What are "Taxable Gross Receipts" Under Ohio's Commercial Activity Tax?
By:Jeffrey K. Lewis, Esq., Program Coordinator, Income Tax Schools Tuesday, May 02nd, 2023
What are “Taxable Gross Receipts” Under Ohio’s Commercial Activity Tax?
By: Jeffrey K. Lewis, Esq., Attorney and Program Coordinator, OSU Income Tax Schools and Barry Ward, Leader, Production Business Management; Director, OSU Income Tax Schools
The privilege of doing business in Ohio comes at a cost. Since July 1, 2005, Ohio has imposed an annual Commercial Activity Tax (“CAT”) on taxpayers doing business in Ohio. The CAT is measured by a taxpayer’s “taxable gross receipts” during the tax period, which for most taxpayers will be the calendar year.
As a general rule, any individual or business entity that is required to register or pay tax under Ohio law is subject to paying Ohio’s Commercial Activity Tax. There are certain “excluded taxpayers” including any taxpayer with $150,000 or less of “taxable gross receipts”, non-profit organizations, governmental entities, and others.
The focus of this article will be on what is and is not a “taxable gross receipt” under the CAT. To determine what is a “taxable gross receipt” a taxpayer must undergo a three-step analysis that starts with determining what is a “gross receipt” under Ohio law. Then a taxpayer must situs (or source) those gross receipts to Ohio in order to calculate their total “taxable gross receipts.” A taxpayer’s total taxable gross receipts will then determine their remaining obligations under the CAT.
Step 1. Determine total “gross receipts.”
“Gross receipts” are broadly defined in Section 5751.01(F) of the Ohio Revised Code as “the total amount realized by a person, without deduction for the cost of goods sold or expenses incurred, that contributes to the production of gross income of the person, including the fair market value of any property and any services received, and any debt transferred or forgiven as consideration.” In other words, a gross receipt is anything that contributes to a taxpayer’s gross income which includes proceeds from the sale of goods or services and income generated from rentals and leases.
However, Ohio law excludes numerous items from the definition of gross receipt and therefore those items are excluded from being subject to the CAT. A full list of items excluded from the definition of gross receipts can be found in Ohio Revised Code Section 5751.01(F)(2). Below, Chart 1 provides a list of those exclusions, and the bolded exclusions will be discussed in further detail below.
It is important to remember a taxpayer’s viewpoint when reading the list of exclusions. A taxpayer must ask themselves: “Did I receive proceeds from the sale or transfer of property, goods, or services, and if so, do those proceeds fall into one of the following categories?” If the receipt of any proceeds falls into one of the categories below, the taxpayer does not have to count those proceeds as gross receipts.
Chart 1: Proceeds Excluded from “Gross Receipts”
|
|
A Closer Look . . .
As can be seen from Chart 1, there are numerous exclusions from the definition of “gross receipts.” Below we discuss a few of those exclusions in further detail.
- Interest Income. Interest income, except for the interest earned from a credit sale, is excluded from gross receipts. For example, if a taxpayer earns interest on a savings account, that interest is excluded from the taxpayer’s gross receipts. However, a taxpayer must include any monthly interest earned on an installment contract in their gross receipts.
Example: A farmer agrees to sell land to a neighbor under a land installment contract. Under the land installment contract, the farmer agrees to convey title to the land to the neighbor and the neighbor agrees to pay the purchase price of the land, plus interest, in monthly payments (the installment payments). The farmer retains title to the land until the neighbor’s installment payment obligations have been fulfilled. In this scenario, the farmer must include the monthly interest earned in their gross receipts. However, the amount earned by the farmer that is applied to the purchase price of the land is not included in the farmer’s gross receipts.
- Dividends and distributions; distributive or proportionate shares. If a taxpayer is a shareholder or member of a corporation, S corporation, or other similar entity, the dividends or distributions paid to the taxpayer from the corporation are expressly excluded from the definition of gross receipts and thus not subject to the CAT. This is also true for the value of any distributive shares or proportionate shares received by the taxpayer by virtue of being a member or partner of a pass-through entity or partnership.
Example: The “patronage dividends” earned by a farmer or farming business that are members of a cooperative are not included in gross receipts. Cooperatives are formed under Ohio’s corporation statute, and these “patronage dividends” are treated the same as a traditional dividend given to a shareholder of any other corporation.
