sappress us tax and sap

Bonn � Boston

Michael Scott

US Tax and SAP®

155.book Seite 3 Donnerstag, 6. September 2007 6:06 18

Contents at a Glance

1 Introduction ....................................................................... 23

2 Overview of Taxation in the United States ....................... 37

3 Impact of Organizational Structure on Tax ....................... 51

4 Federal, State, and Local Income Tax Integration ............. 69

5 Tax Withholding and Reporting ........................................ 85

6 DART and Record Retention for Tax Departments ............ 97

7 Payroll and Payroll Taxes ................................................... 123

8 Master Data ....................................................................... 131

9 Tax Reporting .................................................................... 149

10 Other Income Tax Topics ................................................... 157

11 Property Tax ...................................................................... 177

12 Calculating Sales and Use Tax Within the SAP System .... 187

13 Calculating Sales and Use Tax Using External Tax Software ............................................................................. 209

14 Tax Configuration in the SAP System ................................ 227

15 Miscellaneous Taxes .......................................................... 251

16 Transfer Pricing .................................................................. 261


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Contents

Acknowledgments ..................................................................................... 15Foreword .................................................................................................. 17Preface ...................................................................................................... 19

1 Introduction ......................................................................... 23

1.1 What Is Tax Integration? .......................................................... 241.2 The Tax Integration Process ..................................................... 251.3 Understanding Your SAP Team ................................................ 281.4 Implementation Teams ............................................................ 291.5 Phases of an SAP Implementation ............................................ 311.6 SAP Solution Manager and Its Role in Project Management ..... 321.7 Summary ................................................................................. 34

2 Overview of Taxation in the United States ......................... 37

2.1 Federal Income Taxes .............................................................. 382.1.1 Defining Income Tax ................................................... 392.1.2 IRS Form 1120 ............................................................ 392.1.3 Income and SAP Modules ........................................... 412.1.4 Tax Classification ......................................................... 412.1.5 Tracing Income ........................................................... 412.1.6 International Tax Concerns .......................................... 412.1.7 Audit Requirements .................................................... 422.1.8 Legal Entity Accounting .............................................. 42

2.2 State and Local Income Taxes .................................................. 432.2.1 Apportionment ........................................................... 432.2.2 Differences Between State and Local Tax Laws

and Federal Government Tax Laws .............................. 432.3 Sales and Use Taxes ................................................................. 442.4 Property Taxes ......................................................................... 462.5 Payroll and Benefit Taxes ......................................................... 472.6 Other Taxes ............................................................................. 482.7 International Taxation .............................................................. 482.8 Record Retention Issues .......................................................... 482.9 Summary ................................................................................. 50


Contents

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3 Impact of Organizational Structure on Tax ......................... 51

3.1 The Use of Company Codes in SAP .......................................... 513.1.1 The Importance of a One-To-One Legal Entity to

Company Code Relationship ....................................... 553.1.2 The Single Company Code Approach ........................... 553.1.3 The Business Area Approach ....................................... 563.1.4 The Profit Center Approach ......................................... 57

3.2 The Role of SAP Revenue and Cost Objects ............................. 593.2.1 Cost Centers ............................................................... 593.2.2 Profit Center ............................................................... 623.2.3 Internal Orders ........................................................... 643.2.4 Projects ....................................................................... 643.2.5 Work Breakdown Structure (WBS) Elements ............... 653.2.6 Plant Codes ................................................................. 653.2.7 Storage Location Codes ............................................... 663.2.8 Business Area Codes ................................................... 673.2.9 Functional Area Codes ................................................ 67

3.3 Summary ................................................................................. 67

4 Federal, State, and Local Income Tax Integration ............... 69

4.1 Chart of Accounts .................................................................... 694.1.1 Classifying Costs .......................................................... 704.1.2 When to Create New Accounts ................................... 70

4.2 Fixed Assets ............................................................................. 714.2.1 Chart of Depreciation .................................................. 714.2.2 Depreciation Areas ...................................................... 724.2.3 Asset Classes ............................................................... 744.2.4 Asset Capitalization ..................................................... 764.2.5 Low Value Assets ........................................................ 774.2.6 The Asset Master ........................................................ 784.2.7 Asset Migration from Legacy Systems .......................... 794.2.8 Further Considerations ................................................ 80

4.3 Intercompany Transactions ...................................................... 814.3.1 Transfer Pricing ........................................................... 814.3.2 Intercompany Balances ............................................... 82

4.4 International Tax Considerations .............................................. 834.5 Summary ................................................................................. 84


Contents

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5 Tax Withholding and Reporting .......................................... 85

5.1 Classic Withholding versus Extended Withholding ................... 855.2 1099 Withholding and Reporting ............................................ 88

5.2.1 Vendor Setup .............................................................. 885.2.2 Configuration .............................................................. 895.2.3 Vendor Master ............................................................ 89

5.3 1042 (NRA) Withholding and Reporting .................................. 905.4 Configuration of Extended Withholding ................................... 91

