Impact of Arizona Supreme Court’s Decision on SB1828 Referendum for Arizona Tax Practitioners

The Arizona Supreme Court has issued an order blocking the referendum on 2021’s SB1828 from going to a vote this November and instead is now treated as enacted and effective.  While the Court has not issued its opinion (that has been promised to come later), the Order stated:

The Court en banc has considered the briefs, authorities, and arguments in this appeal. The Court finds that §§ 13 and 15 of S.B. 1828 do fall within the support and maintenance exception to the Arizona Constitution, and thus may not be referred to the voters.

Impact on 2022 Tax Rates – Regular Income Tax

The most immediate impact of the decision is that now the rates are set for the 2022 income tax returns.  Under SB1838, Arizona’s regular income rates for 2022 will be as follows:

Single Person or Married Filing Separately

A rate of 2.55% will apply on taxable income up to $27,272, with a rate of 2.98% that applies to taxable income in excess of that amount.

Married Couple Filing a Joint Return or Head of Household

A rate of 2.55% will apply on taxable income up to $54,544, with a rate of 2.98% that applies to taxable income in excess of that amount.

In the future the rates will drop depending on the meeting revenue targets in the bill, with the top rate dropping first to 2.75% and then to a pure flat rate of 2.5%

Impact on the Arizona Small Business Income Tax

With the maximum rate of 2.98% applying for 2022, the Arizona Small Business Income Tax now becomes a virtually irrelevant tax for 2022 as it will apply a flat rate of 3.0% to Small Business Income which is 0.02% higher than the top rate applicable under the regular tax.  Thus, there is no reason to elect to pay tax at 3.0% with very limited deductions when, if the election is not made, the highest possible rate is 2.98% for a tax that comes with many more deductions.

And the situation does not improve in the future.  For 2023 and 2024 the SBI rate drops to 2.8%, but it’s very likely the regular rate will fall to 2.75% for that year and then 2.5% for 2024.  Finally, in 2025 the Small Business Income Tax will fall to a 2.5% rate, but that will simply make the rate equivalent to the regular rate and the SBI tax still does not allow nearly as many deductions as the regular tax.

Arizona Passthrough Entity Tax

The flat tax’s lower rate will also impact the elective Arizona Passthrough Entity Tax.  The passthrough entity tax is applied at a rate of 4.5% of taxable income attributable to eligible and electing partners.  As should be clear, that rate is over 50% higher than the maximum rate that will apply in 2022, and the rates are scheduled to go lower over time.

But Arizona’s version of the passthrough entity tax has another “feature” that will make this problem far worse for most partners and S corporation shareholders.  Unlike most states that use the tax credit structure to give the partners and shareholders a reduced tax burden to compensate for the tax paid at the entity level, Arizona’s credit is not refundable.  

Rather the taxpayer must carry any amount of this credit in excess of the tax due on the regular tax return forward for up to five years.  If the taxpayer is unable to absorb the credit over that five year period, the taxpayer will have paid more in tax to the state of Arizona than would otherwise be due.  And even if it can be absorbed, there are time value of money issues that also must be considered.

The nonrefundable nature of the credit also poses problems for taxpayers that regularly have wiped out most or even all of their Arizona tax liabilities by claiming the various Arizona charitable tax credits.

For taxpayers with large amounts of passthrough income compared to their taxable income, the only realistic option to use up the credit may be to skip the federal benefit of the passthrough entity tax in certain years, or hope the federal benefit of the above the line deduction for the entity level tax will be higher than the extra cash sent to the state of Arizona.

Arizona Department of Revenue Waives First Two Estimated Tax Payments for 2022 Arizona Passthrough Entity Tax

The Arizona Department of Revenue announced that it would waive penalties on the first two estimated tax payments due for the 2022 Arizona elective passthrough income tax.[1]  The agency is not yet able to accept electronic payments for this tax but expects to be able to receive such payments by September 15, 2022, the date the third estimated payment is due.

The Arizona elective passthrough entity tax is Arizona’s version of the state and local tax (SALT) workaround that the IRS blessed in Notice 2020-75 in November 2020.  The passthrough entity elects to pay a tax at the entity level on all or a portion of the entity’s income, which results in a non-separately stated deduction that passes out to the shareholders on Schedule K-1 as a reduction of non-separately stated income, effectively deducting these taxes in full in computing the equity holder’s adjusted gross income.

The equity holder then gets a dollar for dollar credit against his/her Arizona income taxes, so no extra tax would be paid in the best case.[2]  Arizona’s version of the tax first applies for 2022.

