New Jersey State Business Income Tax / What kind of tax will you owe on New Jersey business income?

David Steingold for Nolo wrties: Most states tax at least some types of business income derived from the state. As a rule, the details of how income from a specific business is taxed depend in part on the business’s legal form. More particularly, in most states corporations are subject to a corporate income tax, while income from “pass-through entities” such as S corporations, limited liability companies (LLCs), partnerships, and sole proprietorships is subject to a state’s tax on personal income. Tax rates for both corporate income and personal income vary widely among states; corporate rates, which more often are flat regardless of the amount of income, generally range from 4% to 9%, and personal rates, which generally vary depending on the amount of income, can range from 0% (for small amounts of taxable income) to around 9% or more in some states.

Currently, four states (Nevada, South Dakota, Washington, and Wyoming) do not have a corporate income tax, and the same four states, along with Alaska, Florida, and Texas, have no personal income tax. Individuals in New Hampshire and Tennessee are only taxed on interest and dividend income.

Apart from taxing business income through a corporate income tax or a personal income tax, many states impose a separate tax on at least some businesses, sometimes called a “franchise tax” or “privilege tax.” This is frequently defined as a tax simply for the right or “privilege” of doing business in the state. As with state taxes on business income, the specifics of a state’s franchise tax often depend in part on the legal form of the business. Franchise taxes are generally either a flat fee or an amount based on a business’s net worth.

New Jersey taxes corporate income through its corporation business tax (CBT), but the state does not have any franchise or privilege tax generally applicable to businesses. Also, if income from your business passes through to you personally, that income will be subject to taxation on your personal state tax return.

In general terms, the CBT requires that a traditional (C-type) corporation pay the greater of:

• a graduated tax based on entire net income
• an alternative minimum assessment (AMA) based on gross profits; or
• an alternative minimum assessment (AMA) based on gross receipts.

The CBT rates on entire net income are as follows:

• entire net income $50,000 or less = 6.5% tax rate
• entire net income greater than $50,000 up to $100,000 = 7.5% tax rate; and
• entire net income greater than $100,000 = 9% tax rate.

Broadly speaking, the AMA based on gross profits and the AMA based on gross receipts apply only to multistate corporations whose business presence in New Jersey is limited to soliciting orders. More specifically, the two AMAs apply to corporations that choose to exempt themselves from the CBT’s graduated tax on corporate income under a federal law relating to state taxation of businesses, PL 86-272. If you have questions about the AMAs, you should consult with a New Jersey tax professional.

Putting aside the CBT’s income-based tax and AMAs, there is also a required minimum tax on New Jersey gross receipts for traditional corporations, as follows:

• gross receipts less than $100,000 = $500 tax
• gross receipts at least $100,000 but less than $250,000 = $750 tax
• gross receipts at least $250,000 but less than $500,000 = $1,000 tax
• gross receipts at least $500,000 but less than $1,000,000 = $1,500 tax; and
• gross receipts more than $1,000,000 = $2,000 tax.

The CBT also applies to New Jersey S corporations that are subject to federal taxation (due, for example, to built-in gains, excess passive income, or passive investment income). In such cases, as long as the S corporation files the proper New Jersey S corporation election form (CBT 2553), the CBT is based on the S corporation’s New Jersey gross receipts, as follows:

• gross receipts less than $100,000 = $375 tax
• gross receipts at least $100,000 but less than $250,000 = $562 tax
• gross receipts at least $250,000 but less than $500,000 = $750 tax
• gross receipts at least $500,000 but less than $1,000,000 = $1,125 tax; and
• gross receipts more than $1,000,000 = $1,500 tax.

For purposes of comparison, note that for 2012 New Jersey taxes personal income at marginal rates ranging from 1.40% to 8.97%.

Let’s briefly look at additional details for five of the most common forms of New Jersey business: corporations (C corporations), S corporations, LLCs, partnerships, and sole proprietorships.

Corporations. New Jersey corporations are subject to the corporation business tax, which generally speaking is based on the corporation’s entire net income.

Example: For the 2012 tax year, your New Jersey corporation had entire net income of $300,000. Other things being equal, the corporation will owe New Jersey corporation business tax in the amount of $27,000 (9% of $300,000).

S Corporations. An S corporation is created by first forming a traditional corporation, and then filing a special form with the IRS to elect “S” status. Unlike a traditional corporation, an S corporation generally is not subject to separate federal income tax (exceptions include cases where the S corporation has built-in gains, excess passive income, or passive investment income). Rather, taxable income from an S corporation is passed through to the individual shareholders, and each individual shareholder is subject to federal tax on his or her share of the corporation’s income. In other words, S corporations usually are “pass-through” entities. (Note that a shareholder’s share of the S corporation’s income need not actually be distributed to the shareholder in order for the shareholder to owe tax on that amount.)

New Jersey does not recognize the federal S election; instead, as mentioned above, in addition to the federal “S” election form you must also file a New Jersey election form. Moreover, New Jersey S corporations that owe federal tax are also required to pay corporation business tax based on New Jersey gross receipts. Also, independently of any CBT due from the business itself, individual S corporation shareholders will owe tax on their share of the company’s net income.

Example: For the 2012 tax year, your New Jersey S corporation had net income of $250,000 and owed no federal taxes. The corporation will not owe any New Jersey corporation business tax. The corporation’s $250,000 of net income will be allocated to you and your fellow shareholders, and you will each pay tax on your own portions on your respective state tax returns; the rate will vary depending on your overall net income for the year.

Limited Liability Companies (LLCs). Standard LLCs are pass-through entities and are not required to pay income tax to either the federal government or the State of New Jersey. Instead, income from the business is distributed to individual LLC members, who then pay federal and state taxes on the amount distributed to them.

Note that while by default LLCs are classified for tax purposes as partnerships (or, for single-member LLCs, “disregarded entities”), it is possible to elect to have your LLC classified as a corporation. In that case, the LLC would also be subject to New Jersey’s corporation business tax.

Example: For the 2012 tax year, your multi-member LLC, which has the default tax classification of partnership, had net income of $250,000. The $250,000 in net income will be divvied up between you and your fellow LLC members, and you will each pay tax on your own portions on your respective state tax returns; the rate will vary depending on your overall net income for the year.

Partnerships. Partnerships are pass-through entities and are not required to pay income tax to either the federal government or the State of New Jersey. Instead, income from the business is distributed to individual partners, who then pay federal and state taxes on the amount distributed to them

Example: For the 2012 tax year, your partnership had net income of $100,000. The $100,000 in net income will be divvied up between you and your fellow partners, and you will each pay tax on your respective portions on your respective state tax returns; the rate will vary depending on your overall net income for the year.

Sole Proprietorships. Income from your business will be distributed to you as the sole proprietor, and you will pay tax to the state on that income.

Example: For the 2012 tax year, your sole proprietorship had net income of $100,000. The $100,000 in net income is distributed to you personally, and you pay tax on that income on your individual state tax return; the rate will vary depending on your overall net income for the year.

Note on Multistate Businesses and “Nexus”

Our primary focus here is on businesses operating solely in New Jersey. However, if you’re doing business in several states, you should be aware that your business may be considered to have “nexus” with those states, and therefore may be obligated to pay taxes in those states. Also, if your business was formed or is located in another state, but generates income in New Jersey, it may be subject to New Jersey taxes. The rules for taxation of multistate businesses, including what constitutes nexus with a state for the purpose of various taxes, are complicated. If you run such a business, you should consult with a tax professional.