5.4.1 Basic settings .............................................................. 915.4.2 The Withholding Calculation ....................................... 935.4.3 Activation by Company Code ...................................... 945.4.4 Posting ....................................................................... 945.4.5 Reporting .................................................................... 94

5.5 Summary ................................................................................. 95

6 DART and Record Retention for Tax Departments .............. 97

6.1 DART ...................................................................................... 986.1.1 Advantages of DART ................................................... 986.1.2 Disadvantages of DART ............................................... 99

6.2 Implementing DART ................................................................ 1006.2.1 Tax Analysis Phase ...................................................... 1006.2.2 Construction Phase ..................................................... 1026.2.3 Extract Configuration .................................................. 1036.2.4 Running a DART Extract .............................................. 1096.2.5 DART and the IRS ....................................................... 1116.2.6 DART View Configuration ........................................... 1126.2.7 Running DART Views .................................................. 1176.2.8 Training and Production .............................................. 118

6.3 Unstructured Record Retention for Tax .................................... 1196.4 Summary ................................................................................. 121

7 Payroll and Payroll Taxes ..................................................... 123

7.1 Payroll Tax Compliance ............................................................ 1247.2 Tax Reporter ............................................................................ 1257.3 Tax Uses of Payroll Data .......................................................... 1277.4 Payroll Tax Audits .................................................................... 1287.5 Summary ................................................................................. 129


Contents

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8 Master Data ......................................................................... 131

8.1 The Company Code Master ...................................................... 1318.2 The Plant Master ..................................................................... 1348.3 The Storage Location Master ................................................... 1358.4 The Asset Master ..................................................................... 1368.5 The Material Master ................................................................ 1378.6 The General Ledger Master ...................................................... 1388.7 The Customer Master .............................................................. 1398.8 The Vendor Master .................................................................. 1408.9 The Cost Center Master ........................................................... 1428.10 The Internal Order Master ....................................................... 1438.11 The Project/WBS Master .......................................................... 1458.12 Master Data Cleansing ............................................................. 1468.13 Loading Master Data ............................................................... 1478.14 Summary ................................................................................. 148

9 Tax Reporting ....................................................................... 149

9.1 SAP Standard Reports .............................................................. 1509.2 SAP Query, Report Painter, and Report Writer ......................... 1529.3 Functional Specifications for Reports ....................................... 1559.4 Summary ................................................................................. 156

10 Other Income Tax Topics ..................................................... 157

10.1 Third-Party Income Tax Compliance Systems ........................... 15710.2 Section 199 — The Domestic Production Activities Deduction 15810.3 Travel and Entertainment Expenses .......................................... 16510.4 Apportionment ........................................................................ 169

10.4.1 An Introduction to Apportionment Concepts .............. 16910.4.2 Capturing Apportionment Factors ............................... 17110.4.3 Apportionment Reports .............................................. 171

10.5 R&D Tax Credits ...................................................................... 17210.5.1 Labor Cost .................................................................. 17310.5.2 Supplies ...................................................................... 17410.5.3 Contract Labor ............................................................ 17410.5.4 R&D Reporting ........................................................... 174

10.6 FAS 109, FAS 123R, and Other Accounting Issues ................... 17410.7 Summary ................................................................................. 176


Contents

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11 Property Tax ......................................................................... 177

11.1 Asset Cost Buildup ................................................................... 17711.1.1 Challenges to Asset Cost Buildup ................................ 17811.1.2 What Is Needed in R/3 or ECC .................................... 17811.1.3 Configuring the System to Make It Happen ................. 180

11.2 External Property Tax Software ................................................ 18111.3 Summary ................................................................................. 185

12 Calculating Sales and Use Tax Within the SAP System ...... 187

12.1 The Sales and Use Tax Calculation ........................................... 18712.2 Tax Procedures and the Condition Technique .......................... 18812.3 Overview of Tax Tools in An SAP System ................................. 190

12.3.1 Company Code ........................................................... 19112.3.2 Tax Jurisdiction Code .................................................. 19112.3.3 Tax Code ..................................................................... 19112.3.4 Tax Category Code on the G/L Master ......................... 19612.3.5 Tax Indicator on the G/L Master .................................. 19712.3.6 Tax Classification on the Material Master (SD) ............ 19712.3.7 Tax Indicator on the Material Master .......................... 19812.3.8 Materials Management (MM) Condition Records ........ 19812.3.9 Sales and Distribution (SD) Condition Records ............ 19912.3.10 Customer Tax Classification Code ................................ 200

12.4 U.S. Tax Procedures ................................................................. 20112.4.1 TAXUS ........................................................................ 20212.4.2 TAXUSJ ....................................................................... 20212.4.3 Implementing TAXUSJ ................................................ 203

12.5 Sales and Use Tax Analysis ....................................................... 20712.6 Summary ................................................................................. 208

13 Calculating Sales and Use Tax Using External Tax Software ........................................................................ 209