The announcement begins by indicating the relief being granted:

First and second quarter Arizona estimated tax payments are not required in 2022 for partnerships or S corporations making the pass-through entity election under A.R.S. § 43-1014.[3]

The page notes that, generally, estimated tax payments are due under the law for partnerships and S corporations making the passthrough entity tax election whose taxable income for a year exceeds $150,000:

A.R.S. § 43-1014(B)(3) requires partnerships and S corporations to pay estimated tax pursuant to  A.R.S. § 43-581.  A.R.S. § 43-581(C) provides that, for taxable years beginning from and after December 31, 2021, an entity that is treated as a partnership or S corporation for federal income tax purposes that elects to pay the tax under A.R.S. § 43-1014 and whose taxable income for the taxable year exceeds $150,000 in the preceding taxable year must make estimated tax payments during the taxable year in a manner consistent with how estimated individual income tax payments are made. Individuals subject to estimated tax payments in Arizona must make quarterly payments by April 15, June 15, and September 15 of the current year and January 15 of the following year.[4]

But the page notes that the Department itself does not expect to be able to accept these estimated tax payments in time for taxpayers to make those timely first two estimated tax payments:

Because ADOR is currently unable to process electronic estimated tax payments for the new pass-through entity tax, the first two estimated tax payments of 2022 due in April and June will be waived for partnerships and S corporations subject to estimated tax payments under A.R.S. § 43-581(C).  Partnership and S corporations that do not make the April and June estimated tax payments will not incur a penalty under A.R.S. § 43-1125(Q): ADOR will notify affected taxpayers of any required action needed to request abatement.[5]

The page concludes by noting that for the third payment in September, taxpayers are only going to be required to pay 25% of their proper estimate for the year (that is, the agency is not asking taxpayers to catch up at that time):

ADOR anticipates being able to accept electronic estimated payments in time for the third quarter payment due on September 15, 2022, at which time a minimum payment of 25% of the entity’s estimated tax for the 2022 tax year will be due.[6]

Presumably taxpayers could wait and pay the amounts that would have been due for the first two estimates with their tax returns in March of 2023 without facing a penalty from the state of Arizona.  However, that may not be a smart move under federal law.  Under Notice 2020-75, the above the line deduction for these entity level taxes is only allowed for taxes paid during the year in question.[7]

[1] “Arizona Estimated Tax Notice for Partnerships and S Corporations Making the Pass-Through Entity Tax Election,” Arizona Department of Revenue website, March 2, 2022, (retrieved March 9, 2022)

[2] There are issues with how Arizona handles this tax and credit that raises a real risk that some or all equity holders may find that the system doesn’t actually work to achieve this break-even result.  But that is a topic for another day.

[3] “Arizona Estimated Tax Notice for Partnerships and S Corporations Making the Pass-Through Entity Tax Election,” Arizona Department of Revenue website, March 2, 2022

[4] “Arizona Estimated Tax Notice for Partnerships and S Corporations Making the Pass-Through Entity Tax Election,” Arizona Department of Revenue website, March 2, 2022

[5] “Arizona Estimated Tax Notice for Partnerships and S Corporations Making the Pass-Through Entity Tax Election,” Arizona Department of Revenue website, March 2, 2022

[6] “Arizona Estimated Tax Notice for Partnerships and S Corporations Making the Pass-Through Entity Tax Election,” Arizona Department of Revenue website, March 2, 2022

[7] Notice 2020-75, Section 3.02(2),

Arizona to Add Elective Entity-Level Income Tax Beginning in 2022 as a SALT Cap Workaround

Photo by Sabel Blanco on

In the Tax Cuts and Jobs Act (TCJA) Congress imposed a $10,000 cap for deductions of state and local taxes not related to a trade or business or a §212 activity on Schedule A.  Effective in 2022 the state of Arizona will allow partnerships and S corporations to elect to pay an entity level tax for which each partner or S corporation shareholder will receive a credit against their Arizona taxes.  The entity level tax was first enacted as a SALT cap workaround by the state of Connecticut shortly after the passage of the TCJA.  Despite initial statements from the IRS that they agency would issue guidance rendering the workaround ineffective, the agency issued no such guidance and, in fact, in late 2020 announced Treasury would be issuing regulations that would recognize these workarounds as effective.

Arizona Entity Level Tax (ARS §43-1014)

In House Bill 2832, Chapter 425, July 9, 2021 the Arizona Legislature adopted its version of the passthrough entity tax described in Notice 2020-50.[10]  The bill takes effect from and after December 31, 2021.[11]

Computation of the Tax

The law provides that “the partners or shareholders of a business that is treated as a partnership or S corporation for federal income tax purposes may consent to be taxed at the entity level” for the tax described at ARS §43-1014.[12]

The tax is imposed at a 4.5% rate on:

  • The entire taxable income for the year that is attributable to its Arizona resident partners or shareholders and
  • The portion of its taxable income for the year derived from sources within Arizona that is attributable to its Arizona nonresident partners or shareholders.[13]

Example 1

ABC is an S corporation that is filing an Arizona S corporation income tax return.  ABC has $100,000 of income in 2022, $75,000 of which is from Arizona sources and $25,000 of which is not Arizona source

There are two shareholders of ABC – Al, who is an Arizona resident holding 75% of the stock and Wilma who is not an Arizona resident and holds the other 25% of the stock.

