Are Nonresident Pension/Retirement Benefits Taxable in Ohio?

As noted in our prior article regarding Disclaiming Ohio Tax Domicile for Income Tax Purposes, former Ohio residents who move outside Ohio for retirement or otherwise often seek to maintain some contact with Ohio – perhaps retaining a home or business here. But, what happens when retirees leave Ohio to settle elsewhere for their golden years, yet continue to receive a pension or retirement income from their prior work in Ohio? Generally, the answer is that nonresident retirement benefits are not taxable for Ohio income tax purposes, so long as they qualify as a covered type of “retirement income.” This article will provide a brief overview of this exclusion for Ohio state income tax purposes, while also noting some potential risk with respect to Ohio local income tax relating to nonresident pension benefits.

Nonresident Retirement Benefits Excluded from Ohio Income Taxation

Federal law prohibits a State (including any political subdivision of a State) from imposing an income tax on any retirement income of an individual who is not a resident or domiciliary of that State (as determined under the laws of that State). 4 U.S.C. Sec. 114(a), (b)(3). For purposes of the federal prohibition, “retirement income” is defined at 4 U.S.C. Sec. 114(b)(1)(A) through (I). Instructively, in 1996 the Ohio Department of Taxation (ODT) issued Information Release No. 3/11/1996 (later revised and superseded in May 2007) (the Information Releases) in response to the above-noted federal prohibition.

The Information Releases provide fairly detailed guidance as to the circumstances under which a nonresident retiree’s retirement benefits may become subject to Ohio tax/tax withholding despite the federal prohibition. The circumstances are limited, but as always it is best to consult your tax attorney or consultant to fully review your facts and circumstances along with applicable guidance to determine taxability of any income.

Ohio Localities Taxing Nonresident Retirement Benefits

The Ohio Board of Tax Appeals (OBTA) in Nationwide Mut. Ins. Co. et. al. v. City of Columbus Board of Tax Appeals et. al., Ohio BTA No. 2010-1590, May 12, 12015, 2015 WL 2338054 (Nationwide) considered a taxpayer challenge to a municipal income tax on retirement benefits of a nonresident. As noted, this differs from the initial question presented in that it was a challenge to Ohio municipal income tax as opposed to Ohio state income tax, but it is worth reviewing as it indicates a different result for local income taxability of nonresident retirement income.

Interestingly, the OBTA upheld the City of Columbus Municipal Board of Tax Appeals’ (MBTA) decision finding that the employers were required to withhold municipal income tax on the nonresidents’ retirement benefits. Among other arguments, the taxpayers contended that:

  1. The Columbus income tax ordinance required withholding by employers from employees’ income only, such that once the employment relationship terminated, no further withholding could be required. The OBTA rejected this argument as too restrictive a reading of the ordinance.
  1. The Columbus income tax ordinance did not tax pension income. The OBTA recognized that the income/benefits from the retirement plan at issue constitute a pension benefit, but rejected the taxpayers’ argument stating “we find no support in the city ordinances for [the taxpayers’] claim that the city does not tax pensions . . . .” The taxpayers had cited the Columbus income tax instructions in support of this claim, but the OBTA noted it found no similar reference in the Columbus ordinances.
  1. Federal law (4 U.S.C. Sec. 114) prohibited the city from taxing the nonresidents’ retirement benefits and the MBTA’s decision otherwise was error. In reviewing this argument, the OBTA stated that this federal prohibition relates to imposition of tax based upon a state’s statutory scheme. Thus, the OBTA stated that because there is no Ohio state law preventing the municipalities from imposing tax on nonresident retirement income, the OBTA did not need to address the federal prohibition.

Summary & Biz&TaxHax Tip:

The OBTA’s decision in Nationwide appears to be an incorrect analysis of the federal law prohibiting State taxation of nonresident retirement income, and which clearly includes “political subdivisions of a State” (such as cities, townships, villages) in the prohibition. All of this discussion aside, Nationwide doesn’t affect the federal prohibition as it relates to Ohio income tax on nonresident retirement income. It is important for former Ohioans (or those considering retiring outside Ohio) to consult an experienced Ohio tax attorney or consultant to ensure proper tax domicile review and planning based on their specific facts and circumstances. An Ohio tax lawyer or Ohio tax consultant can assist you in: determining taxability of particular items of income (such as retirement or pension benefits), evaluating your specific facts and circumstances to support non-Ohio domicile under common law, and filing the Affidavit to obtain the appropriate tax results.

