All Aboard: The Impact of the New York State MTA Payroll Tax on Alternative Investment Fund Managers

On May 7, 2009, New York Governor David Paterson signed into law Assembly Bill A08180, establishing the Metropolitan Commuter Transportation Mobility Tax (MCTMT, or MTA payroll tax).¹ This bill was written to alleviate fare hikes and service cuts that were adopted as part of the Metropolitan Transportation Authority’s (MTA) budget in April. The bill imposes a new tax on employers and self-employed individuals engaging in business within the 12 counties of the Metropolitan Commuter Transportation District (MCTD), which consists of all five boroughs of New York City and Nassau, Suffolk, Westchester, Orange, Dutchess, Putnam, and Rockland counties.²

The MTA payroll tax is in addition to the MTA surcharge, which is imposed on corporations, transportation and transmission companies, banks, and insurance companies under Articles 9, 9-A, 32, and 33 of the New York Tax Law.³ Similar to the MTA payroll tax, the MTA surcharge was enacted to help finance mass transportation expenditures in the MCTD. Although originally enacted in 1982 as a temporary surcharge, the MTA surcharge has been extended year after year. For corporate taxpayers, the 17% MTA surcharge is calculated based on the 9% New York corporate franchise tax rate in effect in 1997.⁴

Undoubtedly, the MTA payroll tax further adds to the high tax burden on employers, such as alternative investment fund managers, doing business in the MCTD. While the intent of the tax is to fund vital mass transportation expenditures without having to significantly raise commuter fares, it may have the unintended effect of driving employers out of the MCTD and prolonging the economic recession in New York State and New York City.

Imposition of MTA Payroll Tax on Employers

The MTA payroll tax is imposed on the following:

• All employers (other than public school districts) beginning on or after March 1, 2009;
• Public school districts within the MCTD beginning on or after September 1, 2009; and
• Self-employed individuals (including partners in partnerships and members of a limited liability company (LLC) treated as a partnership) for tax years beginning on or after January 1, 2009.⁵

“Employer” means any employer that is required by New York State Tax Law Section 671 to deduct and withhold New York State income tax from wages paid to employees and that has a payroll expense in excess of $2,500 in any calendar quarter, other than: (1) any agency or instrumentality of the United States; (2) the United Nations; or (3) an interstate agency or public corporation created under an agreement or compact with another state or Canada.⁶

“Payroll expense” means the total wages and compensation subject to federal Social Security taxes or railroad retirement taxes, as defined in Secs. 3121 and 3231, paid to covered employees.⁷ However, in computing the payroll expense, the annual limitation on the amount of wages and compensation of a covered employee subject to Social Security tax or railroad retirement tax does not apply.⁸

Application of Tests to Determine If an Employee Is a Covered Employee

A “covered employee” is an individual who is employed within the MCTD,⁹ including an employee whose services are allocated to the MCTD. The new law provides for the application of the following successive tests to determine allocation. If one test results in the allocation of all services to the MCTD, the employer can stop; otherwise, the employer should proceed to the next test.¹⁰

Test 1—Localization

All an employee’s services are allocated to the MCTD if the services are localized there. Services are deemed localized within the MCTD if they are either performed entirely within the MCTD or performed both within and outside the MCTD, but those performed outside the MCTD are incidental to the services performed within the MCTD (for example, the services are temporary or transitory in nature or consist of isolated transactions).

Test 2—Base of Operation

If an employee’s services are not localized in the MCTD, all services are allocated to the MCTD if the employee’s base of operations is in the MCTD. (This test cannot be applied if the employee has either more than one base or no base of operations.)

“Base of operations” means the place at which the employee is not continuously located but from which the employee customarily starts out performing his or her functions within or outside the MCTD. The base of operations is where the employee customarily returns in order to receive instructions from his or her employer or communications from other persons or to replenish stock and materials, repair equipment used, or perform any other function necessary in the exercise of his or her trade or profession.

Test 3—Place of Direction and Control

If neither of the two preceding tests results in a clear allocation of services, then if (1) direction and control emanate from only the MCTD and (2) the employee performs some services within the MCTD, all services are allocated to the MCTD.