The shareholder consent and ABC elects to pay the Arizona entity-level tax for 2022.  The total income ABC will pay the entity level tax on is computed as follows:

  • 100% of income allocated to Al, Arizona resident (75% of 100,000) or $ 75,000
  • 25% of Arizona source income allocated to Wilma, non-resident (25% of $25,000) or $18,750
  • Total taxable income for Arizona entity-level income tax is therefore $ 93,750
  • ABC’s Arizona entity-level income tax is 4.5% of $93,750, or $ 4,219.

If the election described in the next section is made, the taxable income of the entity is calculated using the standard Arizona income tax rules for individuals (under Chapter 10 of Title 43) or partnerships (under Chapter 14 of Title 43).[14]

If the entity fails to pay the entity-level tax, the Department of Revenue “may collect the amount from the partners or shareholders based on the proportionate share of income that is attributable to each partner or shareholder for Arizona tax purposes.”[15]


The law seems to require two steps for this tax to apply:

  • The partners or shareholders must consent to be taxed at the entity level and
  • An election must be made by the entity on or before the due date (including extensions) of the business’s Arizona income tax return.[16]

The law does not provide any details on either how the partners’ or shareholders’ consents are to be documented, if there must be unanimous consent, if corporate and tax-exempt partners must also consent, nor any other specifics on how the entity will make this election.  Rather such details will have to come from the Department of Revenue under the authority granted to the Department in this section.[17]

Equity Holders to Whom the Election Does Not Apply

The election does not apply to:

  • Partners or shareholders that are not individuals, estates or trusts and
  • Partners or shareholders who are individuals, estates or trusts and who opt out or waive the right to opt out of the election.[18]


The inclusion of partners or shareholders who waive the right to opt out of the election in the list of those to whom the election does not apply appears to be a drafting error.  The provision is at odds with what would appear to be the intent of a partner or shareholder who formally waives the right to opt out and also directly at odds with the language found at ARS §43-1014.D that requires that a partner or shareholder who waives the right to opt out to be included in the election.

Example 2

Continuing with the facts in Example 1, assume that Wilma decides to opt-out.  In that case, the $18,750 that represents her Arizona source income would not be included in taxable income in computing the entity’s entity-level tax.  Only the $75,000 of income allocated to Al would be subject to the tax, resulting in an entity-level tax of $3,375.

Opting Out of the Election

A single partner or shareholder can decide that while the entity may be making this election, they don’t want the election to apply to them, perhaps because they will not have any Arizona tax liability or would lose a credit for the tax paid to Arizona on their home state income tax return.  Under the law such an option to opt-out must be made available to each shareholder.

A partnership or S corporation that intends to make this election:

  • Shall notify all partners or shareholders who are individuals, estates or trusts that they have the right to opt out of the election for their share of the income and
  • Shall allow at least 60-days to each such partner or shareholder to make the opt-out election.[19]

If a partner or shareholder fails to respond within 60 days or waives the right to opt out, the partner or shareholder will be included in the election per ARS §43-1014.D.


As was noted in the section describing the equity holders to whom this election does not apply, ARS §43-1014.C provides an exactly opposite treatment for partners or shareholders who waive the right to opt-out of the election.  While that appears to be a drafting error, it is part of the law as enacted and, unless changed by the Legislature, at best creates ambiguity as to the status of such a partner or shareholder.  

Unless the Department of Revenue provides a clarification on how the agency will apply that text (or the text is changed by the Legislature), it would appear that partners and shareholders should be advised not to specifically waive their right to opt out, but rather just let the 60-day time period expire if they wish to be part of the election.

Although less of an issue, the law appears to first require a consent from the partners or shareholders to make the election, but then they must be offered the ability to opt-out.  Hopefully the Department of Revenue will allow using a single form to consent to the entity’s election and, at the same time, indicate if the individual equity holder plans to opt out.

Estimated Taxes for Electing Entities (ARS §43-581.C)

Entities making the entity-level tax election will be required to have made payments of estimated taxes under the estimated tax rules found at ARS §43-581.[20]

Estimated taxes will be required for an entity making the entity-level election:

  • If the entity’s taxable income exceeded $150,000 in the prior year and
  • The payments shall be made in a manner that is consistent with rules that apply to individuals.


The Department will need to clarify if the $150,000 is measured based on the taxable income reported on the Form 165 or 120S for the prior year even if no election is made, or if the $150,000 is solely the taxable income computed for the entity-level tax only.  But, presumably, the relief available for individuals who owed no tax the prior year should apply even if the entity is deemed to have income in excess of $150,000 in the prior year unless the election to pay the entity-level tax was made in that prior year.

Addition to Income on the Individual Return (ARS §43-1021.16)

The key to getting a full federal tax deduction for the state taxes is that the tax is deducted in computing non-separately stated income from the partnership or S corporation, reducing the amount of income that would flow onto Schedule E and be included in adjusted gross income.

