Updating of Internal Revenue Code References; Expanded Section 179 Deduction for New Hampshire Business Profits Tax Purposes

The New Hampshire Business Profits Tax generally “piggybacks” on the provisions of the federal Internal Revenue Code, with certain New Hampshire-specific modifications. Since the Internal Revenue Code is constantly changing, New Hampshire must decide each year whether to incorporate the Code’s latest changes. Until now, New Hampshire has been using the Internal Revenue Code as in effect on December 31, 2000, and has generally not adopted the changes made to the Code in the last 16 years. 

Chapter 295 conforms New Hampshire Law to most provisions of the U.S. Internal Revenue Code in effect on December 31, 2015 as the starting point for calculating New Hampshire Business Profits Taxes for all tax periods beginning on or after January 1, 2017.  This should be a welcome change to businesses and tax preparers who no longer have to utilize an Internal Revenue Code that is 16 years out of date when preparing business profits tax returns.

There are, however, several exceptions. The legislation does not adopt sections 168(k), 181 and 199 of the Code.  These excluded sections relate to bonus depreciation, deductions for qualified film and television productions, and the domestic manufacturing deduction.

One of the most widely felt changes will be New Hampshire’s increased “Section 179” deduction. Section 179 of the Internal Revenue Code allows businesses to expense the full purchase price of qualifying equipment with certain limitations. In 2012, New Hampshire had adopted a federal “Section 179” deduction capped at $25,000. Chapter 295 adopts the federal Section 179 provisions and quadruples the New Hampshire business profits tax deduction cap from $25,000 to $100,000. (The amount of the New Hampshire deduction cap does not conform to federal Section 179, under which the deduction is currently capped at $500,000.)

The new law applies to property placed in service on or after January 1, 2017. For property placed in service prior to January 1, 2017, the maximum IRC § 179 deduction for New Hampshire Business Profits Tax purposes is $25,000. If your business is contemplating a large equipment purchase at the end of 2016, you may want to discuss with your tax advisor postponing that purchase until on or after January 1, 2017 to take advantage of the expanded New Hampshire deduction.

Dreaded “Basis Step-Up Tax” No Longer Required

Chapter 300 relates to how a business treats the sale or exchange of an ownership interest that results in an increase in basis of assets under the Internal Revenue Code. Prior to enacting this new law, when an interest in a business was sold or exchanged, the business effectively had to pay New Hampshire Business Profits Tax on the increased basis in the business’s underlying assets for federal income tax purposes. (This commonly occurs, for example when a 754 election or a 338(h)(10) election is made for federal tax purposes.) This so-called “phantom tax” was unique to New Hampshire and often got in the way of completing certain business transactions where a “step-up” in basis for federal income tax purposes was desirable.  Chapter 300 now solves this problem by providing New Hampshire business profits taxpayers with two options. 

The default approach is to annually add back to gross business profits the amount of depreciation or amortization attributable to the increase in basis of the assets for federal tax income tax purposes, and to calculate the gain or loss on the sale or other disposition of an asset without regard to the basis increase recognized by any party to the transaction for federal income tax purposes, from the sale or exchange of the ownership interest in the business organization. 

Alternatively, a business organization may make an irrevocable election on its business profits tax return to recognize the basis increase of the assets for federal income tax purposes. If the election is made, the business organization: (1) must add to its gross business profits the net increase in the basis of all assets transferred or sold in the tax period, (2) may deduct against its gross business profits the depreciation or amortization attributable to the increased basis in the assets, and (3) must calculate the gain or loss on the sale or other disposition of the affected assets with regard to the increased basis in those assets.

These changes apply to sales or exchanges of interests in business organizations that occur on or after January 1, 2016. This welcome change will provide taxpayers with business transactions involving federal basis step-ups to complete those transactions more tax efficiently for New Hampshire business profits tax purposes.

Real Estate Transfer Tax Changes for Transfers Between an Entity and its Owners and Transfers Made for Financing Purposes

Chapter 288 creates an exemption from the real estate transfer tax for certain transfers that involve mere changes in the form of ownership. Generally, transfers of real estate from the owners of an entity to the entity, or from the entity to the owners of the entity, will be exempt from transfer tax provided that: (1) no consideration is exchanged for the transfer of real estate; and (2) the direct or indirect owners of the parties to the transfer remain the same before and after the transfer of the real estate, the respective ownership percentages of each are identical, and the combined assets and liabilities of the transferor and transferee remain the same except with respect to the real estate.

This change will allow individuals a way to transfer real estate held in their individual name to an entity without having to pay the real estate transfer tax. The transfer tax had previously inhibited the ability of New Hampshire business owners to transfer their real property into a business entity to gain liability protection. Conversely, there is now a path to get property out of a business entity and back to its owners without a real estate transfer tax being due.

The new law also specifies that transfers made solely to obtain financing or refinancing, as required by a lending institution, and that accomplish no other business purpose, shall not be considered sufficient consideration to make a transfer a “contractual transfer” that is subject to the transfer tax. The recitation of nominal consideration of $10 or other valuable consideration for purposes of satisfying the statute of frauds will not be deemed consideration for purposes of the transfer tax. This change effectively overturns the holding of the New Hampshire Supreme Court in First Berkshire Business Trust v. Department of Revenue Administration, 161 N.H 176 (2010) and clarifies uncertainty created by other recent court decisions and the lack of specificity in the law.

This alert provides a general discussion of the new legislation and is not intended as tax advice for specific transactions.