Many Tennessee franchise and excise tax (F&E tax) taxpayers benefited from major changes to the F&E tax for 2024. This followed Tennessee’s enactment of the Works Tax Act in 2023, which also introduced significant changes to the F&E tax. In addition, the Tennessee Department of Revenue (Department) issued some noteworthy rulings addressing sales factor sourcing and other issues impacting corporate taxpayers and financial institutions. This article offers a synopsis of these Tennessee F&E tax legislative and administrative developments that may impact Tennessee taxpayers for the 2024 and future tax years.
Tennessee’s 2024 Franchise Tax Refunds
By far, the leading F&E tax development for 2024 was the repeal of the alternative property measure base and issuance of refunds to taxpayers required to use that measure to calculate their franchise tax liabilities for the 2020–2023 tax years. Taxpayers had until November 30, 2024 to file refund claims (December 2, 2024 if certain conditions were met since December 30 was a Saturday.) As of the end of 2024, Tennessee’s Commissioner of Revenue reported to the General Assembly that $1.27 billion of franchise tax refunds had been paid. That figure may rise as “last-minute” refund claims are processed.
Insight from Forvis Mazars: The results of the Tennessee “Schedule G” franchise tax refunds for taxpayers were positive, but to date less than the spring 2024 estimate of $1.5 billion of refunds. It also is illustrative of similar constitutional question marks concerning some other state franchise taxes.
2025 Is the Start of the Single Sales Factor Apportionment Formula
Among other changes, 2023’s Works Tax Act ushered in the phaseout of Tennessee’s three-factor apportionment formula commencing with the 2023 tax year. For tax years ending on or after December 31, 2025, Tennessee will require all taxpayers to use a single sales factor formula. An annual election will be allowed to use the three-factor formula (consisting of property, payroll, and a sales factor weighted three times) if that results in a higher Tennessee apportionment ratio.
Insight from Forvis Mazars: Many Tennessee F&E tax credits, including the popular jobs tax credit and industrial machinery credit, have a 15-year excess credit carryforward period. Taxpayers in an excess credit with soon-expiring credits could consider with their tax advisor whether the annual three-factor formula election has benefits.
Tennessee Fiscal Year 2024 Tax Credit Report
On December 23, 2024, the Department issued its required annual report to the General Assembly related to Tennessee’s statutory tax credits. The report provides noteworthy information. For fiscal year 2024, more than $252 million of tax credits were claimed with more than $1.2 billion of excess credits carried into 2024! The top tax credits claimed were:
| Community Investment Credit (financial institutions) | $84,783,194 |
|---|---|
| Industrial Machinery Credit | $58,344,968 |
| Jobs Tax Credit | $45,795,291* |
*Includes the standard job tax credit plus additional annual jobs tax credit for enhancement counties.
The top three industries claiming F&E tax credits were manufacturing, headquarters, and warehousing and distribution.
The Department’s 2024 F&E Tax Rulings
The Department’s five F&E tax rulings issued during 2024 highlighted important policy guidance that will be followed by the Department.
Two Rulings Address the Sourcing of Receipts From Sales of Tangible Personal Property Using Distribution Intermediaries
Revenue Ruling 24-06 and Revenue Ruling 24-12 have fact patterns involving sales via distribution intermediaries—manufactured products were sold, shipped to, and temporarily stored at third-party distribution centers in Tennessee. In Revenue Ruling 24-06, the taxpayer sold its products to wholesale distributors, which in turn sold the products to end-users. Title to the taxpayer’s products passed to the wholesale distributors upon arrival at the distributors’ warehouses. The products remained at the warehouses for 14 to 25 days, were not repackaged or altered, and were then transported to the end-users. The taxpayer was in contact with the end-users during the entire ordering and shipping process, including before and after passage of title. Based on an administrative rule, property is considered delivered or shipped to a purchaser in Tennessee if the shipment terminates in Tennessee, even though the property is subsequently transferred by the purchaser outside the state. As a result, the Department concluded that the sales to the wholesale distributors shipped to a Tennessee warehouse were sourced to the taxpayer-seller’s Tennessee sales factor numerator.
Conversely, Ruling 24-12 addressed a drop shipment fact pattern. The taxpayer was a manufacturer and seller of specialty products. When a merchant received an order for one of the taxpayer’s products, the taxpayer fulfilled the order by contracting with a third-party logistics company. The products arrived at the third party’s climate-controlled distribution center, were not repackaged or altered, remained there for two to six weeks, and then shipped to the end-user. Title did not transfer until the products were received by the end user. While there are some similarities between the facts of Revenue Ruling 24-12 and Revenue Ruling 24-06, the Department distinguished the former ruling from the latter. Largely on the basis of the drop shipment fact pattern and because title did not pass until the taxpayer’s products were delivered to the end-user, the Department ruled in Revenue Ruling 24-12 that sales delivered to non-Tennessee end-users were not sourced to Tennessee even though the product passed through and was temporarily held in a Tennessee distribution center.