Because of that, the law provides for adding back the partner’s or shareholder’s share of the taxes deducted to Arizona gross income for Arizona income tax purposes.  But it goes further and also requires adding back “similar” taxes imposed by other states—a concept that will appear again in the credit for taxes paid to other states.[21]

The add-back provision concludes with the following sentence:

This amount shall be reflected in the partner’s or shareholder’s Arizona gross income and the Partnership’s or S corporation’s Arizona taxable income.[22]


The intent of that sentence is not completely clear.  The Department of Revenue may shed some light on what impact that sentence would have on the amount that is added back to income.

As well, this add-back may serve to put the taxpayer in worse shape than without the election if the taxpayer is both able to itemize on the Arizona return and does not have other state and local taxes of at least $10,000.

Prior to TCJA, the taxpayer would have gotten a deduction for all Arizona taxes paid as an itemized deduction.  That would still be true if the taxpayer’s total state and local taxes are less than $10,000.  In such a case, the taxpayer should consider opting-out of the election by giving notice to the entity during the 60-day period allowed for opting out.

Credit for Entity-Level Tax Against Title 43 Taxes (ARS §43-1075)

A credit is allowed against “taxes imposed by this title” for a partner or shareholder of an entity that elects to pay the entity-level tax.  The credit is initially the amount of tax paid by the entity that is attributable to the partner’s or shareholder’s share of income taxable in Arizona.[23]

The taxes potentially imposed that are apparently eligible to be offset with the credit would include:

  • The regular income tax (ARS §43-1011 for individuals, ARS §43-1301 for estates and trusts)
  • The income tax surcharge for public education (ARS §43-1013)
  • The small business income tax (ARS §43-1711)[24]


The law does not provide any order in which these taxes are offset, although the credit appears available to offset all of the taxes.  Whether the Department of Revenue will provide for an ordering of the offset or if the taxpayer will be allowed to select the amount of credit used against each tax remains to be seen.

If the credit exceeds the taxes due under those provisions, the excess is carried forward for up to five years against the subsequent years’ income tax liability.[25]


Presumably the “income tax liability” refers to all of the taxes under Title 43, though it is interesting that previously the section referred to all taxes under this title (Title 43).  Again, we will need to wait and see how the Department of Revenue interprets this provision.

The fact that the credit is not refundable and has a limited life of five years means care must be taken to opt-out by an equity holder who has insufficient tax due to be offset.  Even if the credit could be used in later years, the taxpayer is accelerating the payment of the tax if they don’t have a sufficiently large tax liability.

Given the large number of Arizona tax credits available, taxpayers should be asked about their intent to make tax credit donations and warned about the issues that can take place if they reduce the taxes too much.  In that situation, paying the entity-level tax would be counterproductive.

Credit for Other States’ Similar Passthrough Taxes

A problem that arises with passthrough taxes involves the credit given for taxes paid by other states, as to pass muster under Notice 2020-50 (and thus accomplish the goal of working around the limit on the deduction of state and local taxes on Schedule A), the tax must be imposed on the entity.  However, state provisions granting a credit for taxes paid to other states generally look only to taxes imposed upon and paid by the individual.  This has the effect for out of state interest holders paying taxes to each state (directly to their home state and indirectly via the entity to the state where the passthrough entity is located) without obtaining a credit to offset either tax.

Example 3

Wayne, an Arizona resident, holds a minor interest in XYZ, Inc., an S corporation operating in New Jersey.  All other partners are New Jersey residents.  The S corporation elects to participate in New Jersey’s optional entity level tax, the Business Activity Income Tax (BAIT).  Wayne’s share of the income of the S corporation is $100,000 and his share of the BAIT is $10,000.

While Wayne gets a $10,000 tax credit against his New Jersey income tax, he pays tax on the entire $100,000 to Arizona with no tax credit for taxes paid to New Jersey.  We will assume his New Jersey tax computed to be $10,000, thus is entirely offset by the tax credit.  Wayne pays a 4.5% tax rate to Arizona on the income (we’ll assume he uses only the cap on combined rates), paying $4,500 to Arizona.

Had the New Jersey S corporation not made this election, Wayne’s income would have been $110,000.  We’ll assume Wayne’s tax to New Jersey would have still been $10,000.

Given that the Arizona rate was well below New Jersey’s, in this scenario Wayne would have received a full credit against the $4,500 increase in Arizona tax.  Even considering the extra benefit for the federal deduction at the 37% rate, Wayne is still $800 worse off than if the New Jersey S corporation had not made the BAIT election.  However, the other shareholders don’t face this problem, so for them it’s a major reduction in federal taxes with no negative state tax impact.

Beginning in 2022, Arizona law will now allow a credit for taxes that the Department of Revenue considers “similar” to that imposed under the Arizona elective entity-level tax found at ARS §43-1014 (such as the New Jersey BAIT) that is subject to tax for Arizona income tax purposes.[26] 

The credit will be no more than the credit that would have been allowed had the income been taxed at the individual level and not taxed at the entity level.[27]


Since Arizona is not taxing this income at the entity level, this appears to refer to the tax that would have been due if the income had been taxed on the other state return at the individual level.

