United States

New Jersey: Appellate Court Affirms Decision Allowing Adjustments to Federal Basis

Oct 30, 2017
From KPMG TaxWatch

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On October 23, 2017, the New Jersey Supreme Court, Appellate Division affirmed a tax court decision addressing certain issues that arise when a taxpayer’s basis in assets differs for federal and state purposes. The appellate court did not write its own opinion, but affirmed the tax court’s judgment for the reasons expressed in the tax court’s opinion. The taxpayer involved in the case operated a vehicle leasing business. It generally depreciated the leased vehicles during the life of the vehicle lease, including taking federal bonus depreciation from which New Jersey decoupled. During some of the tax years at issue, the taxpayer was in a loss position and therefore the depreciation deductions simply increased the taxpayers NOLs, rather than reduced its New Jersey tax liability. When the vehicles were eventually sold, the reduced federal basis resulted in a significant gain for federal and New Jersey purposes. Because New Jersey had suspended NOLs for some of the years at issue, the taxpayer was unable to carry forward its losses to offset the gains.

One of the issues in the case was whether the taxpayer could increase its tax basis in the leased vehicles to reflect that it had not gotten any New Jersey tax benefit from the depreciation deductions. This would reduce the taxpayer’s gain for New Jersey purposes and, in the taxpayer’s view, avoid it being subject to tax on “phantom income.” 

The tax court ruled in favor of the taxpayer on the basis issue, largely based on “significant appellate precedents” developed under the personal income tax law. Notably, the court observed that a corporation’s “entire net income” included “profit gained through a sale or conversion of capital assets.” The court interpreted the legislature’s reference to profit as indicative of its intent to assess tax on actual economic gains, as opposed to “artificial gains resulting from unused depreciation deductions.” As such, the taxpayer was allowed to increase its federal adjusted basis in the vehicles by the cumulative amount of depreciation deductions for which it received no New Jersey benefit.

The tax court also held that New Jersey decoupled from bonus depreciation for all property placed in service after September 10, 2001 and rejected the Director’s application of the state’s now-repealed throwout rule, which was applied to eliminate the taxpayer’s Nevada, South Dakota, and Wyoming sourced-receipts from the receipts factor entirely. Citing to the New Jersey Supreme Court’s “unequivocal” decision in Whirlpool, the tax court held that the fact that these three states have chosen not to impose a corporate income tax was not a constitutionally permissible basis on which to invoke the throwout rule. Please contact Jim Venere at 973-912-6349 with questions on Toyota Motor Credit Corporation v. Director.

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The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.