13.1 Strengths And Weaknesses of TAXUSX .................................... 20913.2 Configuring the Communication Link Between R/3 or ECC

and External Tax Software ........................................................ 21113.2.1 SAP Function Modules ................................................ 21313.2.2 Enhancement FYTX0002 — The Tax User Exit ............. 222

13.3 Building the Logic Matrix Within the External Software System 22513.4 Summary ................................................................................. 226


Contents

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14 Tax Configuration in the SAP System .................................. 227

14.1 Assigning a Tax Procedure to a Country ................................... 22814.2 Configuration Steps Unique to TAXUSX ................................... 22914.3 Defining the Structure of the Tax Jurisdiction Code .................. 23114.4 Master Data Configuration and Master Data in SD ................... 231

14.4.1 Tax Procedures and Condition Records ....................... 23414.4.2 SD Master Data Settings ............................................. 23414.4.3 The Pricing Procedure in SD ........................................ 235

14.5 Master Data Configuration and Master Data in MM ................ 23614.5.1 MM Condition Type and Condition Record

Maintenance ............................................................... 23714.5.2 MM Configuration for Plants ....................................... 23914.5.3 Determine MM Account Assignment .......................... 24014.5.4 MM Master Data Settings ........................................... 241

14.6 Maintaining Tax Codes ............................................................ 24314.7 Nontaxable Transactions .......................................................... 24714.8 G/L Account Maintenance ....................................................... 24714.9 A Final Word About Sales and Use Tax Configuration .............. 24914.10 Summary ................................................................................. 249

15 Miscellaneous Taxes ............................................................ 251

15.1 Franchise Taxes ........................................................................ 25215.2 Beverage Taxes and Bottle and Can Deposits ........................... 254

15.2.1 Using the Pricing Procedure Without a Tax Procedure ............................................................. 255

15.2.2 Using the Pricing Procedure with TAXUSJ ................... 25515.2.3 Using the Pricing Procedure with TAXUSX .................. 256

15.3 Waste Taxes and Environmental Fees ....................................... 25815.3.1 Resource Severance Charges ....................................... 25815.3.2 Direct Fees Related to Disposal ................................... 25915.3.3 Self-Assessed Fees ....................................................... 25915.3.4 Tax Incentives ............................................................. 259

15.4 Summary ................................................................................. 259

16 Transfer Pricing .................................................................... 261

16.1 The SAP Solution to Transfer Pricing Issues .............................. 26216.2 Transfer Pricing for Tax ............................................................ 266

16.2.1 Transfer Pricing Best Practices ..................................... 26616.2.2 Pricing Procedures for Transfer Pricing ........................ 268


Contents

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16.3 Summary ................................................................................. 26916.4 Book Summary ........................................................................ 269

Appendix .................................................................................... 271

A Suggested Tax Accounts ..................................................................... 273B Asset Classes and Depreciation Areas ................................................. 277C DART Team Application Process ........................................................ 281D DART Transaction Codes for DART Release 2.4 .................................. 285E DART Administrator Role ................................................................... 287F Suggested Payroll Data Elements ........................................................ 289G Data Requirements for Intercompany Transaction Analysis ................. 293

G.1 Legal Entity Profit and Loss Reports in U.S. GAAP .................... 293G.2 Legal Entity Balance Sheet Reports in U.S. GAAP Cash ............. 294

H IRS Tax Forms .................................................................................... 297H.1 Tax Forms for Chapter 1 .......................................................... 297H.2 Tax Forms for Chapter 4 .......................................................... 302H.3 Tax Forms for Chapter 5 .......................................................... 331H.4 Tax Forms for Chapter 7 .......................................................... 334H.5 Tax Forms for Chapter 10 ........................................................ 344H.6 Tax Forms for Chapter 11 ........................................................ 347H.7 Tax Forms for Chapter 12 ........................................................ 348

I Glossary ............................................................................................. 349J About the Author ............................................................................... 353

Index ......................................................................................................... 355


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A basic understanding of the different types of taxes levied within the United States is crucial to an understanding of how to integrate tax into an SAP system. Chapter 2 discusses the basic taxes with which large corporate tax departments have to comply and some of the challenges encountered within the SAP system.

2 Overview of Taxation in the United States

U.S. taxation is a very complicated affair due to the myriad of taxes and mul-titude of jurisdictions involved. Unlike many foreign countries, the UnitedStates has attempted to follow the old adage of “No taxation without repre-sentation.” This means that many taxes are levied at the local level wherepeople have the most say in how much is collected and what the money isused for. Although this is an equitable way of imposing taxes, it creates prob-lems for companies doing business in the United States.

Many international companies that have SAP systems installed in Europe orother foreign countries feel they can simply roll their template out to theUnited States. This does not work, however, at least not without manychanges. Most companies end up deciding to install a separate U.S. instanceinstead, rather than making the changes required to a foreign template tofacilitate U.S. activities. It is also much easier to use a U.S. template andadopt it for foreign use.

