The legislature and governor of North Carolina made comprehensive tax reform one of their top priorities for the 2013 legislative session.
The previously existing North Carolina tax rates were high compared to neighboring states, making North Carolina relatively unattractive for relocation. Also, the state’s revenue streams were too dependent on income tax, a less predictable and thus more risky revenue stream in poor economic conditions.
The final deal reached in the negotiations did more to lower tax rates than to reduce reliance on the income tax, ultimately rendering the change to be more of a tax cut instead of the tax reform it was set out to be.
This article will highlight some of the key provisions of the recently passed North Carolina legislation and its effect on businesses in North Carolina. Many other changes in the new legislation apply solely to individual tax. You should consult with your tax adviser to understand how your personal as well as your corporate taxes are affected by the new tax law.
Businesses that operate in the forms of partnerships and S corporations pass through their income to the individual tax returns of their owners. The tax of those entities is not paid at the corporate level, but at the individual level. Therefore, the reduction of individual tax rates in North Carolina will affect the amount of business profits that need to be set aside for income taxes.
Income that has been taxed at rates of 6%, 7%, and 7.75% will be taxed at a flat 5.8% in 2014 and then to a permanent 5.75% beginning in 2015. The new top rate goes from the highest in the Southeast to the lowest among surrounding states, other than Tennessee, which has no broad individual income tax.
The corporate tax rate is reduced from 6.9% to an even 6% in 2014, and then to 5% in 2015. The law contains the possibility of further reductions to 4% in 2016 and 3% in 2017 if the state meets revenue growth targets. The corporate franchise tax applicable to C corporations and S corporations was not changed by the new law.
The research and development credit has been extended for two years through 2015.
North Carolina continues it’s decoupling from first-year bonus depreciation claimed on the federal return. This difference from the federal law required 85% of the bonus depreciation deduction claimed on the federal return to be added back to the North Carolina return. Amounts that were added back on the North Carolina in those years are deducted ratably over the next five years.
For 2010 through 2012, while a federal section 179 deduction for fixed asset additions was available up to $500,000, North Carolina limited the deduction to $250,000, with an 85% add back for the excess federal deduction. Like the add back for the bonus depreciation, amounts added back for the section 179 deduction are deducted equally over the next five years.
In 2013, the federal Section 179 deduction will again be limited to $500,000, but the North Carolina limit is $25,000, with a phase out of the deduction dollar-for-dollar if total fixed asset additions exceed $125,000.
The active business deduction of up to $50,000 on an individual return available in 2012 and 2013 will no longer be applicable in 2014.
Retail businesses should also be aware of sales tax changes that will apply beginning January 1, 2014. First, the sales tax holidays for school supplies and Energy Star appliances will no longer be provided. In addition, sales taxes will begin to apply to service contracts that are sold along with their related products.
The North Carolina estate tax has been eliminated effective January 1, 2013, and the repeal applies to the estates of decedents dying on or after that date. Consequently, business interests owned at death will only have to deal with a potential federal estate tax for the owner.
Elected officials in North Carolina are trying to help the state economy grow through tax policy. This is one of the most far-reaching pieces of tax legislation that has been passed by the North Carolina legislation in years. What this means to each taxpayer is unique to his or her tax situation. You should contact your tax advisor to help you better understand how this piece of legislation will affect you not only in 2013 but in 2014 and beyond.