SENATE BILL NO. 113 "An Act relating to the Multistate Tax Compact; relating to apportionment of income to the state; relating to highly digitized businesses subject to the Alaska Net Income Tax Act; and providing for an effective date." 9:02:31 AM SENATOR BILL WIELECHOWSKI, SPONSOR, presented the bill. He said that the bill made two reforms to Alaskas tax apportionment system. The bill adopts market-based sourcing for calculation the portion of a taxpayers sales that are subject to Alaskas corporate income tax and adopts a single sales factor for calculation the taxable income of highly digitized businesses. He noted that the reforms would raise funds for the state and would not change the states corporate income tax rates. He stressed that the bill would not tax Alaskan businesses or consumers. 9:05:50 AM DAVID DUNSMORE, STAFF, SENATOR WIELECHOWSKI, discussed a presentation entitled "SB 113 - Corporate Income Tax Modernization" (copy on file). He looked at slide 2, " SB 113 makes two reforms to bring Alaska's tax apportionment system into the 21st century": Market-based sourcing to ensure Alaskan sales are properly apportioned to the state Single sales factor for highly digitized businesses SB 113 makes no changes to corporate income tax rates or brackets. Mr. Dunsmore showed slide 3, "What is tax apportionment?" Mr. Dunsmore referenced slide 4: Under the Commerce Clause of the U.S. Constitution, states may only tax activity that is reasonably attributable to that state. For taxpayers who operate in multiple states, it is necessary to determine what portion of their income can be taxed by each state. To avoid taxpayers having to do separate accounting in each state, states have adopted mathematical formulas to determine tax apportionment. Mr. Dunsmore turned to slide 5: The U.S. Supreme Court has ruled that states must use "fair apportionment" to determine what is taxable by their state, requiring the system be internally and externally consistent. Internal consistency: If all states used the same system, there would be no double taxation. External consistency: That the value taxed is "fairly attributable" to the state. Oklahoma Tax Comm'n v. Jefferson Lines, Inc., 514 U.S. 175 (1995) Mr. Dunsmore considered slide 6, "Traditionally states have used an equally weighted three-factor formula for tax apportionment": Sales Factor The percentage of a taxpayer's sales that are made in the state Property Factor The percentage of a taxpayer's property that is located in the state Payroll Factor The percentage of a taxpayer's payroll that is made in the state Mr. Dunsmore displayed slide 7, "The Traditional Three- Factor Corporate Tax Apportionment Formula." Mr. Dunsmore highlighted slide 8, "Alaska is a member of the Multistate Tax Compact": This is an advisory compact with 14 other states and the District of Columbia that promotes uniformity in tax apportionment and filing procedures. The Commissioner of Revenue represents Alaska on the commission that governs the compact. The 6th Alaska State Legislature codified the compact in Alaska Statutes in 1970 as AS 43.19.010 which establishes Alaska's tax apportionment laws. The Legislature has not made any amendments to this statutory language since then. Mr. Dunsmore looked at slide 9, "The current apportionment formula was designed for a brick-and-mortar world": In the modern digital economy a corporation can target advertising to Alaska, sell a product through Alaska's broadband infrastructure, and ship it through Alaska's roads, ports and airports without having any property or payroll in Alaska. SB 113 makes common sense reforms to ensure these sales are properly apportioned to Alaska. 9:08:44 AM Co-Chair Hoffman queried the significance of the photo on slide 9. 9:08:47 AM Mr. Dunsmore replied that hed simply sought a good visual aide. 9:08:57 AM Mr. Dunsmore displayed slide 10, "Market-Based Sourcing." Mr. Dunsmore advanced to slide 11, "Currently Alaska uses a methodology called "cost of performance" to determine whether sales happened in Alaska": • Under cost of performance, a sale is considered to happen in Alaska when "the income producing activity is performed in this state." • This means that out-of-state corporations can argue that online sales to Alaskans do not take place in Alaska. SB 122 replaces cost of performance with a "market- based" methodology where sales will be considered to happen in Alaska when the market for the sales is in Alaska. Mr. Dunsmore looked at slide 12, "Under market-based sourcing a sale occurs in Alaska when": • For sales of real property, when the property is located in the state • For tangible personal property, when the property is located in the state • For services, when the service is delivered in the state • For intangible property, when it is used in the state Mr. Dunsmore showed slide 13, "At least 36 other states already use some form of market-based sourcing." Mr. Dunsmore showed slide 14, "Single Sales Factor for Highly Digitized Businesses." Mr. Dunsmore turned to slide 15, "For highly digitized businesses only, the sales factor would be the only factor used for tax apportionment." Mr. Dunsmore considered slide 16, "A business would be considered highly digitized if 50 percent or more of its Alaska sales are of": • Intangible property delivered electronically • Services delivered electronically • Services related to computers, electronic transmission, or internet technology • Tangible property purchased through the internet Mr. Dunsmore displayed slide 17, "The three-factor formula will still be used for brick-and-mortar businesses." Mr. Dunsmore highlighted slide 18: Alaska has previously adopted a different apportionment formula for the oil and gas industry, because the Legislature found that the traditional formula did not fairly reflect their Alaska income. Similarly, it is appropriate to use a different formula for highly digitized businesses, because the current formula does not fairly reflect Alaska sales. Mr. Dunsmore looked at slide 19: The current three-factor formula is a disincentive to high-tech businesses opening Alaska facilities Having payroll and property in Alaska can significantly increase an online business' Alaska taxes. Adopting a single sales factor for this industry will remove this disincentive and level the playing field between out-of-state and Alaska businesses. Mr. Dunsmore addressed slide 20, "At least 37 other states already use a single sales factor for at least some industries." Mr. Dunsmore advanced to slide 21, "These reforms would have little or no impact on Alaskan consumers": Online businesses generally set their prices at the national or global level Both market-based sourcing and single sales factor are common features of tax apportionment systems across the country This bill does not change the tax rates or brackets at all, merely the formula for determining what income is taxable in Alaska. 9:12:17 AM Co-Chair Hoffman asked about the effective date of January 1, 2026. He wondered why the effective date was not July 1, 2025 the beginning of the fiscal year. 9:12:35 AM Mr. Dunsmore replied that it was recommended that it began at the calendar year, because most corporations used a st calendar year beginning January 1. 9:13:04 AM Senator Kaufman asked what was to prevent businesses for adding service charges for sales in Alaska. 9:13:40 AM Mr. Dunsmore replied that there had been no evidence of businesses using tax apportionment to set prices in the state. 9:14:13 AM Senator Kaufman thought it would be easy for businesses to set prices using tax apportionment. 9:14:38 AM Senator Kiehl looked at slide 16. He asked how the total of Alaska sales would be reached. 9:15:13 AM Mr. Dunsmore replied that the number would be 50 percent aggregate of all the listed criteria. 9:16:20 AM Co-Chair Hoffman OPENED and CLOSED public testimony. SB 113 was HEARD and HELD in committee for further consideration.