In this section, you will gain an understanding of U.S.-based taxes and thechallenges encountered by tax departments using SAP and configuration spe-cialists dealing with SAP-related tax issues. It will be helpful for SAP config-uration teams to understand the burdens that corporate tax departments areunder to meet tax authority requirements while paying the least amount oftax legally acceptable. In doing so, many tax departments are actually reve-nue generators for the corporation.


Overview of Taxation in the United States2

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We’ll now look at the different types of U.S. taxes, which include the follow-ing:

� Federal income taxes

� State and local income taxes

� Sales and use taxes

� Property taxes

� Payroll and benefits taxes

In addition, we’ll briefly look at other taxes to be taken into consideration,international taxation issues and record retention.

2.1 Federal Income Taxes

The U.S. Treasury Department and more specifically, the Internal RevenueService (IRS), has responsibility for collecting taxes at the national level inthe United States. Although the IRS collects more types of taxes than just fed-eral income tax, the discussion in this book will be limited to just incometaxes because that is what is most pertinent to tax professionals with regardto SAP.

Note

Tax people usually love tax but tend to avoid information technology. Their mottooften is “If you can’t do it in Excel, it cannot be done.” Further, the mantra of manytax professionals is “Achieve consistency with as little manual intervention as pos-sible.” That is, if logic can be used to populate a field, that’s much preferred to aperson populating it. I have certainly come to agree with the latter philosophy asa result of years of experience and aim for that objective when approaching a taxintegration project.

Note

Corporations, partnerships, trusts, cooperatives, and individuals doing business inthe United States are all required to file a U.S. income tax return. The majority ofU.S. companies have adopted a corporate entity as their form of doing businessand often use an ERP system such as SAP R/3 or SAP ERP Central Component(ECC). The remaining business entities are generally too small to need an ERP sys-tem, although some partnerships do run on SAP. The discussions in this book arelimited, therefore, to the corporate form of business entity.


Federal Income Taxes 2.1

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2.1.1 Defining Income Tax

Income taxes are often referred to as direct taxes because they are paiddirectly to the taxing jurisdiction by the taxpayer making the money. This isopposed to indirect taxes, such as sales and use taxes, which are most oftencollected by the seller of goods from the purchaser and then remitted to thetaxing authority. The remitter in an indirect taxing relationship technicallydoes not bear the tax liability but bears the burden of collecting the tax fromothers. Once collected, the remitter then acquires a liability and responsibil-ity to remit the tax to the appropriate tax jurisdiction. As mentioned earlier,income tax is a direct tax on income, in this case of a corporation, and thetaxpayer (the corporation) is therefore required to pay tax on income pro-duced during the taxable period.

2.1.2 IRS Form 1120

IRS Form 1120, shown in Figure 2.1 is used to report taxable income and taxdue for corporations doing business in the United States. Form 1120 is aform filed annually at the corporation’s year end, but the IRS may alsorequire estimated tax payments to be made on a quarterly basis. Form 1120consists of an income statement and balance sheet but can have a variety ofother IRS forms attached to it as supporting detail. The final income taxreturn can often fill several banker’s boxes when filed with the IRS.

The federal government has opted to differ from generally accepted account-ing principles (GAAP) in many cases, which results in differences betweenfinancial income and taxable income. The basis of the 1120 form is theannual report or financial income of the corporation, but for tax purposes,the income statement and balance sheet are adjusted due to statutoryrequirements. These adjustments and the difference in treatment betweenIRS rules and GAAP result in challenges for tax professionals using SAP orany other ERP software. Some differences require calculations that SAP can-not reasonably perform, whereas others can be done if configuration hasbeen completed appropriately.



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Figure 2.1 IRS Form 1120 (Source: IRS website http://www.irs.gov/formspubs/lists/0,,id=97817,00.html)

2005 overpayment credited to 2006

OMB No. 1545-0123U.S. Corporation Income Tax Return1120FormFor calendar year 2006 or tax year beginning , 2006, ending , 20Department of the Treasury

Internal Revenue Service � See separate instructions.B Employer identification numberNameCheck if:

Use IRSlabel.Otherwise,print ortype.

Consolidated return(attach Form 851)

A

Number, street, and room or suite no. If a P.O. box, see instructions. C Date incorporatedPersonal holding co.(attach Sch. PH)

2

Personal service corp.(see instructions)

3City or town, state, and ZIP code D Total assets (see instructions)

$E

1c1a Gross receipts or sales b Less returns and allowances c Bal �

2Cost of goods sold (Schedule A, line 8) 23Gross profit. Subtract line 2 from line 1c 34Dividends (Schedule C, line 19) 45Interest56Gross rents 67In

com

e

7 Gross royalties 88 Capital gain net income (attach Schedule D (Form 1120)) 99 Net gain or (loss) from Form 4797, Part II, line 17 (attach Form 4797)

