Chapter 3 - § 3.3 • COLORADO STATE AND LOCAL TAXATION
| Jurisdiction | Colorado |
§ 3.3.1—In General
Colorado (and local taxing jurisdictions within Colorado) imposes taxes that affect business operations. Income taxes, sales and use taxes, property taxes, and other specific taxes such as severance taxes impact business enterprises operating within Colorado.
§ 3.3.2—Income Taxes
General Considerations
Colorado imposes a corporate net income tax at the rate of 4.63 percent.12 The state constitution authorizes the General Assembly (the state legislature) to levy an income tax,13 but the state constitution does not permit local taxing jurisdictions to levy income taxes.14 The General Assembly has sought to impose a state tax on all the income that Colorado can constitutionally tax.15
With some deviation, Colorado uses federal income tax provisions as a tax base for determining Colorado taxable income. If an entity or organization is treated as a corporation for federal income tax purposes, it is also regarded as a corporation for Colorado income tax purposes.
If a corporation has a valid S (small business corporation) election for federal income tax purposes, Colorado recognizes the election and subjects the shareholders, rather than the corporation, to the Colorado income tax.16 Real estate investment trusts (REITs) and regulated investment companies (mutual funds) are defined and taxed in Colorado in the same manner as for federal income tax purposes.17
The determination of Colorado taxable income for a corporation begins with the corporation's federal taxable income.18 Certain modifications are then made to adjust federal taxable income to Colorado taxable income. Colorado requires a corporation to use the same taxable year19 and the same method of accounting20 for Colorado income tax purposes as are used for federal income tax purposes.
Colorado Modifications to Federal Taxable Income
The Colorado taxable income of a corporation is determined by starting with the corporation's federal taxable income21 and then making certain modifications. These modifications are required regardless of whether the corporation conducts its business entirely within Colorado or only partially within Colorado.
Colorado requires federal taxable income (as determined by the Internal Revenue Code) to be increased by the federal net operating loss deduction,22 by any deduction for Colorado income taxes,23 and by interest income on obligations of a state or its political subdivisions (except to the extent that Colorado exempts such income from tax).24
Colorado also requires federal taxable income to be decreased by interest income on obligations of the United States and its instrumentalities25 and by any refund of Colorado income taxes reported as income.26 Colorado does allow a deduction for a Colorado net operating loss, but that deduction is allowed only after the other modifications are made and only after income has been reduced by the amount attributable to sources outside Colorado.27 There are some other modifications that can increase or decrease federal taxable income, and these other modifications should be reviewed for applicability when preparing a Colorado corporate income tax return.
Doing Business in Colorado
Colorado imposes an income tax on a corporation only if the corporation is doing business in Colorado.28 The statute addresses both domestic and foreign corporations doing business in Colorado. A domestic corporation is one organized under the laws of Colorado.29 A foreign corporation is a corporation that does business in Colorado, but that was not organized under the laws of Colorado.30
A domestic corporation is taxed in Colorado on all its income unless the corporation's activities include doing business outside Colorado.31 If a domestic corporation is doing business outside Colorado, the corporation is entitled to apportion its income so that only the portion of its income attributable to Colorado is subject to the Colorado income tax.32 Mere solicitation of sales outside Colorado is not sufficient to eliminate (i.e., apportion all income outside of Colorado) a Colorado income tax on such sales.33
A foreign corporation is taxed in Colorado only if it is doing business within Colorado.34 Colorado's power to tax foreign corporations is limited by the Interstate Commerce Clause of the U.S. Constitution and by federal statute.35 Federal law prevents a state from imposing an income tax on a foreign corporation if the corporation's only business activities in the state during the taxable year consist of solicitation of orders that are approved and filled by shipment of goods from outside the state.36 If a foreign corporation's activities in Colorado exceed mere solicitation, Colorado can and does impose an income tax on the foreign corporation's income that is derived from Colorado sources.37 The income derived from Colorado sources is determined by apportionment.
Apportionment of Income for Interstate Businesses
For the periods commencing on or after January 1, 2009, income is apportioned under the single-factor apportionment method. Apportionment of income under the single-factor apportionment method is computed using a single factor: sales.38
New Allocation Methodology for Services and Intangible Property
In 2018, Colorado House Bill 18-1185 was signed into law. It is effective for taxable years beginning on and after January 1, 2019. This law will require C corporations and S corporations to use a market-based sourcing methodology for apportioning their sales of services and intangible property. Historically, Colorado has required this type of revenue to be apportioned using a proportional cost of performance methodology.
Corporations that should experience the largest change in their Colorado apportionment percentage as a result of this law include those that operate accounting, legal, advertising, professional service, and consulting firms, as well as corporations selling software as a service (SaaS).
For example, if a corporation that sells SaaS has 100 percent of its operations located inside of Colorado, 90 percent of its revenue from services delivered outside of Colorado, and 10 percent of its revenue from services delivered inside of Colorado, it would experience a 90 percent shift in Colorado taxable income as a result of HB 18-1185.
Because the law only affects the apportionment of the sales of services and intangibles, it does not affect the way a manufacturing company or a retail company would source its receipts from its sales of tangible products.
Under HB 18-1185, partnerships (including limited liability companies that are federally taxed as partnerships) are generally still required to source the income of any nonresident individual partners under Colorado's nonresident individual sourcing laws. However, partnerships may elect to source this income by using the Colorado allocation and apportionment rules as they exist prior to January 1, 2019.
Constitutional Considerations
Taxpayers often challenge the apportionment and allocation of income on...
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