 

Ohio Supreme Court Adds Difficulty for Out-of-State Retirees or Executives Seeking to Disclaim Ohio Domicile for Income Tax Purposes

Establishing Domicile Outside Ohio: Affidavit and Statutory Presumption Pre-March 23, 2015

When former Ohio residents decide to move outside Ohio, they often seek to maintain some contact with Ohio, yet establish tax domicile in their new state of residence. There are a few common (often interrelated) reasons that Ohioans decide to leave the state, such as:

1. Retirement (often to Florida, to avoid cold, snowy Ohio winters);

2. Work (as part of a transfer, or perhaps an executive who performs most of his/her duties outside Ohio); and

3. Obtaining a lower (or zero) state income tax rate (often high or fixed income individuals, such as executives or retirees).

Until recently, a retiree or executive moving his or her primary residence from Ohio to another state could more easily maintain some contact with Ohio, while also establishing tax domicile outside Ohio. This way, the taxpayer could obtain an income tax benefit (or at least avoid having tax reporting and payment obligations in both the new state and Ohio), and keep some ties with his/her former home state.

To ensure tax domicile outside Ohio and obtain the above-noted benefits, the taxpayer could file an Affidavit of Non-Ohio Domicile with the Ohio Department of Taxation, attesting that during the tax year he/she was not domiciled in Ohio because he/she had:

1. Fewer than 213 (effective 3/20/2015; previously, fewer than 183) Ohio contact periods; and

2. An abode in a state outside Ohio.

Under Ohio law, as long as the taxpayer’s Affidavit did not contain a false statement, this filing created an irrebuttable presumption that the taxpayer was not domiciled in Ohio during the tax year. See R.C. 5747.24(B)(1).

March 23, 2015 Forward: Ohio Supreme Court Decision Invalidates Affidavit Presumption of Non-Ohio Domicile

The recent Ohio Supreme Court decision in Cunningham v. Testa, Slip Opinion No. 2015-Ohio-2744, basically rendered this statutory presumption of non-Ohio domicile (where a taxpayer files the Affidavit of Non-Ohio Domicile) ineffective. In Cunningham, the Court reasoned that the Affidavit must still be supported by facts and circumstances that would withstand the common law test of domicile. So, it is no longer enough to simply file the Affidavit attesting that the taxpayer has fewer than 183 Ohio contact periods for the year and is not domiciled in Ohio. One needs to actually review the taxpayer’s relevant facts and circumstances related to determining domicile under the common law rule.

Under common law, domicile is a question of intent–whether the taxpayer intends to remain in a jurisdiction permanently, or at least indefinitely–based on all relevant facts and circumstances. A non-exhaustive list of facts and circumstances relevant to determining domicile include:

1. Filing federal income tax returns (address listed on federal returns);

2. Voter registration;

3. Automobile registration;

4. Driver’s license;

5. Location of spouse and children;

6. Mailing address/address where mail is received;

7. Various exemption/credit/etc. application filings (in Cunningham, the taxpayer’s had claimed a homestead exemption application for their Cincinnati home prior to later filing the Affidavit of Non-Ohio Domicile, which was inconsistent);

8. Courts will also look to the place where an individual was: born, raised, educated, married, resided for significant time, etc.

Effectively, following the Cunningham decision it appears that a taxpayer can still use the Affidavit, but it is important to do a self-review of factors to ensure that the total facts and circumstances support the taxpayer’s Affidavit claiming non-Ohio domicile. In other words, it seems that a taxpayer can’t simply rest on the fact that he has less than 183 contact periods in Ohio and has another residence outside Ohio during the tax year to claim no Ohio domicile (as many previously believed would suffice) – the weight of all relevant facts and circumstances must support the position as well.

Summary & Biz&TaxHax Tip

In summary, the Cunningham decision seems to provide the Ohio Department of Taxation significant authority and leverage to require taxpayers filing the Affidavit to further support domicile outside Ohio by the weight of common law factors. So, unless and until the Ohio Legislature addresses this Ohio tax domicile issue, Cunningham appears to be the controlling rule. Accordingly, it is important for former Ohioans (or those considering a move outside Ohio) to consult an experienced Ohio tax attorney or consultant to ensure proper tax domicile review and planning based on their specific facts and circumstances. An Ohio tax lawyer or Ohio tax consultant can assist you in evaluating your specific facts and circumstances to support non-Ohio domicile under common law, and filing the Affidavit to obtain the appropriate tax results.

Tax Tips for Entrepreneurs and Business Owners – Part 4: The Business Start-Up Cost Deduction

The fourth article in the Tax Tips for Entrepreneurs and Business Owners series focuses on the business start-up cost deduction. This article highlights the importance of the business start-up deduction for entrepreneurs. This article briefly explains the business start-up cost deduction, the general test to qualify for the deduction, and some key tips.