10 Other income (see instructions—attach schedule) 10Total income. Add lines 3 through 10 �11 11

12Compensation of officers (Schedule E, line 4) 1213Salaries and wages (less employment credits)1314Repairs and maintenance 1415Bad debts 1516Rents1617Taxes and licenses 1718Interest1819Charitable contributions1920Depreciation from Form 4562 not claimed on Schedule A or elsewhere on return (attach Form 4562)2021Depletion2122Advertising2223Pension, profit-sharing, etc., plans 2324Employee benefit programs 2425

Other deductions (attach schedule) 2627Total deductions. Add lines 12 through 26 �2728Taxable income before net operating loss deduction and special deductions. Subtract line 27 from line 1128

29aLess: a Net operating loss deduction (see instructions)29

Ded

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ons

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atio

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Special deductions (Schedule C, line 20) 29c29b

30Taxable income. Subtract line 29c from line 28 (see instructions)3031Total tax (Schedule J, line 10)31

32a3232b2006 estimated tax paymentsb

( ) d Bal � 32d32c2006 refund applied for on Form 4466c32eTax deposited with Form 7004 e32fCredits:f

33Estimated tax penalty (see instructions). Check if Form 2220 is attached �

33Tax

and

Pay

men

ts

34Amount owed. If line 32h is smaller than the total of lines 31 and 33, enter amount owed3435Overpayment. If line 32h is larger than the total of lines 31 and 33, enter amount overpaid 35

Enter amount from line 35 you want: Credited to 2007 estimated tax �36 36

1

Refunded �

b

(1) Initial return (2) Final return (3) Name change (4) Address change

Under penalties of perjury, I declare that I have examined this return, including accompanying schedules and statements, and to the best of my knowledge and belief, it is true,correct, and complete. Declaration of preparer (other than taxpayer) is based on all information of which preparer has any knowledge.Sign

HereTitleDateSignature of officer

Date Preparer’s SSN or PTINPreparer’ssignature

Check ifself-employed

PaidPreparer’sUse Only

Firm’s name (oryours if self-employed),address, and ZIP code

EIN

Phone no. ( )

Cat. No. 11450Q Form 1120 (2006)

May the IRS discuss this returnwith the preparer shown below(see instructions)? Yes No�

��

�

For Privacy Act and Paperwork Reduction Act Notice, see separate instructions.

Schedule M-3 required(attach Sch. M-3)

4

Check if:

2006

26Domestic production activities deduction (attach Form 8903) 25

(1) Form 2439 (2) Form 4136

a

32gCredit for federal telephone excise tax paid (attach Form 8913) g 32h


Federal Income Taxes 2.1

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2.1.3 Income and SAP Modules

Income is comprised of a simple formula of revenues minus expenses for theperiod. This means that a tax return is prepared using data from all modulesof an SAP system, including the Financials (FI) portion of the system, as wellas the Controlling (CO), Materials Management (MM), Sales and Distribution(SD), Project System (PS), Human Resources (HR), and other system modules,to assure that income tax needs are being met.

2.1.4 Tax Classification

The IRS looks at some revenues and expenses with more scrutiny than itdoes others, requiring some types of income and expenses to be classified inthe system so that they are easily identifiable. Tax professionals often ask foradditions to the chart of accounts to facilitate these requirements. Sometimesthe additional account can be facilitated through the use of a cost object, butoften it cannot. For example, meals and entertainment expenses are handledmuch differently for tax purposes than they are for financial purposes. Ifonly one account is set up called Travel Expense for all travel, meals, andentertainment expenses, the tax department will be faced with analyzingthat account over the life of the system. Thus, good tax classification isrequired to easily meet IRS requirements.

2.1.5 Tracing Income

In addition to the income calculation itself, income sourcing is also requiredfor income and other types of U.S. taxes. Tracing the jurisdiction the moneycame from and the jurisdiction the money flowed to is an IRS requirement toassure that corporations are not shifting income from jurisdictions with hightax rates to those with low taxes. SAP software effectively creates an audittrail for these types of activities if the system is configured properly from atax standpoint.

2.1.6 International Tax Concerns

Federal income taxation has an international aspect in that U.S. corporationsare responsible for reporting transactions in foreign countries and betweenforeign countries and the United States. The sourcing spoken of in the previ-ous section is helpful in this regard, but intercompany transactions also needto be scrutinized for pricing appropriateness (Transfer Pricing) and for with-



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holding issues. Even though a corporation may not be rolling out SAP to itsforeign possessions, company codes need to be set up for foreign affiliates tosatisfy U.S. requirements.

2.1.7 Audit Requirements

Nearly all tax authorities require corporations to produce data at a transac-tion level upon audit. SAP software adheres to a document approach, whichmeans it creates a document for nearly everything entered into the systemand maintains a linkage and audit trail between documents. The documentfeature of SAP enables tax auditors to trace transactions through the system,which is a valuable tool for tax departments.

2.1.8 Legal Entity Accounting

Legal entity accounting is also required by the IRS and other taxing authori-ties. Each corporation in the United States is considered a legal entity andmust have a federal tax identification number. Each must file a tax return orbe part of a consolidated tax return annually. SAP has designed the system sothat each legal entity is assigned a company code. Assignment of a companycode is the easiest way to meet the legal entity requirement. Other attemptswill be discussed later in this book.