“Direction and control” means the place from which the employer directs and controls the activities of the employees. It is not necessarily the location of the principal office but rather the point from which basic authority over the supervision of the employees’ services emanates (for example, the place from which job assignments are made and/or instructions are issued or the place at which personnel and payroll records are maintained).

Test 4—Residence

If none of the preceding tests results in a clear allocation of services, all the employ-ee’s services are allocated to the MCTD if the employee resides in the MCTD and performs some services in the MCTD.

This series of tests to determine whether an employee’s services should be allocated to the MCTD is unlikely to fairly resolve all possible working scenarios. If tests 1–3 do not provide a determination, it seems that test 4 discriminates against employers with employees living in the MCTD.

Using the tests can help employers, such as alternative investment fund managers, save on the MTA payroll tax. For example, employers who have office locations outside the MCTD should conduct a review and make certain that employees based or working outside the MCTD are coded correctly by the payroll or human resources department. In addition, employers may want to evaluate the impact the MTA payroll tax could have on their current business locations to determine if any adjustments need to be made in how they operate.

MTA Payroll Tax Base, Rate, and Exemptions

The MTA payroll tax rate is 0.34% of an employer’s payroll expense for all covered employees for each calendar quar-ter.¹¹ All the payroll expense for a covered employee is subject to the tax even if the covered employee works both within and outside the MCTD. No tax exemptions apply to the MTA payroll tax, and no tax credits may be used to reduce the amount of tax due.¹² Note that an employer cannot deduct from an employee’s wages or compensation any amount that represents all or any portion of the MTA payroll tax.¹³

Tax Payment Schedule (PrompTax and Non-PrompTax Filers)

Employers who are required to enroll in New York’s electronic filing and funds transfer program (PrompTax) for New York State withholding tax purposes must pay the MTA payroll tax on the same dates they remit withholding tax payments under the PrompTax program.¹⁴ Non-PrompTax filers must report and pay the tax for each calendar quarter by the last day of the month following the end of the quarter, as in the exhibit below.

Employers who voluntarily enroll in the PrompTax program for withholding tax purposes are not required to make MTA payroll tax payments on the same date as they make their PrompTax payments, but they may choose to do so. If an employer chooses not to, the employer must make MTA payroll tax payments on the dates provided above.

Employers are not allowed any extensions of time to report or pay the MTA payroll tax. If an employer overpays its MTA payroll tax, the employer may apply for a refund. However, the New York State Department of Taxation and Finance will keep all or part of an overpayment of the MTA payroll tax if the employer owes a past-due legally enforceable debt to: (1) a New York State agency; (2) New York City; or (3) another state, provided that state has entered into a reciprocal agreement with New York State.

Special Rule for 2009

An employer that is required to remit withholding tax payments through PrompTax must submit the initial MTA payroll tax payment for 2009 on the same date that its first PrompTax withholding tax payment is due on or after October 31, 2009. This also applies to an employer that chooses to remit withholding tax payments through the Promp-Tax program and chooses to make MTA payroll tax payments on the PrompTax withholding tax schedule. The initial payment must include the MTA payroll tax due for the period beginning March 1, 2009, and ending on the payroll date for which the first Promp-Tax payment occurring on or after October 31, 2009, is made. There will be no penalty on the amount due with the initial payment provided the employer makes the initial payment by the same date that its first PrompTax withholding tax payment is due on or after October 31, 2009.¹⁵

The initial MTA payroll tax report and payment for employers not required to pay withholding tax through the Promp-Tax program was due by November 2, 2009 (because October 31, 2009, fell on a Saturday). This initial payment must have included the MTA payroll tax due for the period March 1, 2009–Septem-ber 30, 2009. There will be no penalty on amounts attributable to the tax period ending September 30, 2009, provided the employer made the initial payment by November 2, 2009. The payment due for the period October 1, 2009–December 31, 2009, is due by February 1, 2010 (because January 31, 2010, falls on a Sunday).