What is the Business Start-Up Cost Deduction and How Can My Company Qualify?

The business start-up cost deduction allows an entrepreneur to take a current tax deduction for certain expenses incurred prior to, and for the purpose of, beginning the company. The deduction is limited to $5,000, and phases out on a dollar-for-dollar basis once the total qualifying start-up and organizational costs exceed $50,000. The entrepreneur must then amortize–or deduct pro-rata over a specified period of time–the remaining eligible start-up and organizational costs.

To qualify, the entrepreneur must have incurred eligible: (1) Start-Up Costs; or (2) Organizational Costs necessary to begin an active trade or business. Start-up costs include any amounts paid or incurred in connection with creating an active trade or business or investigating the creation or acquisition of an active trade or business. Organizational costs are the expenses associated with creating a corporation or partnership.

Which Costs Qualify as Deductible Start-Up or Organizational Costs?

Qualifying Start-Up Costs include:

  1. Analyses or Surveys of potential markets, products, labor supply, transportation facilities, etc.
  2. Advertisements for the opening of the business.
  3. Salaries and Wages for employees who are being trained and their instructors.
  4. Travel and other necessary costs for securing prospective distributors, suppliers, or customers.
  5. Salaries and Fees for executives and consultants, or for similar professional services.
  6. Investigative costs incurred as part of a general search for or initial evaluation a business to be acquired/purchased. These are the costs that help the entrepreneur decide whether to purchase the particular business.

BizAndTaxHax Tips: Start-up costs do not include deductible interest, taxes, research and experimental costs, or costs incurred as part of attempting to purchase a specific business. These expenses must be capitalized instead.

Qualifying Organizational Costs include:

  1. The cost of Temporary Directors.
  2. The cost of Organizational Meetings.
  3. State Incorporation Fees or Filing Fees.
  4. The cost of Legal Services for organization of the company, such as negotiation and preparation of the company’s organizing agreement.
  5. The cost of accounting services incident to organization of the business.

BizAndTaxHax Tips: The following expenses must be capitalized, rather than currently deducted and amortized: costs for marketing, issuing, and selling stock, securities, or company interests (such as commissions, professional fees, and printing costs); costs related to acquiring assets for the business or transferring assets to the business; costs for admitting or removing partners, shareholders, or members, other than at the time the company is first organized; costs of drafting an agreement concerning the operation of the business, including a contract between a partner, member, or shareholder and the company. These expenses must be capitalized.

Determining whether your company’s start-up or organizational costs are currently deductible and amortizable, or rather must be capitalized, is a specific factual and circumstantial analysis. So, as always, you should discuss your specific situation with a tax attorney and your accountant to obtain advice concerning deductible start-up or organizational costs for your newly formed business. An experienced tax lawyer can help you determine whether your start-up or organizational costs qualify for current deduction, and assist with electing the deduction and keeping the required documentation to support it. If you are a Columbus or Ohio entrepreneur or small business owner and need help preparing for tax return filing season and planning for the future, contact me for a free initial consultation.

Tax Tips for Entrepreneurs and Business Owners Part 3: The Home Office Expense Deduction

The Tax Tips for Entrepreneurs and Business Owners series continues with this third article, concentrated on the home office expense deduction. This article focuses on the importance of the home office deduction for the entrepreneur or small business owner. The below discussion includes an explanation of the home office expense deduction, the test to qualify for and available methods to claim the deduction, and some key tips.

What is the Home Office Expense Deduction and How Can My Small Business Qualify?

The home office deduction allows a small business owner or entrepreneur to reduce tax liability based on expenses related to business use of a portion of his home. To qualify, the small business owner or entrepreneur must: (1) Regularly & Exclusively Use of part of his home as his (2) Principal Place of Business.

Generally, if a business owner regularly–say a few hours per day–works in a space solely dedicated as his home office, he should meet the regular and exclusive use requirements. But, this is a facts and circumstances based test, subject to many pitfalls. For instance, assume the area you utilize as a home office also contains gym equipment that you use to exercise. This could cause you to fail the exclusive use portion of the test, and lose the home office deduction.

Usually, if a business owner or entrepreneur at least uses his home office to complete administrative or management tasks without substantially using any other fixed office to do them, he can satisfy the principal place of business element. So, salespeople, tradespeople, or professional service providers (e.g., people who do most of their income-producing activity outside the home) are normally able to meet the principal place of business test by at least doing the administrative and management duties at the home office. Again, though, this determination depends heavily on facts and circumstances. So, overall, it is essential to consult with an experienced tax lawyer to review your specific situation before claiming the home office expense deduction.

