The New York State Department of Taxation and Finance has released a discussion draft on a proposed unincorporated business tax (UBT) matched with a corresponding set of credits for partners of partnerships doing business in New York, as part of the state's overarching response to the federal Tax Cuts and Jobs Act. 

The proposal would impose a 5 percent tax on the unincorporated taxable income, which would be calculated by multiplying unincorporated business net income by a three-factor allocation percentage involving property, payroll and gross income percentages. 

With this tax would come three UBT credit provisions. One, the Unincorporated Business Credit (UBC) would give an affected partnership that is a partner in a lower-tier partnership a credit against the imposed tax, which is meant to prevent the state from collecting tax twice on the same income. This credit cannot exceed the UBT and will not carry forward. 

The other two credits are a personal income tax credit and a corporation franchise tax credit, collectively called the Credit for Unincorporated Business Tax; they are meant to mirror each other, as they will be used to offset the income and franchise tax of individual and corporate partners, respectively. The personal income tax credit is for 93 percent of the partner’s proportionate share of the UBT of the affected partnership; it would be nonrefundable and could be carried forward indefinitely. The corporation franchise tax credit has the same formula and limitations as the personal income tax credit, but cannot be applied against the fixed dollar minimum.

The New York State Department of Taxation and Finance suggested the UBT in a January report as one way the state might mitigate the impacts of recent changes to federal tax law, chiefly the new $10,000 limit on state and local tax (SALT) deductions, which had previously been unlimited.

“New York State would shift non-deductible individual income taxes to a deductible business tax on pass-through businesses, or some subset of pass-through businesses, and credit part or all of the value of the tax to the owners of the business on their personal income taxes. This could provide the benefit of preserving deductibility for individuals on certain non-wage income while maintaining revenue levels for the State,” said the January report.

Jeffrey S. Gold, tax director at LM Cohen & Company and former chair of the NYSSCPA’s New York, Multistate and Local Taxation Committee, noted that while other measures, namely the optional payroll tax that passed as part of the state budget, did much to address the SALT deduction cap, it left out those who do not get their money through wages, such as members of a partnership.

However Philip J. London, partner emeritus with Wiss and Company, the current chair of the New York, Multistate and Local Taxation Committee, and a member of the Tax Cuts and Jobs Act Ad Hoc Committee, noted that the proposal doesn’t necessarily cover everyone left out by the other two measures. While technically called an unincorporated business tax, he said it was something of a misnomer right now since it  covers only partnerships. S corporations, sole proprietors, single-member LLCs and other non-partnership pass-through entities are not included, but he noted that the discussion draft specifically asks whether it should include them too.

Both London and Gold said that there are a lot of unknowns and ambiguities in the proposal, which makes it difficult to predict how it would play out in the real world were it to pass. Gold wondered how it would interact with New York City taxes, whether there will be a new form, what the actual tax base would be and what types of income it applies to.

London raised many of the same points, and he also wondered how the tax will affect people who don’t live in New York state. He added that, in terms of complexity, it won’t make much of a difference for simple partnership structures, as “it will just be an extra page or so for calculation of the tax.” But for complex multi-tiered entities, the calculations could represent a challenge.

“For multi-tiered entities it will require two different taxable income calculations, because the personal income tax side of it requires a combination of total income and apportionment factors from the lower tier combined with the upper tier and then applied to all the income, whereas for the UBT it’s going to be the apportionment for the upper tier multiplied by the income of the upper tier plus the apportioned income of each of the lower-tiered entities added into the ownership tier,” he said.

Both Gold and London also expressed puzzlement over how the state settled on specifically 93 percent for the personal income tax credit.

London said that the New York, Multistate and Local Taxation Committee has formed a group to draft a comment letter on the matter.