Refunds of state credits are includible in income.

• Author: Beavers, James A.

The Tax Court held that refunds of three types of New York targeted economic development tax credits must be included in the taxpayers' income.

Background

The New York Economic Development Zones Act offers state tax incentives to attract new businesses and to encourage expansion of existing ones. Since 2000, the program doling out these incentives has been called the Empire Zones Program (EZ Program). The EZ Program provides incentives to stimulate private investment and business development and tries to create jobs in impoverished areas in New York state.

Only certified EZ businesses qualify for certain EZ tax credits. A certified EZ business that meets specific employment tests is called a Qualified Empire Zone Enterprise (QEZE). QEZEs are eligible for additional targeted tax credits. The various EZ credits require that the business remain within a designated area and meet certain annual requirements. Although eligibility for the credits depends on a business's meeting specific requirements, credits earned by passthrough entities are passed through to the owners of the entities, and individual owners can use the credits against their personal income tax liabilities.

David and Tami Maines are partners in Huron Real Estate Associates (Huron), an LLC, and shareholders in Endicott Interconnect Technologies Inc., an S corporation. Through these entities, in 2005-2007, the Maineses received three types of EZ Program credits, which were fully or partially refundable: the QEZE credit for real property taxes, the EZ investment credit, and the EZ wage credit.

The QEZE real property tax credit is determined by a formula starting with the amount of real property taxes a QEZE paid and depends on when the business first became a QEZE. The credit cannot exceed the amount of real property taxes paid. The EZ investment credit is 8% of the cost or other basis for federal income tax purposes of eligible tangible property in an Empire Zone and acquired or built while the area is designated as an Empire Zone. The EZ wage credit is a per employee credit for EZ businesses that hire new full-time employees in special targeted groups.

In each of the years 2005-2007, the Maineses had little or no New York state income tax liability before application of the refundable EZ program credits. Therefore, they received refunds of each type of credit in each year. On their federal tax returns, they did not include the refunds they received in income in the respective...