As was mentioned earlier, these similar taxes will have to be added back to Arizona income.[28]

[1] Notice 2020-75, November 9, 2020, (retrieved November 9, 2020)

[2] Notice 2020-75, Section 2.02(3)

[3] Notice 2020-75, Section 3.01

[4] Notice 2020-75, Section 3.02(2)

[5] Notice 2020-75, Section 3.02(1)

[6] Notice 2020-75, Section 3.02(1)

[7] Notice 2020-75, Section 3.02(3)

[8] Notice 2020-75, Section 3.02(4)

[9] Notice 2020-75, Section 4

[10] HB 2828, Chapter 425, Fifty-fifth Legislature, First Regular Session, July 9, 2021, (retrieved July 15, 2021)

[11] HB 2828, Chapter 425, Fifty-fifth Legislature, First Regular Session, July 9, 2021, Section 8

[12] ARS §43-1014.A

[13] ARS §43-1014.A

[14] ARS §43-1014.B.1

[15] ARS §43-1014.B.2

[16] ARS §43-1014.A

[17] ARS §43-1014.D

[18] ARS §43-1014.C

[19] ARS §43-1014.D

[20] ARS §43-1014.B.3 and §43-581.C

[21] ARS §43-1021.16

[22] ARS §43-1021.16

[23] ARS §43-1075.B

[24] ARS §43-1075.A

[25] ARS §43-1075.C

[26] ARS §43-1071.G

[27] ARS §43-1071.G

[28] ARS §43-1021.16

Arizona Proposition 208 – What Does It Mean?

Proposition 208, on the ballot in the 2020 general election, would add a new surcharge to Arizona income taxes that is set to take effect for tax years beginning from and after December 31, 2020—or, for most taxpayers, calendar year 2021 individual tax returns.[1]

As of the early morning following the election, the Proposition held a 135,856 vote lead with the Arizona Republic website showing 85.02% reporting (presumably election day votes in addition to the majority of the early voting ballots).  While not an insurmountable lead, it is very possible that Proposition 208 will pass and thus clients will be calling about its impact. 

So I’ve decided to take the risk and detail how the provision would work, assuming it actually does pass and become law. If that doesn’t happen, treat this as an analysis of a proposed law that never became law–but right now it looks like it will pass (we’ll see if we know more by later in the week).

The details of the provision are outlined below.

New ARS §43-1013.A.1 and 2 provide for the new tax.  The tax applies at a rate of 3.5% on taxable income in excess of

  • $250,000 for single individuals or those filing married filing separately[2] or
  • $500,000 for those filing as head of household or a married couple filing a joint return.[3]

The new section reads as follows:

43-1013. Income tax surcharge for public education

A. In addition to any other tax imposed by this chapter, for taxable years beginning from and after December 31, 2020, there shall be levied, collected and paid an income tax surcharge to advance public education in this state as follows:

1. In the case of a single person or a married person filing separately, a surcharge at the rate of three and one-half percent of taxable income in excess of $250,000.

2. In the case of a married couple filing a joint return or a single person who is a head of household, a surcharge at the rate of three and one-half percent of taxable income in excess of $500,000.

B. Notwithstanding sections 42-1116 and 43-206, the department shall separately account for revenues collected pursuant to the income tax surcharge imposed by this section, and shall deposit those revenues in the student support and safety fund established by section 15-1281.

C. The income tax surcharge levied by this section must be collected regardless of whether the income tax rate brackets in this chapter are changed, replaced or eliminated by an act of the legislature.[4]


Wayne and Susan are a married couple filing a joint return.  Their Arizona taxable income for 2021 is $450,000.  Since their taxable income is less than $500,000 (the surtax level found at ARS §43-1013.A.2 for the married filing joint status), they will not face an addition to their Arizona income tax for 2021 under ARS §43-1013.


Wilma, an unmarried individual who has a filing status of single, has Arizona taxable income of $600,000 for 2021.  In addition to the regular Arizona income tax due on Wilma’s 2021 Arizona income tax return, Wilma will owe an additional surcharge under ARS §43-1013 of $12,250 (3.5% of ($600,000 – $250,000)).


Assume the same facts as in Example 2, except that Wilma qualifies to file as head of household.  In that case, Wilma’s additional tax under ARS §43-1013 will be $3,500 (3.5% of ($600,000 – $500,000)).


Robert and Cynthia are considering getting married before the end of 2021.  Robert’s Arizona taxable income if he remains unmarried at year end and files as a single individual will be $400,000, while Cynthia’s Arizona taxable income as a single individual will be $75,000.  If they are married before year end their joint Arizona taxable income will be $475,000 (note, this would not have to be the case, but we will assume that for purposes of this illustration).  If they are married they plan to file a joint return.

If they do not marry before the end of 2021, Robert will face a §43-1013 surcharge of $5,250 while Cynthia will not have any surcharge applied to her return.