Imposition of MTA PayrollTax on Self-Employed Individuals

Effective for tax years beginning on or after January 1, 2009, individuals with net earnings from self-employment allocated to the MCTD, including partners in partnerships and members of LLCs that are treated as partnerships, are subject to the MTA payroll tax.¹⁶ The amount of the MTA payroll tax is 0.34% of the total net earnings from self-employment allocated to the MCTD for the tax year. The MTA payroll tax applies only if the individual’s net earnings from self-employment allocated to the MCTD are greater than $10,000 for the tax year. The $10,000 threshold test must be applied on an individual basis regardless of the taxpayer’s filing status.

“Net earnings from self-employment” refers to an individual’s net earnings from self-employment as defined under Sec. 1402(a), which defines what self-employ-ment income is subject to Social Security taxes.¹⁷ However, the annual limitation on the amount of net earnings from self-employment subject to Social Security tax does not apply in computing the amount of net earnings from self-employment subject to the MTA payroll tax.

“Net earnings from self-employment allocated to the MCTD” refers to an in-dividual’s net earnings from self-employ-ment that are attributable to a business carried on within the MCTD. Business activity is carried on within the MCTD if an individual has, maintains, operates, or occupies desk space, an office, shop, store, warehouse, factory, agency, or other place located in the MCTD where his or her business matters are systematically and regularly carried on. Similarly, business activity is carried on outside the MCTD if the individual has, maintains, operates, or occupies desk space, an office, shop, store, warehouse, factory, agency, or other place located outside the MCTD where his or her business matters are systematically and regularly carried on.¹⁸

Allocation of Net Earnings from Self-Employment

An individual is allowed to allocate net earnings from self-employment if business activities are carried on both within and outside the MCTD. If all an individual’s business activity is carried on within the MCTD, all the individual’s net earnings from self-employment are allocated to the MCTD.

An individual who has self-employ-ment net earnings from activity both within and outside the MCTD must allocate those net earnings to determine whether the $10,000 annual threshold has been met and the amount of MTA payroll tax due. For this purpose, net earnings are allocated using the same rules that apply for the allocation of business income earned within and outside New York State under the personal income tax rules. Accordingly, if the individual keeps books and records that fairly and equitably show self-employment net earnings from business activity in the MCTD, the individual may determine the part to be allocated to the MCTD from those books and records.¹⁹

If the books and records do not fairly and equitably show the net earnings from self-employment in the MCTD, the individual must allocate his or her net earnings from self-employment using the three-factor (property, payroll, and receipts) equally weighted statutory formula method or another method that has been authorized by the New York State taxation and finance commissioner. Partners in a partnership and members of an LLC treated as a partnership will need to obtain allocation information, if applicable, from the partnership or the LLC. Individuals, partners, and members of an LLC should focus on the calculation of their three- factor allocation formula because this will affect the amount of net earnings subject to tax. Partners and members should attempt to receive accurate flowthrough income and apportionment information from the partnership and the LLC. This is especially important when there are several tiers of partnerships and LLCs.

Estimated MTA Payroll Tax Payments

Individuals, including partners in a partnership and members of an LLC treated as a partnership, who will owe any amount of MTA payroll tax for the tax year must make estimated tax payments. ²⁰ Those payments are due on April 30, July 31, and October 31 of the current year and January 31 of the following calendar year. An individual may estimate and pay all his or her estimated MTA payroll tax with the first payment or pay it in four equal installments.

Safe-Harbor Rule for 2010

The estimated tax rules that apply for purposes of New York State personal income tax apply to the MTA payroll tax, but there is no exception from estimated MTA payroll tax payments for taxpayers who expect to owe less than $300 of MTA payroll tax for the tax year. Therefore, to avoid a penalty for underpayment of the payroll tax for the tax year, the individual’s total amount of MTA payroll tax payment(s) must be: (1) at least 90% of the amount of the MTA payroll tax due for the tax year; or (2) 100% of the MTA payroll tax reported for the prior tax year (or 110% if the indi-vidual’s net earnings from self-employment allocated to the MCTD for the prior tax year are more than $150,000). However, this rule does not apply for tax year 2009.²¹

Taxpayers cannot combine estimated MTA payroll tax payments with any estimated New York State personal income tax payments they may be required to make.