In this section, we’ve discussed several important concepts about federalincome taxation:

� Taxable income differs from GAAP income.

� Revenue and expense classification is very important for tax departments.

� Revenue and expense tracing from source to destination is necessary tomeet tax requirements.

� Federal income taxation has an international aspect.

� Tax data is required at a transaction level.

� Tax authorities require legal entity reporting and master data concerningthe legal entity.

Note

Legacy systems that pass data to SAP software through an interface at a summarylevel remain the system of record, and the IRS has the authority to request datafrom the legacy system in addition to the SAP system.


State and Local Income Taxes 2.2

43

� If logic can be used to populate a field, this method is much preferred to aperson populating it.

These topics will be discussed in depth as we explore tax integration andconfiguration in more detail in Chapter 4.

2.2 State and Local Income Taxes

State and local income taxing authorities often follow the lead of the IRS byadopting many federal statutes. States sometimes resist following federallaws, however, when it impacts their revenue streams adversely. This caneasily be seen with the current division over the state acceptance of federalbonus depreciation rules. Differences of this kind prevent corporations fromsimply filing a corporate return and then quickly dividing it by 50 and send-ing a copy to each of the states. Corporations are responsible for reportingrevenues produced in the state and matching them against expenses incurredin the state as closely as possible. The same principles exist for cities withincome tax laws.

The concept of tax sourcing mentioned earlier is extremely important forstate and local income taxation. Tax departments not only need to know thecountry but the state, county, and city where the revenue was produced andthe expenses incurred. Both R/3 and ECC versions of SAP are equipped tocapture and supply this information on a consistent basis, if configured asdesigned.

2.2.1 Apportionment

State and local income tax compliance cannot be done without some degreeof allocation for services or assets that benefit all jurisdictions. This leads towhat is known as apportionment. Apportionment, in basic terms, involvesthe determination as to which state gets what portion of revenue andexpenses that are not clearly assigned elsewhere. Apportionment will be dis-cussed in detail in Chapter 10.

2.2.2 Differences Between State and Local Tax Laws and Federal Government Tax Laws

State and local governments do not always follow the lead of the federal gov-ernment when they are adversely affected by IRS laws. When configuring



44

fixed assets, for example, it is good to know that many states opted out ofadopting federal bonus depreciation rules because of the negative revenueimpact. When tax professionals ask for an additional depreciation area fordepreciation without bonus, it is for this reason.

Other differences also exist. The state of California, for example, has differ-ent useful lives on many of its asset groupings than the federal government.If the company has substantial business in California, an additional depreci-ation area for California may also be required. An addition of a depreciationarea such as one for California is not very difficult but may take some nego-tiation nonetheless.

To summarize, here is a list of the main concepts discussed in this section.

� State and local taxation follows federal rules in most areas, but significantdifferences do exist.

� Tracing revenue and expense from source to destination is extremelyimportant and must be done down to the county and city level.

� Apportionment presents challenges for tax professionals that must beaddressed.

2.3 Sales and Use Taxes

Sales and use taxes generally get the most attention during SAP implementa-tions. Tax integration in the sales and use tax area requires attention to facil-itate as little manual effort as possible. Sales and use tax is an indirect tax asopposed to the taxes discussed earlier in this chapter, which are direct taxes.During the blueprint phase of the project, it is important to address howsales and use tax is approached. Sales and use tax is a transaction-based tax,and SAP software can be configured to handle the tax calculation and con-sider exceptions when coupled with third-party bolt-on software or even a

Note

Keep in mind that tax professionals usually ask for functionality they have not hadbefore or for items that they still need and that will save time if provided. Someimplementation teams, unfortunately, take the stance that they will provide exist-ing functionality but not improved functionality as part of the implementation.Thus, an SAP implementation is an excellent time for tax departments to catch upon the technology curve by replacing manual processes with automated ones andconvincing implementation teams of the need for new functionality.


Sales and Use Taxes 2.3

45

client’s custom system. However, SAP software without bolt-on softwaretypically doesn’t perform as well unless the company does business in veryfew tax jurisdictions.

Important Considerations

Remember from our earlier discussion that determining the source and des-tination of the transaction is very important to tax departments. Andnowhere is it more important than in the area of sales and use tax. Accuratecalculation of sales and use tax requires knowledge of the shipping point andthe shipping destination. SAP certified bolt-on software exists in the market-place that can consistently identify the shipping point and the shipping des-tination to the ZIP code level if SAP is configured correctly.

While sourcing information is required for accurate sales and use tax calcu-lations, how the product will be ultimately used is equally as important. Taxexemptions exist in some jurisdictions for some products. Information con-cerning the product and its use must be captured in the SAP system if anaccurate tax rate is to be applied.