If the couple does marry before year end, there will be no surcharge on their joint return as their taxable income will be below the surcharge level.  Thus, in this case a marriage would reduce their combined surcharge.


The impact of marriage is a bit different in certain cases where one or both of the individuals considering marriage qualify for head of household filing status.

If we assume that Robert has a dependent that would qualify him for head of household filing status, and that Cynthia’s Arizona taxable income is $250,000 the results are a bit different.  We will again assume that the couple’s joint Arizona taxable income would the total of their individual filing status taxable incomes, or $725,000 in this case.

If they do not marry before the end of 2021 there will be no §43-1013 surcharge imposed on either tax return. Robert’s taxable income of $475,000 is below the $500,000 level at which the surcharge begins to be imposed on head of household filing status taxpayers, while Cynthia’s taxable income is at the maximum level she could have as a single individual without triggering the tax.

But if the couple marries, they now will see their combined income tested against a single $500,000 Arizona taxable income level before they begin to pay a surcharge—that is, exactly the same amount as Robert was granted when filing head of household status.  The joint return would see a §43-1013 tax imposed on $225,000 ($725,000 – $500,000), for a surcharge of $7,875 (3.5% of $225,000).

Special rules apply to the Department of Revenue’s rulemaking for this provision, found in Section 7 of the Proposition:

Section 7. Exemption from rulemaking

For the purposes of adopting rules to implement this act, and for twenty-four months after the effective date of this act, the department of education, the state board of education and the department of revenue are exempt from both of the following:

1. Any executive order or other directive purporting to limit or restrict the ability of the department of education, the state board of education and the department of revenue to adopt new rules.

2. The rulemaking requirements of title 41, chapters 6 and 6.1, Arizona Revised Statutes, except that each department shall provide the public with a reasonable opportunity to comment on proposed rules and shall publish otherwise-exempted rules.[5]

[1] ARS §43-1013, Added by Proposition 208, 2020 General Election, November 3, 2020

[2] ARS §43-1013.A.2

[3] ARS §43-1013.A.3

[4] Proposition 208, 2020 General Election, Section 5, November 3, 2020

[5] Proposition 208, 2020 General Election, Section 7, November 3, 2020

Arizona Allows Partnership/Corporate Electronic Filing for 2019 Returns, Will Be Mandatory for 2020 Returns

The Arizona Department of Revenue announced that the agency is now accepting electronically filed corporate and partnership income tax returns.[1]  Arizona had been one of the few states, if not the only one, that could not accept electronically filed entity returns.

The news release on the website notes that while the program is voluntary for 2019 returns, beginning with 2020 returns these entities will be required to file return electronically.  The statement provides:

Legislation signed into law in 2017 gives companies an e-file option in 2020 for tax year 2019 and becomes mandatory for corporations starting in 2021 for tax year 2020 returns.
The 2017 legislation also initiated a multi-year phase-in period for businesses required to file and pay transaction privilege tax (TPT) electronically. In 2019, the e-filing threshold was $10,000 with 77 percent of the more than 2.1 million TPT returns filed electronically. For 2020, businesses with an annual transaction privilege tax and use tax liability of $5,000 or more during the prior calendar year, will be required to file and pay electronically. In 2021, the threshold is reduced to $500 or more during the prior calendar year.

Arizona Department of Revenue News Release – January 6, 2020

[1] “Electronic Filing Now Available for Corporate Taxpayers in 2020,” Arizona Department of Revenue website, January 6, 2020, (  Retrieved January 7, 2020)

Screenwriter Subject to California Tax Even Though All Work Done in Arizona

Photo by Denise Jans on Unsplash

The California Office of Tax Appeals in the Matter of the Appeal of Blair S. Bindley, OTA Case No. 18032402[1] ruled that an Arizona individual who had a contract for screenwriting services for two California LLCs had California source income on which he had to pay tax, even though all services were performed in Arizona.

California, like many other states, has moved to pure market-based sourcing for apportioning sales in a business setting.  Under California Revenue & Taxation Code (RT&C) §25128.7, apportionment for the vast majority of businesses with California operations is based solely on the sales factor.  RT&C §25136(a)(1) assigns a sale to California to the extent that the purchaser of a service received the benefit of the service in California.

In this case the taxpayer argued that he had performed all of the services in California Arizona, so he did not have a sufficient connection with California to trigger a requirement to file a return and report the income to the Franchise Tax Board.[2]

California imposes its tax on any nonresident carrying on a business within the state of California (RTC §18501(a)).  The OTA opinion notes that nothing in the statute requires that the taxpayer be physically present in the state of California.[3]  The Court found that the taxpayer received income from California LLCs, with he and his sole proprietorship deemed to be conducting business in California, making the proprietorship’s income subject to apportionment under California’s apportionment rules.[4]

So now the question becomes where did the taxpayer’s buyer receive the benefit of the services provided, not where the taxpayer performed such services.  Under Reg. §25136-2(c)(2) provides that where a business is the taxpayer’s customers, the place where the customer receives the benefit of the services is determined under the following rules:

(A)The location of the benefit of the service shall be presumed to be received in this state to the extent the contract between the taxpayer [i.e., appellant] and the taxpayer’s customer[s] [i.e., Mindbender and Lakeshow] or the taxpayer’s books and records kept in the normal course of business, notwithstanding the billing address of the taxpayer’s customer, indicate the benefit of the service is in this state. This presumption may be overcome by the taxpayer or [FTB] by showing, based on a preponderance of the evidence, that the location (or locations) indicated by the contract or the taxpayer’s books and records was not the actual location where the benefit of the service was received.