Special Rule for 2009

The MTA payroll tax is imposed on an individual’s net earnings from self-employment allocated to the MCTD if those earnings are more than $10,000 for tax year 2009. However, the individual’s MTA payroll tax liability for the 2009 tax year will be computed using ¹⁰⁄12 of the total net earnings from self-employment allocated to the MCTD. In the case of a partner in a partnership that operates on a fiscal-year basis, the partner will include in the computation ¹⁰⁄12 of the net earnings from self-employment allocated to the MCTD for the partnership’s entire fiscal year that ends in the 2009 tax year.²²

The initial estimated MTA payroll tax payment for 2009 was due by November 2, 2009 (because October 31, 2009, fell on a Saturday).

Use the following steps to estimate the initial MTA payroll tax payment:

1. Estimate the individual’s 2009 net earnings from self-employment allocated to the MCTD.
2. Divide the amount from step 1 by 12.
3. Multiply the result from step 2 by 10.
4. Multiply the result from step 3 by .34% (.0034).
5. Multiply the result from step 4 by 75% (.75). The result of this step is the amount of the initial estimated tax payment.²³

There will be no penalty for the underpayment of estimated tax for periods prior to October 31, 2009, provided the individual includes the total estimated tax due for the period January 1, 2009– September 30, 2009, in the October 31 payment.

Any estimated MTA payroll tax payment due for the period October 1, 2009– December 31, 2009, is due by February 1, 2010 (January 31, 2010, falls on a Sunday). To estimate the payment due by February 1, 2010, if applicable, substitute 25% (.25) for 75% in step 5 above.

Annual MTA Payroll Tax Reconciliation

An individual with net earnings from self-employment must file an MTA payroll reconciliation return to reconcile his or her MTA payroll tax estimated tax payments. The return is due on or before the 30th day of the fourth month following the close of the tax year. (For calendar-year taxpayers, this will be April 30.)²⁴

The reconciliation return must indicate the actual amount of the MTA payroll tax due for the tax year and the estimated payments made during the year. Any additional MTA payroll tax due must be remitted with the reconciliation return.

Individuals will receive a refund for any overpayment of the MTA payroll tax or may apply the overpayment to the in-dividual’s estimated MTA payroll tax for the next tax year. However, the Department of Taxation and Finance will keep all or part of any overpayment (refund) if the individual owes:

• A New York State tax liability;
• New York City or Yonkers personal income tax liability;
• A past-due support or a past-due legally enforceable debt to the IRS, a New York State agency, or another state;
• On a defaulted governmental education, state university, or city university loan; or
• A New York City tax warrant judgment debt.

An automatic extension of time to submit the reconciliation return may be granted if an individual with net earnings from self-employment cannot meet the due date for filing the return. However, an extension of time to submit the return does not extend the time to pay the tax. Individuals must pay any balance due in full with the request for extension.

If an individual with net earnings from self-employment also has employees, the individual may be subject to the MTA payroll tax on his or her payroll expense for covered employees, as discussed earlier in this article.

Group Composite Returns Allowed

In August 2009, the Department of Taxation and Finance released information regarding a partnership’s ability to file a group return on behalf of its electing partners. The group return filing for the MTA payroll tax is available for all partners, both New York State residents and nonresidents. This filing is separate from the New York nonresident composite income tax return filing (Form IT-203-GR, Group Return for Nonresident Partners). A partner who participates in the group return filing for the MTA payroll tax can still elect to file separately for New York State personal income tax purposes. When electing into the New York State group return for personal income tax purposes, the partner loses the ability to claim itemized deductions and exemptions. However, there is no difference in the calculation of the MTA payroll tax between filing separately and electing into the group return.

Practice tip: For the principals of alternative investment funds, it would most likely be advisable to elect into the group return to avoid the administrative burden of filing an annual reconciliation.

To qualify for the group filing, the partnership must have two or more qualified partners who want to file as a group, and all partners in the group must have the same filing period. Partnerships must file Form MTA-599, Application for Permission to Make Metropolitan Commuter Transportation Mobility Tax Group Estimated Tax Payments and File a Group Return. For the 2009 tax year, Form MTA-599 must be filed by September 15, 2009. For all subsequent tax years, it must be filed by March 15 of the tax year. Once approved, the partnership will be issued a special MCTMT identification number that must be used on the MCTMT group filings. An approval to file on a group basis will remain in effect unless it is revoked. Annual approvals are not required.

