Original Date: December 18, 2009

Updated October 21, 2010

Primary Author: Scott Beane

 

Question:

What is NH's business income tax on small businesses?
 

Answer:

Though New Hampshire has no income tax on W-2 wages, amongst its other taxes include significant business income taxes. Before a 2009 tax hike which was repealed in 2010, the State's marginal tax rate, which is not progressive based, was 13.5% on most businesses. After repeal it dropped back to 8.5% for pass through entities, but remains at 13.5% for corporations (both Subchapter C and S.) N.H. business taxes are comprised of its Business Profits Tax of its entity level 8.5% plus its resident level 5% Interest and Dividends Tax. Unlike most states, N.H. recognizes single owner Limited Liability Companies (LLCs) as separate from their owners. In many respects they are treated as corporations. As a result, a single owner LLC is not disregarded as it is for Federal income tax purposes. However, residents receiving a distribution or dividend from a corporation pay N.H.'s 5% Interest and Dividends Tax. Such distributions from pass through entities are not subject to the 5% tax. (For 2009 only, distribution of N.H. retained earnings from LLC pass through entities was considered a dividend to its resident owners who then were taxed at 5% on top of the entity level 8.5% Business Profits Tax. Interesting enough, sole proprietorships in the exact same economic position, did not pay the 5% Interest and Dividends Tax. Thus, for 2009 N.H. taxed all entities as corporations for purposes of its Business and Interest and Dividends income taxes.)

As a caveat, since N.H. does not tax W-2 wages, it allows a "reasonable compensation deduction" against non-corporate business profits. However, due to State deficits, the N.H. Department of Revenue only allows most small businesses $6,000 amount per owner (proprietor, partner or member) and requires the small business owners to weigh the cost of extensive audits and appeals with just paying their tax. Effective for 2011 there is a water's edge (consolidated) reasonable compensation safe harbor per owner of $50,000. Historically, the N.H. DOR has challanged taxpayers taking similar safe harbor deductions such as its old 15% of sale proceeds from the sale of capital assets as a reasonable compensation deduction on the theory that the statute was not a safe harbor but a limit on the deduction. Though the new RSA language seems more bullet proof, the implementation of the new $50,000 safe harbor has yet to be tested. At the time of this writing, the NH DOR was prosecuting 330 cases under appeal. Problem is, due to State employee reductions the N.H. DOR audit department examiners (those that assess tax) are assisting the Appeal department!

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