Texas adopts economic nexus rule for its franchise tax

On Dec. 20, 2019, the Texas Comptroller of Public Accounts (Comptroller) adopted proposed amendments to the “Nexus” section of its franchise tax regulations (34 TAC Section 3.586) establishing the ways in which a non-Texas entity can create nexus in the state notwithstanding a lack of physical presence. (The proposed changes can be found in the Texas Register’s Sept. 27 issue. They were adopted in the Dec. 20 issue. All citations herein reference the regulation as amended.)

The new economic nexus rule

The amended rules provide that a “foreign taxable entity” that does not have physical presence in Texas will have nexus in Texas and be subject to the franchise tax if it had gross receipts from business done in Texas of $500,000 or more during that federal income tax accounting period. 34 TAC Section 3.586(f) Texas gross receipts are determined using the Comptroller’s rules for calculating franchise tax apportionment. Id. “Foreign taxable entity” is defined in 34 TAC Section 3.586(b) as “a taxable entity that is not chartered or organized in Texas.” 

The new economic nexus rule applies to federal income tax accounting periods ending in 2019 or later. 34 TAC Section 3.586(f)

Presumptive nexus for holders of Texas use tax permits

The amended rules also provide a rebuttable presumption of franchise tax nexus for foreign taxable entities holding Texas use tax permits, in 34 TAC Section 3.586(e). 

The Comptroller asserts that the change is consistent with existing practice. As such, this rule applies to franchise tax reports originally due on or after Jan. 1, 2008. 34 TAC Section 3.586(a)

Other changes

The amended rules clarify in 34 TAC Section 3.586(c) that “nexus is determined on an individual taxable entity level.” 

They also provide the following criteria for determining when a foreign taxable entity begins doing business in Texas:

“(g) Beginning date. A foreign taxable entity begins doing business in the state on the earliest of:

1) the date the entity has physical nexus as described in subsection (c) of [34 TAC Section 3.586] (CohnReznick note: This should probably read “as described in subsection (d)” based on the amended regulations.);

(2) the date the entity obtains a Texas use tax permit; or

(3) the first day of the federal income tax accounting period in which the entity had gross receipts from business done in Texas in excess of $500,000.”

What does CohnReznick think?

Texas requires unitary business groups to file combined returns. A taxpayer filing in Texas as a result of the new regulations will need to review the state’s combined reporting rules to determine whether any affiliates need to be included in a combined report. As a reminder, the $500,000 gross receipts test is determined on an individual taxpayer entity level (i.e., group members do not combine receipts for purposes of determining economic nexus).

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