(B) If neither the contract nor the taxpayer’s books and records provide the location where the benefit of the service is received, or the presumption in subparagraph (A)is overcome, then the location (or locations) where the benefit is received shall be reasonably approximated.

(C) If the location where the benefit of the service is received cannot be determined under subparagraph (A) or reasonably approximated under subparagraph (B), then the location where the benefit of the service is received shall be presumed to be in this state if the location from which the taxpayer’s customer placed the order for the service is in this state.

(D)If the location where the benefit of the service is received cannot be determined pursuant to subparagraphs (A), (B), or (C), then the benefit of the service shall be in this state if the taxpayer’s customer’s billing address is in this state.

The OTA opinion applies these rules, coming to the determination that since the LLCs are registered and located in California, the second test is met, with the benefit received in California:

Public records from the California Secretary of State provided by FTB show that both Mindbender and Lakeshow are registered and located in California. Moreover, appellant’s contracts with Mindbender and Lakeshow both list California addresses. Appellant also concedes that Mindbender and Lakeshow are California LLCs. Based on the evidence in the appeal record, we find that it was both reasonable and rational for FTB to conclude that both LLCs received the benefit of appellant’s services within California. Because we have determined that the LLCs received the benefit of appellant’s services in California under Regulation section 25136-2(b)(2)(B), there is no need to discuss the remaining cascading rules.[5]

The opinion summarized the findings as follows:

In sum, pursuant to the provisions of the UDITPA relating to the sale of services and the regulations thereunder, appellant’s physical presence does not determine whether he had income derived from California, but rather it is determined by where the benefits of appellant’s services were received.[6]

[1], May 30, 2019

[2] Ibid, p. 4

[3] Ibid, pp. 4-5

[4] Ibid, pp. 5-7

[5] Ibid, p. 9

[6] Ibid

Kindles and CPE Presentations – Some Thoughts

A bit of a Twitter conversation got started on using the Kindle for continuing education materials for CPAs. As I’m a CPE instructor that is actually using a Kindle DX for the presentations I give, I thought a share a few additional thoughts in a forum that allowed more than 140 characters.

I use the Kindle DX to hold the manuals I use during a full day CPE presentation. The Kindle 2, which is a smaller form factor like the original Kindle, does not show PDF files in their native format. That poses a major problem for me, since participants often want a reference to the page in their printed copy. Since the participants are still using a paper manual, I need a device that will let me see exactly what the participants see.

As well, any fancy formatting (such as tables or government forms) won’t tend to survive the reformatting when sent to the smaller device. Considering that one of Amazon’s target markets for the larger Kindle DX is the textbook market, it seems clear that, at least today, it’s the more reasonable device from a features standpoint.

That said, the support for PDF is not as robust as the support for standard Kindle books. You cannot create notes to attach to PDF files, and the Kindle reader doesn’t pay attention to bookmarks in the PDF file for navigation. As well, there is no built in zoom function. The best that a user can do is turn the device sideways, when it will go from showing a full page to showing the page full width in landscape mode. The device is built to automatically sense when the device is turned sideways, but it only reacts to such turns very slowly-at times so slowly as to make a user believe the device won’t recognize the rotation.

For participants the device would pose a couple of problems. A key one is that the Kindle DX costs $489-a significant cost that someone would have to absorb. Aside from use for CPE style textbooks, most CPAs would not have a reason to acquire the DX rather than the smaller (and cheaper) device. The Kindle 2 sells for $190 less than the DX.

As well, it’s probably only reasonable to use the Kindle for distributing CPE materials if all participants are using a Kindle. I doubt it would be practical for some participants to be using a Kindle and others to use a paper manual, at least unless the Kindle was a DX showing PDFs.

Getting materials on the Kindle also would be a bit troublesome with the current structure. There’s no easy way to “push” materials to a Kindle-remember it was designed by Amazon as a way to buy books from them. Materials that don’t originate with Amazon have to be loaded manually onto the Kindle either by emailing them to the user’s special address (for which there will be a charge) or by copying the file to the device after hooking it to the computer.

Copying a file is simple, but I doubt it will be obvious how to do it for users that aren’t computer savvy. You have to mount the Kindle as a drive using a USB connection. On Windows that means it will end up being given a drive letter that can’t be easily predicted, making “pure” step by step instructions impossible to write (on a Mac it will show up as a drive named Kindle in the Finder). As well, the PDF or Amazon book formatted file has to be copied into the documents directory on that drive.

