Question

As to those states that impose an income tax, comment on the following:

a. "Piggyback" approach and possible "decoupling" from this approach.
b. Using IRS audit results as part of a state tax audit.

c. Credit for taxes paid to other states.

Please write in clear words

Answer 1

a) Piggyback approach and possible decoupling from this approach.

In 2001, North Dakota, Rhode Island, and Vermont had state income tax rates that were set at a percentage of a taxpayer’s federal income tax liability. Such taxes are called “piggyback” taxes because they incorporate all the federal calculations and deductions. The revenue a state receives from such a piggyback tax depends heavily on the federal tax law provisions in effect for a particular taxable year. In 2001, Congress enacted the “Economic Growth and Tax Relief Reconciliation Act of 2001”, which cut federal taxes by an estimated $ 1. 35 trillion over a 10-year period. The act included phased-in reductions in federal marginal income tax rates, additional and increased tax credits, and other individual tax reductions.

The federal reductions caused the three remaining states that had pure piggyback systems to “decouple” their state income taxes from the federal law in order to avoid revenue losses stemming from the federal act. But although the three states no longer tie their taxes to federal income tax liability, all three state taxes retain piggyback features.

b)Using IRS audit results as part of a state tax audit.

State tax audits can use IRS audit results as a part of their reports as the sole function is to review finished examination reports and provide an impartial platform for taxpayers to plead their cases to a higher power within the IRS. They attempt to avoid litigation by resolving tax disputes internally in a way that foments future voluntary taxpayer compliance with the tax laws. IRS audit does all the required work a state tax audit needs to do.

For example errors and fraud detection, not reporting the actual income, excessive business expenses, income donating in the name of charity, etc . Therefore it provides higher information about the audit and is very helpful for the state tax audit .

c)Credit for taxes paid to other states.

There are only a few situations in which you are eligible to take this credit. When you create a Resident state return and a Non-Resident state return, the program will calculate the credit for taxes paid to another state, if applicable.Each state has an article within our Knowledge Base regarding credit for taxes paid to another state. Please review the instructions for your state as many states have reciprocal agreements which does not allow the credit.Most Resident state returns tax your Federal Adjusted Gross Income (AGI), regardless of where the income was earned. Therefore, the income taxed by the Resident state may include income that was earned in and taxed by another state. You only claim the credit for taxes paid to another state if the amount of tax being calculated on your Resident state return is based on income that was taxed by another state. You can usually only take the credit on a Resident return.