will not be assessed. 
  • Alternatively, if the withdrawal of the election results in a decrease in the combined group’s 2009 tax liability and the taxpayer is due a refund, the combined group must manually file a completed Form CA-6, Application for Abatement/Amended Return, requesting the refund.
In either situation, the taxpayer must file its electronic amended return, or its manual claim for refund, by March 15, 2011. Failing to file the on-line withdrawal application, an amended Form 355U or Form CA-6 by March 15, 2011 will cause the withdrawal request to not be recognized. The Directive states that any taxpayer who has difficulty filing a combined report (including the requisite amended report) should contact the Department’s Customer Service Bureau at (617) 887-MDOR (6367).

Finally, as the withdrawal does not constitute a revocation or termination of an election, the combined reporting rules regarding the length of time required before a new election can be made do not apply. Therefore a combined group that withdraws its affiliated group or worldwide election in accordance with Directive 11-1, may make either election on its 2010 combined report or in any subsequent taxable year report.

Sylvia's Summation 

More than two years ago, my former colleagues and I, in reporting on the Massachusetts combined reporting law, prophesized that the “new” law, which represented “a dramatic change to the Massachusetts corporate taxation scheme, would produce significant uncertainty for taxpayers that historically have not been concerned with the combined unitary approach in Massachusetts.” As evidenced by the Department’s 75 page combined reporting regulation and the latest transition issue, fully understanding and implementing Massachusetts’ combined reporting law may take more time.

I do commend the Department’s actions, however, in first recognizing and acknowledging that taxpayers may have inadvertently made one of the two elections and in secondly providing a procedure to withdraw their 2009 election with minimal consequences. Finally, because the Department is not requiring a reason or justification for the withdrawal, Directive 11-1 presents an opportunity for any combined group that made either election on its timely filed 2009 combined report to re-evaluate their election.  Careful consideration should be made prior to making either election, since once made, both elections remain in effect for a full ten year period.  Additionally, the affiliated group election, in particular, imposes additional conditions such as the requirement that all combined group income be treated as apportionable, even if such income would otherwise be allocable.  Finally, taxpayers may also have better information now (as opposed to when they filed their 2009 combined reports) regarding the long-term impact of their election and, therefore, may want to evaluate whether to withdraw their election, even if their election was intentional and not inadvertent.

For more on Massachusetts’ combined reporting law, Directive 11-1, and the Massachusetts Form 355U, see the following:

  Article: “An Analysis of Massachusetts’ Combined Reporting Tax Law: Regime Creates Dubious Discretion, Promises Uncertainty”, BNA Tax Management Multistate Tax Report, by Sylvia Dion, Giles Sutton and Jamie Yesnowitz, September 26, 2008

  Article: “Massachusetts Issues Proposed Regulation on Combined Reporting”, Journal of State Taxation, by Sylvia Dion, Giles Sutton and Jamie Yesnowitz, March - April 2009 edition

  Massachusetts’ Combined Reporting Regulation: 830 CMR 63.32B.2 Combined Reporting Income

  DOR Directive 10-5: Further Guidance Regarding the Application of the Combined Reporting Regulation, 830 CMR 63.32B.2

  DOR Directive 11-1: Limited Time Allowance for Withdrawal of Election Made in Connection with 2009 Combined Report

  The DOR’s Webfile for Business webpage.

  Massachusetts Form 355U, Income Excise for Taxpayers Subject to Combined Reporting

  Instructions to Massachusetts Form 355U Instructions


Interested in learning more about the Massachusetts combined reporting law?  Look for my upcoming Massachusetts Combined Reporting Law series in which I'll explain several aspects of the law in separate posts.

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