- Sale or transfer of capital assets and assets used in the trade or business of the taxpayer. Ohio law excludes the receipts from the sale or transfer of an asset, described in either Section 1221 or 1231 of the Internal Revenue Code, from the definition of gross receipt, regardless of the length of time the asset is held, and regardless of any gain or loss realized on the transfer of the asset.
When it comes to the Commercial Activity Tax, Ohio is only concerned about the types of assets described within Sections 1221 and 1231. Section 1221 describes those assets held for personal or investment purposes (i.e. capital assets) and Section 1231 describes assets used in the trade or business of the taxpayer.
Interaction between Section 1221 assets and Section 1231 assets. For Ohio CAT purposes, if an asset meets the description in Section 1221’s definition of capital assets or in Section 1231’s description of business assets then the proceeds from the sale of that asset do not need to be included in a taxpayer’s gross receipts. Below is a more detailed explanation of the assets described in Sections 1221 and 1231 of the Internal Revenue Code.
Section 1221 Property: Assets held for personal use and investment. Generally, these assets include property held by a taxpayer, whether or not connected with their trade or business, and used for personal or investment purposes. The proceeds earned by a taxpayer from the sale or transfer of these capital assets are not subject to the CAT.
Section 1231 Property: Assets used in the trade or business of the taxpayer. If an asset is included in the definition of these business assets in Section 1231, then the proceeds from the sale or transfer of the business asset do not need to be included in the taxpayer’s gross receipts. According to Section 1231, property used in the trade or business includes:
-
-
- Depreciable property including, farm machinery, equipment, etc.(so long as it is not considered “inventory”). The entire gross receipt from the sale or transfer of the depreciable asset is exempt from the CAT, regardless of whether a taxpayer recognizes a gain or loss from the sale, including IRC Section 1245 or 1250 recapture income.
- Real property used in the taxpayer’s trade or business (so long as it is not considered “inventory”);
- Timber, coal, and iron ore that are still in the ground (once the mineral is removed from the ground, however, it is no longer an asset used in the trade or business and instead becomes inventory and thus subject to the CAT);
- Livestock held by the taxpayer for draft, breeding, dairy, or sporting purposes. (Livestock is uniquely defined in the Code of Federal Regulations to include cattle, hogs, horses, mules, donkeys, sheep, goats, fur-bearing animals, and other mammals. Livestock does not include poultry, chickens, turkeys, pigeons, geese, other birds, fish, frogs, reptiles, etc.); and
- Unharvested crop on land, which is sold simultaneously to the same person is considered “property used in the trade or business.”
-
Therefore, if an asset that is sold/transferred is included in the above definition, then the proceeds from that sale/transfer do not need to be included in a taxpayer’s gross receipts.
Examples: The Ohio Department of Taxation has provided some of the following examples to help demonstrate “property used in the trade or business” of a taxpayer and whether the receipts from the sale or transfer of those assets should be included in gross receipts:
- A farmer trades in a tractor with a FMV of $50,000 and an adjusted tax basis of $0. The farmer would have $50,000 in recapture income recognized. However, under the CAT, this recaptured income is not included in the farmer’s gross receipts.
- A farmer selling land, including the crops grown on the land, can exclude receipts from the sale if both the crops and land are simultaneously sold to the same person. Once the purchaser harvests the crop, it becomes part of the purchaser’s inventory, and the purchaser must report the receipt from the sale of that crop in their gross receipts.
- A farmer who harvests corn for sale must include the proceeds from the sale of the corn in their gross receipts.
- Proceeds from the sale of livestock that are used for draft, breeding, dairy, or sporting purposes are excluded from gross receipts.
- Cattle raised for slaughter are not considered Section 1231 property, instead they are viewed as inventory. Therefore, a farmer or other taxpayer who finishes steers in a feed lot for slaughter must include those proceeds earned in gross receipts.
- A taxpayer who sells acreage including standing timber can exclude the receipts from this sale from CAT.
- A taxpayer who cuts timber for the purpose of selling it in the taxpayer’s trade or business cannot exclude receipts from this transaction from their gross receipts. The opposite is true for a landowner who is not in the business of cutting and selling timber. A landowner that sells timber on their property is selling Section 1221 property. Generally, the landowner is selling title of the timber to another party. The purchaser of the timber will have to include the receipts from the sale of the timber in their gross receipts, but the landowner does not.
- There are some special considerations for the sale of a business. For a business that is selling its stock and assets to another entity/taxpayer, the receipts from this sale are excluded from CAT as Section 1221 property. However, those receipts from any outstanding accounts receivable or inventory held by the business at the time of the sale must be included in the business’s gross receipts and thus subject to CAT.
