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Massachusetts governor, Maura Healey, signed a $951 million tax package into law on October 4, 2023, marking a significant step in Massachusetts Tax Reform. This legislation brings about substantial alterations in the calculation of Massachusetts income for corporations, financial institutions, individuals, trusts, and estates.

Currently, corporations and financial institutions typically use a three-factor formula—comprising property, payroll, and sales/receipts—to apportion their net income. However, there are exceptions for manufacturing-focused corporations and mutual fund service providers, which already utilize a single sales factor formula for apportionment.

The upcoming Massachusetts Tax Reform legislation mandates a shift for all corporations and financial institutions to adopt a single sales factor formula for apportioning net income, effective from January 1, 2025. Following current regulations, partnerships will also be obliged to implement the single sales factor formula by this specified date.

Here are the key points:

Single Sales Factor Apportionment and Massachusetts Tax Reform:

Currently, only specific industries use a single sales factor apportionment formula. Starting January 1, 2025, this formula applies to all industries, including financial institutions. If both the numerator and denominator are zero, the corporation’s net income will be fully taxable in the state.

Financial Institutions Receipts Calculation:

Starting in 2025, financial institutions will change how they source receipts from investment and trading activities. This shift aims to make the calculation more consistent with market-based sourcing.

Short-Term Capital Gains Rate:

Massachusetts currently enforces a 12% tax rate on short-term capital gains, surpassing the state’s individual income tax rate of 5%. With the additional 4% Millionaires’ Tax, the overall rate can reach up to 16%. Initially proposing a reduction to 5%, Governor Healey’s push for tax relief led to a compromise in the legislature, resulting in a reduction to 8.5%, effective from January 1, 2023.

Other Tax Changes:

• Various tax credits are enhanced, including housing development project credits, low-income housing tax credits, apprenticeship credits, and dairy farmer tax credits.
• The Department of Revenue will study an additional elective pass-through entity tax of up to 4%, with a report due by February 1, 2024.
• The effective estate tax exemption cap is increased to $2 million from $1 million for estates of decedents dying on or after January 1, 2023.
• Other changes include modifications to joint filing requirements, Chapter 62F rebate adjustments, and relief measures for individuals, such as increased child and dependent tax credits and earned income tax credits.

Implications:

• The move to single sales factor apportionment may impact companies with limited physical presence but significant sales in Massachusetts.
• Manufacturers should continue to qualify as a manufacturing corporation to benefit from certain exemptions and tax credits.
• The adoption of a single-sales factor apportionment formula and Massachusetts Tax Reform may also impact the classification of a business corporation as either a tangible or intangible property corporation.
• The reduction in the short-term capital gains rate is favorable for individual taxpayers subject to the 4% surtax on incomes over $1 million.
• Couples filing jointly for federal taxes will now be required to do the same for Massachusetts income taxes, affecting planning strategies to mitigate the impact of the millionaire surcharge.

Takeaway

The decrease in the short-term capital gains tax rate and the implementation of a single-sales factor could contribute to fostering a business-friendly environment. However, the long-term effects of the Millionaires’ Tax approval from the previous year may take several years to become evident. Individuals and businesses planning new ventures or expansions in the state should carefully assess the tax landscape and thoroughly evaluate the implications for individual income taxes.