New Kentucky Tax Law Brings Significant Changes

A new Kentucky tax law is bringing significant changes to both business and individual taxpayers. In late April, House Bill 487 was sent to Governor Matt Bevin’s desk by the Kentucky Legislature and became law without his signature. The new law affects corporate and individual income tax, sales and use tax, property tax, as well as other miscellaneous taxes and administrative items.

Key provisions of the new law include the following:

Items Affecting Both Individual and Corporate Income Tax

  • The federal Internal Revenue Code as of December 31, 2017 is incorporated into the state tax code, except for bonus depreciation and increased Section 179 expense provisions. The new 20% federal Qualified Business Income Deduction is also not incorporated into Kentucky law.
  • The Kentucky domestic production activities deduction (manufacturer’s deduction) is repealed.

Individual Income Tax

  • Effective for the 2018 tax year, a flat tax rate of 5% is set in place, replacing a graduated system ranging from 2% to 6%. The personal credit of $10 per person is also repealed.
  • Kentucky itemized deductions are now limited to only mortgage interest and charitable contributions. Deductions for long-term care and health insurance premiums are also no longer allowed.
  • The pension exclusion amount is reduced to $31,110 per person.

Corporation Income Tax

  • Effective for tax years beginning on or after January 1, 2018, a flat tax rate of 5% is set in place, replacing a graduated system ranging from 4% to 6%.
  • A single sales-factor apportionment formula is adopted, replacing the three-factor formula based upon sales, payroll and property. Certain specialized industries will continue to use the three-factor formula.
  • Taxpayers selling services as opposed to tangible goods will now source sales to Kentucky based upon the location of the customer (market sourcing). Previously sales of services were sourced to Kentucky based upon where the services were performed (cost of performance sourcing).
  • For taxable years beginning on or after January 1, 2019, unitary business groups must file a combined Kentucky return. The group may also elect to file a consolidated return based on the same group that files for federal income tax purposes.

Property Tax

  • To offset the personal property tax imposed upon inventories located in the state, a non-refundable income tax credit is now available. The credit is 25% of the property tax paid on inventories in 2018, and increasing by 25% per year until a full 100% credit is allowed for tax years beginning in 2021. Passthrough entities can claim the credit against the Limited Liability Entity Tax and pass the credit through to its owners.
  • The bill clarifies that computer software other than prewritten computer software is exempt from the property tax (e.g., “custom” software).

Sales and Use Tax

  • For transactions occurring on or after July 1, 2018, sales and use tax is to be assessed on the following transactions:
    • Labor and services associated with the repair, installation, and maintenance of taxable tangible personal property; includes exemption for manufacturers and industrial processors.
    • Extended warranties.
    • Landscaping and lawn care services.
    • Janitorial services.
    • Pet care (small animal) veterinarian services.
    • Fitness and recreational sports centers.
    • Industrial laundry services.
    • Dry cleaning and laundry services.
    • Linen supply services.
    • Pet grooming and boarding services.
    • Diet and weight-reducing services.
    • Tanning services.
    • Limousine services.
    • Admissions to campsites, campgrounds, recreational vehicle parks, bowling centers, skating rinks, health spas, swimming pools, tennis courts, weight training facilities, fitness and recreational sports centers, golf courses and country clubs.
  • The sales tax exemption for pollution control facilities for transactions occurring on or after July 1, 2018 is repealed.
  • The definition of “prewritten computer software” is clarified.
  • The energy exemption for some manufacturers and industrial processors may change due to a change in the definition of cost of production.
  • If the United States Supreme Court reverses existing decisions on sales tax collection, the new law allows Kentucky to collect the sales tax from remote retailers selling tangible personal property or digital property in Kentucky. To be required to collect the tax, the remote retailer must meet one of two thresholds: 1) 200 or more separate transactions in Kentucky in the previous or current calendar year, or 2) Gross receipts exceeding $100,000 in the previous or current calendar year from Kentucky transactions.

Other Items

  • Various credit and incentives are modified to provide either additional reporting to government agencies or caps and/or suspensions of credit availability; other credits are repealed.
  • The new Kentucky tax law extends time to protest a tax assessment (45 to 60 days) and report federal tax changes to the Department of Revenue (30 to 180 days).
  • The state is now prohibited from contracting with third parties to collect taxes on a contingency basis.
  • Electronic filing for employers that issue more than 25 withholding statements, and for corporations or pass-through entities with gross receipts of $1 million or more, is required for tax years beginning January 1, 2019.
  • The cigarette tax is raised by 50 cents to $1.10 per pack; a floor stock tax on cigarettes is also imposed.

For additional information, please contact John Rittichier, CPA at 800.880.7800 ext. 8484 or at jrittichier@hsccpa.com or Aaron Wilzbacher, CPA at 800.880.7800 ext. 1322 or email awilzbacher@hsccpa.com.

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