MCTMT payments are made with Form MTA-5, Estimated Metropolitan Commuter Transportation Mobility Tax Payment Voucher. The estimated group payments are due at the same time as the employer payments. The group return will be filed on Form MTA-505, Metropolitan Commuter Transportation Mobility Tax Group Return for Partners, and is due on April 30 for calendaryear- end partnerships. 25 Note that any overpayments of the MTA payroll tax cannot be refunded and can only be applied to the group estimated MCTMT account for the following year.

Partnerships and Partners

If a partnership, including an LLC treated as a partnership, is doing business within the MCTD, each partner will be subject to the MTA payroll tax based on his or her share of the partnership’s net earnings from self-employment allocated to the MCTD if his or her net earnings from self-employment allocated to the MCTD are more than $10,000 for the tax year.²⁶

The partnership must provide to each partner either the actual amount of net earnings from self-employment allocated to the MCTD or the allocation percentage so that the partner can determine the amount of the MTA payroll tax due. The “Allocation of Net Earnings from Self-Employment” section on p. 859 discusses how to determine the amount of net earnings from self-employment allocated to the MCTD or the allocation percentage. Basically, allocation of net earnings can be based on accurate books and records or on application of the three-factor (property, payroll, and receipts) equally weighted statutory formula method.

The MTA payroll tax does not address how the new law applies to complex partnership structures, such as alternative investment fund managers. For example, with regard to alternative investment funds, if the fund is carrying on a trade or business in the MCTD (e.g., loan origination), the income received by the general partner will be considered earnings from selfemployment. Generally, most investment managers are structured as limited partnerships under law, with the principals directly invested as limited partners and an LLC as the general partner. The principals of the investment manager are generally members of the general partner LLC. Based on the new law, the guaranteed payments made by the investment manager to its principals as limited partners would be considered net earnings from self-employ-ment as well as the principals’ share of the management and incentive fee earned through the general partner vehicle. The principals’ guaranteed payment and general partner income from the investment manager would be subject to the MTA payroll tax based on the investment man-ager’s apportionment to the MCTD. The principals’ general partner income will be subject to the MTA payroll tax based on the allocation to the MCTD of the fund’s trade or business income.

Estimated MTA Payroll Tax Payments on Behalf of Nonresident Partners

Partnerships that do business within the MCTD are required to make estimated MTA payroll tax payments on behalf of individual partners who are nonresidents of New York State except under the following circumstances:²⁷

• Any partner whose estimated MCTMT required to be paid for the tax year by the partnership is $300 or less;
• Any partner if the partnership files a group return and the partner has elected to be included on the group return; or
• Any partner that certifies to the partnership that the partner will comply in his or her individual capacity with the department’s MTA payroll tax estimated tax filing requirements.²⁸

Because of the different estimated due dates as well as the separate annual reconciliation required, the partnership cannot combine estimated MTA payroll tax payments with any estimated New York State personal income tax payments that the partnership may be required to make on behalf of nonresident partners.

Note that the estimated payment requirement is allowed only for nonresident partners. As stated above, if a partner goes into the group return, estimated payments are not required, thus making the group return option more attractive from an administrative position.

Modifications for the MTA Payroll Tax on New York State Tax Returns and Reports

When preparing New York State tax returns, any deduction permitted for federal income tax purposes for the MTA payroll tax must be added back,²⁹ and any refund of the MTA payroll tax must be subtracted, for purposes of computing New York State taxes imposed by Articles 9-A (corporation franchise tax), 13-A (petroleum business tax), 22 (personal income tax), 32 (bank franchise tax), and 33 (insurance franchise tax) of the New York Tax Law, and New York City Administrative Code Sections 11-602 (general corporation tax), 11-641 (banking corporation tax), 11-712 (commercial rent or occupancy tax), and 11-1718 (city personal income tax). An interesting note is that the addback is not required for the New York City unincorporated business tax (UBT) under New York City Administrative Code Section 11-501. It is unclear why the UBT was not one of the enumerated taxes.