Insight from Forvis Mazars: There are some facets of Revenue Rulings 24-06 and 24-12 that raise questions (including consistency of reasoning) in light of at least two prior Department rulings. As a result, manufacturers and sellers of tangible personal property using third-party logistics facilities located in Tennessee and/or other states should be aware of the different Tennessee sales factor sourcing consequences that may arise based on subtle factual differences in how products move through the distribution process. Further, Departments of Revenue in Colorado and Illinois, for example, also addressed sourcing of sales using intermediaries in 2024 and came to some different conclusions. Taxpayers also should be mindful of the subtle sourcing differences they can face in different states.
A Ruling on the Consequences of Becoming a Nonmember of a Financial Institution Unitary Combined Group
Tennessee requires a unitary group of financial institutions to file a unitary combined F&E tax return. A member of the affiliated group that is not a financial institution cannot be included, unless it is a first-tier subsidiary of a unitary group member that is a financial institution. In Letter Ruling 24-08, following a series of restructuring transactions during the tax year, a former non-financial institution member of the unitary group (because it had been a first-tier subsidiary) became a second-tier subsidiary. As a result, this entity became a nonmember of the Tennessee financial institution unitary group. Soon after becoming a nonmember, the entity sold its interests in other limited liability companies that also had become nonmembers of the Tennessee group to an investor group.
Largely because the restructuring transactions did not result in any federal short period return and a policy rationale (that also has appeared in some other recent Department tax guidance), the Department ruled that the prior unitary group “character” of the business or assets sold resulted in the reporting and apportionment of the gain in the Tennessee financial institution unitary group return for the tax year of the sale and not separately by the nonmember seller.
Insight from Forvis Mazars: The Department effectively acknowledges that there is no statutory support for its rationale that a “unitary character” continues to attach to assets or interests of members that are no longer members of a Tennessee financial institution unitary group. Nonetheless, financial institution groups contemplating transactions for capital raising or otherwise should consider both the ruling and rationale of the Department in Letter Ruling 24-08.
Department Allows Carryover of NOLs Following an F Reorganization
Tennessee is a trap for the unwary loss company or excess state tax credit holder involved in “mergers, consolidations, or like transactions.” Unlike most states, Tennessee does not conform with Internal Revenue Code Section 381. In only one limited situation will a Tennessee taxpayer’s net operating loss (NOL) carryforwards or excess state tax credit carryforwards survive the taxpayer’s merger or liquidation or other reorganization (including a conversion into a disregarded entity) for Tennessee excise tax purposes. The survivor of the merger, liquidation, or reorganization must be a “shell” entity that has no income, losses, expenses, assets, and liabilities, etc.
In Letter Ruling 24-09, a parent corporation formed a new corporate subsidiary, which had no income, losses, assets, or liabilities (Newco), and contributed all of the stock of an operating subsidiary (Opco) to Newco. Opco had Tennessee tax attributes, including NOL and excess tax credit carryforwards. Immediately after, Opco converted from a corporation to a limited liability company (LLC) that was treated as a disregarded entity for federal tax purposes (and Tennessee F&E taxes). Also, Opco formally distributed all of its assets and liabilities to Newco in liquidation. In its entirety, the transaction was treated as a non-taxable F reorganization for federal tax purposes. Because Newco was a “shell” company without any income, losses, assets, and liabilities prior to the liquidation and distribution by Opco, the Department ruled that the NOLs and excess tax credit carryforwards of Opco carried over to Newco for Tennessee excise tax purposes and utilized by Newco in future tax years.
Captive REIT Ruling Provides Helpful Guidance
In Revenue Ruling 24-01, the Department clarified a number of questions involving a captive real estate investment trust (REIT) and its captive REIT affiliated group (CRAG). First, although the mortgage REIT and the CRAG were considered financial institutions because they did not own more than 15% of the mortgage originator, they were not “doing business” in Tennessee and did not have to file a Tennessee CRAG combined return. In addition, the limited partnership owner of the REIT and the limited partnership’s 15% corporate limited partner did not have a Tennessee filing obligation because of Tennessee’s tax classification rules and no flow-through from the captive REIT or CRAG.
Department Updates Its Franchise & Excise Tax Manual
The Department maintains and updates various Tax Manuals that reflect the Department’s technical and audit positions. The Tax Manuals constitute “published guidance” pursuant to Tennessee Code Annotated Section 67-1-108. Among other updates to the Department’s Tax Manuals issued in December 2024, the Department announced the following regarding the F&E Tax Manual:
- Updates to reflect the Department’s position on the sourcing of sales of tangible personal property involving distribution intermediaries with a specific reference to Revenue Ruling 24-06.
- A new Schedule I has been created when filing the F&E tax return, Form FAE 170. Schedule I will be required for taxpayers whose FAE 170 includes disregarded entities.
- Chapter 9 of the F&E Tax Manual was updated to include a clarification that the acquisition of an existing affiliated group by a non-affiliate terminates the affiliated group’s Tennessee consolidated net worth election at the time of the acquisition.
- Chapter 18 of the Manual was updated to address the franchise tax proration calculation when a unitary group member enters or exits a financial institution unitary group during the tax year.
How Forvis Mazars Can Help
While 2024 offered many Tennessee taxpayers good news, a number of F&E tax developments—especially the Department’s rulings—present new questions to these taxpayers. Whether you’re a manufacturer/seller using distribution intermediaries, financial institution, or another business considering reorganizations or other transactions, Forvis Mazars can help you navigate these Tennessee F&E tax and other state income/franchise tax developments that may impact you.