Which Office Expenses Can I Deduct Related to My Small Business?

An entrepreneur or small business owner qualifying for the home office deduction may cut his tax bill by deducting the following types of expenses:

  1. Mortgage Interest;
  2. Insurance;
  3. Utilities;
  4. Repairs; and
  5. Depreciation.

These categories of expenses are important when a taxpayer uses the regular, or actual expenses method for computing the home office deduction. But, many entrepreneurs or small business owners prefer to calculate the home office deduction using the simplified method, as the record keeping requirements are less burdensome. An explanation of the home office expense deduction methods follows.

How Can I Claim the Home Office Expense Deduction?

  1. Regular/Actual Expenses Method. This option calculates the home office expense deduction based on the proportion of square feet the business owner’s home office bears to the total square footage of the home. As an example, if the home office is 200 square feet and the total square footage of the home is 1600, the deductible portion of the home is 12.5% (200/1600). Once you identify the deduction percentage, add up the items from each category of deductible expenses (see above) and multiply that amount by the deductible percentage to compute the amount of the deduction.
  2. Simplified Method. The IRS started allowing a simplified option for the 2013 tax year forward. Under this method, the business owner can simply multiply the allowable home office square footage (up to 300 square feet) by the defined rate (for 2014, $5 per square foot) to compute the home office expense deduction. So, if an entrepreneur used 200 square feet of his home for solely business purposes during 2014, his home office deduction would be $1,000 (200 x $5).

BizAndTaxHax Tips: Importantly, assuming you utilize the regular method, if you include the depreciation on your home as a deductible expense and later sell your home at a profit, you must pay capital gains tax on the total amount of depreciation deductions you claimed. Also, it is significant to note that the amount of the home office expense deduction is limited. Your deducted home office expenses may not exceed the amount of income attributable to your business–meaning you cannot use your home expenses to create a tax loss to shelter your income. Finally, the home office expense deduction varies for certain different types of businesses or industries. So, as always, you should discuss your specific situation with a tax attorney and your accountant to obtain specific advice concerning deductible expenses for your home office.

An experienced tax lawyer can help you determine whether your home office qualifies for the home office expense deduction, and assist with keeping the required documentation to support the deduction. If you are a Columbus or Ohio entrepreneur or small business owner and need help preparing for tax return filing season and planning for the future, contact me for a free initial consultation.

Tax Tips for Entrepreneurs and Business Owners – Part 2: The Section 179 Expense Deduction

This is the second article in the Tax Tips for Entrepreneurs and Business Owners series, which highlights a few of the frequent federal tax audit issues for business owners and provides some tips for avoiding federal tax compliance problems. This article focuses on the Section 179 expense deduction and its importance for the entrepreneur or small business owner.

What is the Section 179 Expense Deduction?

Section 179 of the Internal Revenue Code provides a very helpful tool for small business owners and entrepreneurs. Section 179 allows a business to expense–meaning claim a current tax deduction rather than depreciating over a number of years–certain property purchased during the tax year. This is very important for start-ups and small businesses, because it enables the entrepreneur or small business owner to: (i) purchase a useful or necessary business asset to help generate revenue; and (ii) save cash on current tax liability. As many readers will appreciate, saving cash for reinvestment and acquiring equipment or property needed to build revenue are essential for growing a new venture or scaling a small business. So, how can you determine whether the property you bought for your business qualifies for Section 179 expensing?

What Qualifies for Section 179 Expensing?

To qualify for Section 179 deduction, your property must be:

  1. Eligible Property; and
  2. Purchased for Business Use.

Generally, eligible property includes tangible personal property (such as machinery and equipment, vehicles, computers, telephones, office furniture, etc.), certain other tangible property, off-the-shelf computer software, and some other specific property. The determination of whether a particular piece of property qualifies for Section 179 expensing can be very technical and complex, and there are numerous restricted types of property that will not be eligible for this special deduction. So, you should consult with a tax attorney and your accountant before claiming the Section 179 deduction as to your business property purchases for a given year.

As noted above, property must be purchased for business use to be eligible for Section 179 expensing. Property is considered to be for business use when more than 50% of its use will be in business operations during the year it is placed in service. If property is used for both business and nonbusiness purposes, the business owner can take a proportionate deduction under Section 179 (provided, of course, that the business use is more than 50%). To calculate the proportionate Section 179 deduction, multiply the cost of the property by the percentage of business use and use the resulting amount to determine your Section 179 deduction.

What is the Dollar Limit on Section 179 Deductions?