Chart 2 below, provided by the Ohio Department of Taxation, contains a list of different types of assets and whether the receipts from the sale or transfer of these assets are subject to CAT:
Chart 2: Examples of Assets Subject to the CAT
|
Sale or transfer of . . . |
Subject to CAT? |
|
Personal residence |
NO |
|
Office building sold by investor |
NO |
|
Personal car (used for pleasure) |
NO |
|
Delivery truck not part of inventory |
NO |
|
Stocks and bonds (personal investment) |
NO |
|
Accounts receivable |
YES |
|
Supplies used in taxpayer’s business |
YES |
|
Fishing pole sold at yard sale |
NO |
|
Fishing pole sold by a retailer |
YES |
|
Jewelry not sold by retailer/wholesaler |
NO |
|
Hedging transactions |
NO |
|
Personal sailboat (used for pleasure) |
NO |
|
Copy machine used for business purposes |
NO |
|
Inventory |
YES |
|
Golf clubs sold at yard sale |
NO |
|
Golf clubs sold by a professional player |
NO |
|
Unextracted oil sold with land |
NO |
|
Extracted mineral |
YES |
|
Cattle (livestock) – non-inventory |
NO |
|
Poultry |
YES |
|
Farmland with growing crops |
NO |
|
Harvested crops |
YES |
|
Copyright |
YES |
|
Stock certificates |
NO |
|
Accounts receivable |
YES |
|
Business equipment |
NO |
Step 2. Determine “taxable gross receipts.”
After a taxpayer has calculated their gross receipts, the taxpayer must then determine their “taxable gross receipts.” A “taxable gross receipt” is a gross receipt that is sitused (or sourced) to the state of Ohio. Generally, gross receipts are sourced based on the benefit to the purchaser. Section 5751.033 of the Ohio Revised Code sets forth the rules for determining how to source gross receipts to Ohio. Gross receipts are sitused to Ohio as follows:
Chart 3: Sourcing Gross Receipts to Ohio
|
Real Property:
|
|
|
Tangible Personal Property:
|
|
|
Other Services |
|
Step 3. Only include those taxable gross receipts for the current tax year.
Ohio law provides that a “taxpayer’s method of accounting for gross receipts for a tax period shall be the same as the taxpayer’s method of accounting for federal income tax purposes . . .” The taxpayer’s method of accounting will be either the cash method or accrual method of accounting. Under the cash method, a taxpayer reports income in the tax year the income is received. Under the accrual method, a taxpayer reports income in the tax year it is earned, regardless of when payment is received. Therefore, for a taxpayer that uses the cash method of accounting, gross receipts are only included in the tax year that the receipt is received. Take, for example, a grain farmer that enters into a deferred payment contract with the local grain elevator. If the farmer uses the cash method of accounting, the receipt from the sale of the farmer’s grain is included in the year when payment is received. If the farmer uses the accrual method of accounting, the receipt from the sale of the farmer’s grain must be included in the year the farmer entered into the deferred payment contract because that would be the year when the farmer earned the income.
Conclusion.
In summary, a taxpayer’s obligation under Ohio’s Commercial Activity Tax is largely determined by the amount of “taxable gross receipts” the taxpayer has for the current tax period. A taxpayer must engage in the daunting process of determining what is and is not a “gross receipt” and then must situs (or source) those gross receipts to Ohio in order to calculate their “taxable gross receipts.” However, determining a taxpayer’s obligations under the CAT does not stop there. There are additional requirements such as registration, minimum tax imposed, and filing frequency. For more information about a taxpayer’s obligations under the CAT, please visit the Ohio Department of Taxation’s Commercial Activity Tax (CAT) – General Information website.
Sources
26 U.S. Code § 1221 – Capital Asset Defined
26 U.S. Code § 1231 – Property Used in the Trade of Business and Involuntary Conversions
26 C.F.R. §1.1231-2 – Livestock held for draft, breeding, dairy, or sporting purposes
Ohio Administrative Code Chapter 5703-29: Commercial Activity Tax
Ohio Department of Taxation – Commercial Activity Tax (CAT) - FAQs
Ohio Department of Taxation – Commercial Activity Tax (CAT) – General Information
Ohio Department of Taxation – CAT 2005-17:“Taxable gross receipt,” defined
Ohio Department of Taxation – CAT 2006-04: Commercial Activity Tax: Cash Discounts, Defined
Ohio Revised Code Chapter 5751: Commercial Activity Tax