I suspect that CPE administrators would end up spending considerable time, with the current structure, supporting participants who could not get the manual loaded onto their Kindle (presuming we’ve somehow solved the problem of getting them a device). Hopefully Amazon will come up with a “simplified” method for pushing out such materials, but for now it won’t be easy.

That said, the Kindle is a far superior device for viewing texts than a laptop. First, and most important, it doesn’t run out of power five hours after a full charge. A Kindle, because it uses e-ink, only chews up power when you turn a page-keeping a page displayed burns no power. Thus you don’t need power outlets at each desk.

Second, the display is much easier on the eyes than staring at a backlit laptop display all day for reading. Eye fatigue is a major problem when reading from backlit displays for a long period of time.

Third, the display does not wash out in bright light. Rather, it is virtually like paper in how it reacts to light-and, of course, the rooms currently being used for courses have to be ones in which paper manuals are readable.

We also have to remember that not all CPAs have laptop computers, even today. So even if texts were provided in computer friendly formats, there would be some participants that would not be able to “bring along” their computer to the course. Even for those with laptops, some are clearly not very portable. A power outlet has to be provided to each participant.

In Phoenix, another side effect that would not necessarily be very positive, is that a room full of laptops is going to generate a bunch of extra heat in the room (just touch the bottom of your laptop to see what I mean). Kindles don’t do that.

I suspect some sort of ebook reader is likely the future of all training materials. But I’m not sure we’ve yet hit the point where we have a fully workable solution-but it is one that those of us involved in CPE probably need to keep our eyes on.

We may soon, however, be at the point where it might be possible to offer an ebook manual as an option for participants. That is, they could optionally get a PDF manual in lieu of paper. The advantage to participants is they could have the material before class. And, for the organizations presenting, the advantage would be eliminating the cost of printing a physical manual.

I’m certainly not going back to hauling paper manuals in suitcases for when I am traveling to give CPE presentations. But I doubt I’ll be staring at a room full of CPAs holding Kindles looking back at me anytime soon.

Producing a Weekly Church Podcast

I’ve been involved impossible assembling up the weekly podcast at Prince of Peace Lutheran Church in Phoenix for the last couple of years and I thought it might be useful for others thinking of doing this to see what we do.

We look to publish only the sermon since that avoids all the issues involved with rights for music. As well, it’s a lot tougher to properly record music as opposed to spoken words.

The sermon is recorded off the church’s standard audio output. We now have a dedicated digital audio recorder but until recently we were just taking a plain audio out line to a laptop computer with Audacity handling the recording itself. The old method actually worked surprisingly well though the unshielded output does pick up buzzes from time to time. But that problem is relatively easily fixed in final production.

The first step in final production is to clean up the audio. I use a combination of the open source Audacity editor, the Conversations Network’s Levelator and the commercial program SoundSoap 2 for noise removal. Audacity actually can handle noise removal on its own and while I have a slight preference for Sound Soap’s quality, if I didn’t need it for other nonchurch work I’d likely stick with Audacity alone.

The raw recording is first cut to include only the sermon using Audacity. I then export to a WAV file and give it to the Levelator. That program helps assure we get a more consistent volume throughout the sermon, even if the speaker doesn’t keep a constant distance from the mike.

Once the levels are set, I think run the file through SoundSource to eliminate relatively constant background noise. It gives a bit of “cleaner” sound to the resulting audio.

We have a standard intro and closing that we have already recorded for each podcast, and those exist as an Audacity “project” file we use as the starting point for each Sunday’s podcast. We have the intro and closings as separate tracks in Audacity and they can be moved independently–useful since no two sermons are exactly the same length.

I then use the import function in Audacity to bring the sermon into the week’s project file. At that point it’s simply a matter of moving the segments into proper position. Once that is done we are ready to export to MP3.

One additional piece of software has to be obtained to export to MP3 from Audacity–but it’s free. You need to get the Lame MP3 encoder and then tell Audacity in its preferences where the file is located (it’s a licensing issue, which is why Audacity can’t ship with it). We export our MP3 at 64Kbps mono, which will give the same sound quality as 128K stereo (what became the defacto standard for music until recently).

The completed file is brought into iTunes to add a graphic that appears on iPods, and you can insert the other information (name of the week’s podcast, name of the podcast, the speaker’s name, etc.) in iTunes as well. You do that by simply starting to play the file in iTunes, stop the play and then hit either Control-i (Windows) or Command-i (OSX). You can then add the appropriate “extra” information.

We use Liberated Syndication to host our podcast. They offer relatively low cost plans that don’t have a bandwidth cap (a key advantage if one podcast episode suddenly get linked to by a popular site). Their $5 per month plan is more than sufficient for a weekly sermon. The cap they do impose is on data stored for the current month–outside one month, even the storage is unlimited.