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Why this topic matters
Businesses and individuals often owe tax in more than one place. Tax Compliance and Planning (TCP) tests the basics of state and local taxation — nexus, apportionment, and residency — and of US international taxation — worldwide taxation of US persons, foreign tax credits, foreign account reporting, and the main corporate international regimes.
State and local taxation
Nexus — when can a state tax a business?
- Sales and use tax: since the Supreme Court's South Dakota v. Wayfair decision (2018), states may require remote sellers to collect sales tax based on economic nexus — commonly $100,000 of sales into the state (some states also use a 200-transaction test, though many have dropped it). Marketplace facilitators collect for their sellers in most states.
- Income tax: physical presence, and increasingly economic presence, create nexus. Public Law 86-272 protects a business whose only in-state activity is soliciting orders for tangible personal property that are approved and shipped from outside the state — it does not protect services or sales of intangibles.
- Use tax is owed by the buyer when the seller didn't collect sales tax.
Apportionment
- A multistate business divides its income among states using a formula. Most states now use a single sales factor (in-state sales ÷ total sales); some still use property and payroll factors as well.
- Market-based sourcing assigns sales of services to where the customer receives the benefit (replacing cost-of-performance rules).
- A throwback rule in some states assigns sales shipped to a state where the seller isn't taxable back to the origin state.
- Nonbusiness income (for example, investment income unrelated to operations) is allocated entirely to one state, usually the commercial domicile.
EXAMPLE: A company has $10 million of apportionable income; $4 million of its $20 million of sales are to customers in State A, which uses a single sales factor. Income apportioned to State A = 10,000,000 × 4/20 = $2,000,000.
Individuals and pass-throughs
- Residents are taxed on all income; nonresidents only on income sourced to the state (wages earned there, rental property there, pass-through business income apportioned there).
- Residency is based on domicile (permanent home and intent) or statutory residency (often a permanent place of abode plus more than 183 days in the state).
- The home state usually gives a credit for taxes paid to other states on the same income.
- Pass-through entity tax elections let partnerships and S corporations pay state tax at the entity level, which is deductible federally and avoids the individual state and local tax deduction cap; owners get a credit or exclusion.
- Composite returns and withholding apply to nonresident owners in many states.
US international taxation — individuals
- US citizens and residents (green card holders, or those meeting the substantial presence test — 183 days using a 3-year weighted formula) are taxed on worldwide income.
- Foreign earned income exclusion: up to $132,900 (2026) for qualifying individuals (bona fide residence or 330 days abroad in 12 months), plus a housing exclusion or deduction.
- Foreign tax credit: a credit for foreign income taxes paid, limited to the US tax on foreign-source income (computed by category); excess credits carry back 1 year and forward 10. Taxpayers may instead deduct foreign taxes.
- Foreign account reporting: a Report of Foreign Bank and Financial Accounts (FBAR), filed with the Financial Crimes Enforcement Network, is required if foreign financial accounts total more than $10,000 at any time during the year; Form 8938 (under the Foreign Account Tax Compliance Act) is required above higher thresholds. Penalties for failing to file are severe.
- Nonresident aliens are taxed on income effectively connected with a US trade or business at graduated rates, and on US-source investment income (dividends, some interest, royalties) at a flat 30% withholding rate unless a tax treaty reduces it.
US international taxation — corporations
- US corporations are taxed on worldwide income, but a 100% dividends received deduction (Section 245A) applies to the foreign-source portion of dividends from foreign corporations owned 10% or more — a partly territorial system.
- Controlled foreign corporations (more than 50% owned by US shareholders who each own 10% or more): certain passive and mobile income (Subpart F income) is taxed to US shareholders currently.
- The former global intangible low-taxed income (GILTI) regime — renamed "net controlled foreign corporation (CFC) tested income" by the One Big Beautiful Bill Act (OBBBA) from 2026 — taxes US shareholders on most other controlled foreign corporation income at a reduced effective rate. A matching deduction rewards foreign-derived income earned from the United States.
- The base erosion and anti-abuse tax targets large corporations making deductible payments to foreign affiliates.
- Transfer pricing (Section 482) requires transactions between related parties to be priced at arm's length, supported by documentation.
- Foreign branches are taxed currently (they aren't separate corporations); foreign subsidiaries generally are not, except under the regimes above.
How it is tested
- Decide whether a business has sales tax or income tax nexus, including Public Law 86-272 protection.
- Apportion income with a single sales factor.
- Apply residency rules and credits for taxes paid to other states.
- Identify foreign earned income exclusion, foreign tax credit, FBAR, and nonresident withholding rules.
EXAM TIP: Public Law 86-272 protects only the solicitation of orders for tangible goods — and only against state income taxes. It never protects against sales tax collection duties or service businesses.