A partnership must provide each partner with the partner’s share of any addition or subtraction modification relating to the MTA payroll tax.

Penalties and Interest

The penalties under Article 22 of the New York State Tax Law (personal income tax) also apply to the MTA payroll tax. These penalties may include but are not limited to:

• Late filing penalty;
• Late payment penalty;
• Failure-to-file penalty; and
• Penalty for underpayment of estimated tax (self-employed individuals only).

Interest also applies on any MTA payroll tax that is not remitted on or before the payment due date.

Conclusion

The MTA payroll tax is somewhat complex in how it is applied and calculated. While the tax is imposed on employers and self-employed individuals, each of those groups faces unique issues. Employers must apply a series of tests to determine if an employee’s services should be allocated to the MCTD. Basically, the tests try to determine where an employee conducts most of his or her business activities. Thus, businesses may be tempted to move some or all of their operations outside the MCTD area.

While the MTA payroll tax is calculated on 100% of a covered employee’s payroll expense, despite the fact that the employee may work both inside and outside the MCTD, the tax is calculated differently for self-employed individuals, partners, and LLC members. Only the net earnings allocated to the MCTD, typically by applying an apportionment factor, are subject to the MTA payroll tax. Accordingly, an accurate calculation of the allocation factor will have a significant impact on that enti-ty’s MTA payroll tax liability. Other issues that partnerships and LLCs must deal with include nonresident withholding tax requirements and electing to file group composite returns. Clearly, the MTA payroll tax does not address how the new law applies to specific industry groups, such as alternative investment funds, that may have more complex partnership structures.

With the enactment of the MTA payroll tax, employers, such as alternative investment fund managers, operating in New York City will be subject to an additional tax burden. Because the MTA payroll tax cannot be collected from employees, employers that are already hurting from the recession are likely to absorb the tax as an operating cost. While the proceeds from the tax will help prevent significant increases in mass transportation fares, MCTD businesses will bear the financial burden, and these businesses may pass on the burden to consumers. While there is no simple solution to budget deficits during a recession, the MTA payroll tax may be the final straw that convinces some employers, such as alternative fund managers, to leave New York City and other MCTD areas, such as Westchester and Long Island, for Connecticut, New Jersey, or even a jurisdiction with no personal income tax, like Florida.

EditorNotes

Brian J. Rebhun and Peter P. Michalowski are principals and Allison Wong is a director at PricewaterhouseCoopers LLP in New York, NY.

¹ NY AB A08180, enacted May 7, 2009, as Article 23 of NY Tax Law; NY Technical Service Bureau Memorandum TSB-M-09(1)MCTMT (6/1/09).

² NY Tax Law §800(a); NY Pub. Auth. Law §1262.

³ NY Tax Law §§209-B, 183-a(1), 184-a(1), 1455-B, and 1505-a.

⁴ NY Tax Law §209-B(1).

⁵ NY AB A08180, Ch. 25, Part C, §23(a).

⁶ NY Tax Law §800(b).

⁷ NY Tax Law §800(c).

⁸ TSB-M-09(1)MCTMT.

⁹ NY Tax Law §800(d).

¹⁰ TSB-M-09(1)MCTMT.

¹¹ NY Tax Law §801(a).

¹² NY Tax Law §803.

¹³ NY Tax Law §802.

¹⁴ NY Tax Law §804(a).

¹⁵ TSB-M-09(1)MCTMT.

¹⁶ NY Tax Law §801(b)(1).

¹⁷ NY Tax Law §800(e).

¹⁸ TSB-M-09(1)MCTMT

¹⁹ Id.

²⁰ NY Tax Law §804(b).

²¹ TSB-M-09(1)MCTMT.

²² Id.

²³ Id.

²⁴ Id.

²⁵ Fiscal-year partnerships must file on or before the 30th day of the fourth month following the close of the fiscal year.

²⁶ TSB-M-09(1)MCTMT.

²⁷ Id.

²⁸ The partner must submit Form MTA-405-E, Certificate of Exemption from Partnership Estimated Metropolitan Commuter Transportation Mobility Tax Paid on Behalf of Nonresident Individual Partners.

²⁹ NY Tax Law §292(a)(8).