As with other taxes, sales and use tax authorities require legal entity report-ing. Income statements and balance sheets are not necessary for sales anduse tax compliance, but tax entities are still registered, and compliance iscompleted on a legal entity basis. Information about the legal entity is alsorequired for accurate reporting. Master data needs to be captured and main-tained concerning the legal entity. This includes the corporate name, tax IDnumber, address, and other pertinent information. The R/3 or ECC companycode master file along with configuration settings under company code glo-bal parameters will meet this requirement.

A final element to consider is the multitude of jurisdictions that large corpo-rations must deal with. Many corporations have tens of thousands of juris-dictions, each using different report forms and rules with which to comply.Getting sales and use tax right in the implementation can significantly reducethe compliance and audit effort.

The following list summarizes sales and use tax:

� Tracing source and destination to the ZIP code level is required and is pos-sible with bolt-on software.

� Using SAP tax functionality without bolt-on software is not recom-mended.



46

� The ultimate use of the product or service is required for accurate tax cal-culations.

� Tax authorities require reporting by legal entity and master data concern-ing the legal entity.

� Large corporations must report to tens of thousands of tax jurisdictions.

2.4 Property Taxes

Property taxes are often not addressed during SAP implementations, but ifapproached correctly, can pay for the tax integration project many timesover! The property tax calculation differs depending on jurisdiction, but gen-erally, it is based on the asset cost and the property tax rate for the givenjurisdiction. Property tax therefore has all of the sourcing needs required byother taxes but needs it driven down to the street address level to accuratelycompute the tax. Many property tax bolt-on systems rely on the five-digitZIP code that does not get down to the street address level. The tendency isto move to the nine-digit ZIP code that goes to a much lower level.

The buildup of the asset cost provides opportunities for tax savings and willbe discussed in more detail in Chapter 11. If items such as sales tax, embed-ded software, installation fees, and freight can be separated out of the assetcost, considerable savings can be obtained in certain jurisdictions.

Low-value assets that are expensed for financial purposes but that need to becaptured for property tax purposes also present a challenge for tax profes-sionals. SAP approached this challenge by setting up an asset class for low-value assets. However, these assets need to be classified by the type of assetfor correct property tax reporting. At the least, this asset class is a catchallthat might be preferable to using G/L accounts as many companies have inthe past.

Note

Most assets subject to property tax are also subject to depreciation. Unfortunately,property tax depreciation differs by tax jurisdiction. Many companies have madeadjustments to the property tax depreciation area supplied by SAP, but there is notmuch benefit when useful lives, depreciation methods, and asset buildup differfrom jurisdiction to jurisdiction.


Payroll and Benefit Taxes 2.5

47

To summarize, some property tax integration challenges to consider includethe following:

� Location or jurisdiction of the asset

� Cost buildup of the asset

� Asset depreciation

� Low-value assets

2.5 Payroll and Benefit Taxes

Many payroll and benefit issues impact tax professionals besides filing taxreturns. Payroll modules are often implemented on a different instance ofSAP or even a different software program. Some corporations have payrollfunctions outsourced to providers such as ADP or Hewitt. In very few casesdoes the corporate tax department actually prepare and file payroll and ben-efit tax returns. These tasks are instead usually handled by the payrolldepartment. However, tax departments do have to face and be knowleadga-ble with IRS auditors when the time comes for an audit. In addition, taxdepartments rely on payroll numbers for many other tax calculations. Con-sider these examples:

� Payroll numbers are an integral part of jurisdiction tax returns. When pay-roll numbers exist in other software systems or on different instances ofSAP, tax integration professionals assist with the decisions regarding howand at what level payroll data will be brought into the financial SAPinstance.

� Former employees often end up as independent contractors in the sameyear, which invites an IRS Information Document Request (IDR) as towhy.

As you can see, tax departments require information concerning payroll formany purposes other than just filing payroll and benefit tax forms. Some ofthe payroll issues that can confront tax professionals during SAP implemen-tations include the following:

� Assuring that information is available for payroll and benefit tax returns

� Replying to jurisdictional document requests on audit

� Obtaining proper payroll data for income tax calculations, especially whendata is not on the same SAP instance or the same software



48

2.6 Other Taxes

Many other taxes exist in the United States that may have to be consideredby tax integration specialists and SAP configuration specialists during an SAPimplementation:

� Customs and duties

� Franchise taxes

� Bottling tax

� Waste tax

Some of these taxes will be addressed in more detail in Chapter 15.

2.7 International Taxation

As mentioned before, the IRS requires reporting of international affiliatesand company codes to handle intercompany transactions and other tax mat-ters. Corporations also have local tax requirements for foreign countries thatrequire compliance. This book is limited to taxation within the United States,however, and therefore does not address local country tax requirements. Ifthe implementation involves local country taxes, considerable effort needsto be given to addressing Value-added Tax (VAT) taxes. Bolt-on software nowexists for VAT taxes and is becoming more capable of accurate tax calcula-tions on a global basis.