Usually, the purchase price of qualifying property is the amount for Section 179 expensing (subject to any business-personal use apportionment, of course). But, Section 179 also includes dollar limits and an income limits on the deduction, which vary based on the facts and circumstances. For instance, certain property (such as passenger automobiles) is subject to specific dollar limitations for Section 179 expensing. Based on recent extension by Congress, though, the 2014 general dollar limitation for Section 179 deductions is $500,000. This means that a business owner can deduct up to $500,000 of qualifying property purchases under Section 179 for this year. Finally, it is important to note that the Section 179 deduction is reduced dollar for dollar to the extent the cost of eligible property purchased for the year exceeds $2 million. So, if you purchased qualified property for a total cost of $2.5 million and placed it in business service in 2014, the Section 179 deduction would be unavailable.

BizAndTaxHax Tips: Significantly, unless Congress again acts to extend the increase ($500,000), the dollar limit on Section 179 expensing is set to fall back to $25,000 for tax year 2015. So, if you made large capital asset purchases in 2014, it is important to coordinate with a tax lawyer and your accountant to properly expense the eligible property under Section 179 at return filing time. Otherwise, you may miss out on significant current tax savings if Congress does not extend the $500,000 deduction limit for 2015.

An experienced tax lawyer can help you determine whether particular property qualifies for Section 179 expensing, and assist with keeping the required documentation to support the deduction. If you are a Columbus or Ohio entrepreneur or small business owner and need help preparing for tax return filing season and planning for the future, contact me for a free initial consultation.

Tax Tips for Entrepreneurs and Business Owners – Part 1: The Business Vehicle Expense Deduction

As 2014 draws to a close, taxpayers should begin reviewing their annual income and expenses in preparation for filing required income tax returns and paying tax due. Importantly, entrepreneurs and small business owners should be especially diligent in this process, as there are numerous audit traps for the unwary Schedule C filer. This is the first in a series of articles that will highlight a few of the frequent federal tax audit issues for business owners, and provide some tips for avoiding federal tax compliance problems. This article focuses on the business automobile expense deduction as a potential pitfall for the unfamiliar, and offers tips for compliance.

Business Vehicle Expense Deduction 

Awareness of some typical audit traps is key to ensuring federal tax compliance, especially for entrepreneurs and start-ups who may be new to properly accounting for deductible expenses. One frequently audited area is the business automobile expense deduction. Costs associated with a business owner’s use of a vehicle for business purposes are tax-deductible, which is a very helpful savings tool. But, the federal tax rules for deducting business related automobile expenses are specific, making compliance difficult for many.

There are two methods for claiming deductible business vehicle expenses:

  1. Actual Expenses, Plus Depreciation Method. The business owner must record and document all deductible automobile-related expenses incurred for the business vehicle during the year. The following costs are deductible in proportion to the amount of business miles driven: gas, oil, repairs, tires, insurance, registration fees, licenses, and depreciation (or lease payments). Additionally, all business-related tolls and parking fees are deductible.
  2. Standard Mileage Rate Method. The business owner may deduct a percentage  (the standard mileage rate) of each business mile driven, plus all business-related tolls and parking fees. For 2014, the standard mileage rate is 56 cents per business mile travelled.

There are very specific rules that determine which of the above business vehicle expense deduction methods are available to a particular business owner. Certain facts and circumstances trigger different rules.

For instance, to qualify to use the standard mileage method, a business owner must utilize that method in the first year the vehicle is used in business activity. Additionally, the standard mileage deduction is not available to business owners who have used accelerated depreciation in prior years, or expensed the vehicle under Section 179 of the Internal Revenue Code. Moreover, only business-use mileage is tax-deductible, meaning proper business-to-personal mileage allocation is essential for a vehicle that is used for both purposes. Importantly, these examples are not exclusive. So, it is important to consult with your tax attorney and accountant before implementing a particular business vehicle expense deduction method for your business.

Biz&TaxHax Tips: Regardless of which deduction method a business owner uses, one thing is certain: documentation is king in surviving an audit. The best way to properly document business automobile expenses to support deduction is to maintain a detailed mileage log (listing the date, business purpose, departure location, destination, mileage, and before and after vehicle odometer reading) and records of actual expenses (invoices, receipts and proof of payment for: gasoline, oil changes, maintenance and repairs, tires, etc.) for each vehicle used in the business for the year. This way, it is less likely that you will make any mistakes in claiming deductible automobile expenses on your tax return and you will be in a much better position to show that your return was accurate, if audited.

An experienced tax lawyer can help you determine which deduction method is available and best for your business, and assist with keeping the required documentation to support the deduction. If you are a Columbus or Ohio entrepreneur or small business owner and need help preparing for tax return filing season and planning for the future, contact me for a free initial consultation.