2.8 Record Retention Issues

IT Professionals often ask how long tax data has to be retained. The answeris that tax departments do not know. Ten years might be a good rule ofthumb but that is not long enough in all cases. Tax data has to be kept untilthe tax department says it can be destroyed. IRS regulations state that taxdata must be retained for three years from the due data of the return, includ-ing extensions. While this seems easy enough, large corporations are con-stantly under audit, and audits extend the rule just mentioned.


Record Retention Issues 2.8

49

SAP software produces a high volume of information because of its docu-ment approach. Although the document approach is a blessing because itprovides excellent audit trails, the large amounts of information it createscan impact system performance in a short period of time. For this reason,SAP created an archive system that removes data from the system as needed.

Archiving-Related Issues and the Data Retention Tool (DART)

Although SAP archiving helps with system performance, it also presents taxprofessionals with the following challenges:

� Archiving removes data from the live system so it can no longer be easilyaccessed by tax professionals.

� Archiving does not maintain the integrity of the accounting period.

� Archived files are not easily queried.

The challenges just outlined led the America’s SAP User Group (ASUG) towork with SAP to develop the Data Retention Tool (DART) in the late 1990s.DART allows information to be copied from SAP tables and fields prior toarchiving, so it is retained for tax audits. DART and archiving will be coveredin much more detail in Chapter 6.

Besides, record retention is a legal requirement. See Table 2.1 for a brief listof IRS record retention requirements.

Example

I have worked with some companies that have state audits still going on from the1980s. Unfortunately, this means that electronic books and records must beretained for many years and that IT professionals have to prepare for that.

IRS Item Description

Internal Revenue Code Section 6001 Requires retention of records supporting federal tax returns

Revenue Procedure 98–25 Governs records created by automatic data processing systems

Revenue Procedure 97–22 Governs scanned images

Table 2.1 IRS Rules Regarding Record Retention for Tax



50

All of these regulations have specific retention requirements regarding taxdepartments, and SAP tax professionals should be familiar with them. Inaddition, Revenue Procedure 98–25 will be addressed in detail in Chapter 6.In summary, SAP tax professionals dealing with record retention issues needto address the following issues:

� The absence of clear retention guidelines as far as length of time

� Challenges presented by SAP archiving

� Proper implementation of DART or some other retention tool

2.9 Summary

In this chapter, we briefly covered many U.S. taxes that need to be addressedby tax professionals during an SAP implementation. The remainder of thisbook will cover these taxes in more detail and delve deeper into specific taxcalculations that should be addressed during SAP implementations. You alsolearned in this chapter that U.S. taxation is complex and consists of multiplejurisdictions that have created many layers of tax requirements. Some ofthese requirements can be categorized into the following areas:

� Federal income tax

� State and local income tax

� Sales and use tax

� Property tax

� Payroll and benefits tax

� Other taxes

� International income tax issues

� Record retention for tax

Chapter 3 will explore the importance of the implementation approach andorganization structure as it pertains to tax integration. It also discusses theimportant role that cost objects play in achieving good tax integration.


355

Index

1042 52, 90, 921042 program 57, 581099 52, 85, 88, 89, 90, 1291099 program 57, 581099 reporting 881099R 1251120 39, 55123R 175263A calculations 838903 161, 162, 163, 164940 123, 125, 129941 123, 129

A

ABAP custom report 149, 152ABAP report 154ABAP4 code 118Account codes 193Account determination 193Accounting key 245ACRS/MACRS 72Adjusted Current Earnings (ACE) depre-

ciation 72Alternative Minimum Tax (AMT) depre-

ciation 72American Jobs Creations Act 158Analysis phase 102Application programming interface (API)

210Apportionment 43, 157, 169, 170, 171Archiving 98, 100, 118Asset capitalization 76Asset class 74, 178, 180Asset master 77, 78, 136Asset migration 79Asset tracking 77Asset Under Construction (AuC) 64, 76Asset under Construction (AuC) account

180, 181Assumed Par Value Actual Method 253ASUG 98Audit file 221, 229Authorized Shares Method 253

B

Basis 107Basis team 30Benefit taxes 47Beverage tax 251, 254, 255, 256, 257Bolt-on solutions 57Bottle and can deposits 251, 254, 255,

256, 257, 258Bottom up approach 101Bulk asset acquisitions 76, 181Business area 56Business area code 67Business process procedures (BPPs) 33Business Warehouse 149

C

California state depreciation 72Can deposits 255Chart of accounts 69, 70Chart of depreciation 71CI_TAX_INPUT_USER 223Classic withholding 85, 86, 94, 95COM_JUR 216Company code 52, 55, 56, 62

One 55Single 55

Company code master 131Compression 105, 108Computer audit specialist (CAS) 99Condition record 198, 206Condition technique 188, 190Condition type 198Constructed asset 178, 181Construction 100, 103Contract manufacturer 161Controlling 262Corporate earnings and profits 72Cost center 59, 60Cost center assignment

Jurisdictional-based 60Responsibility-based 59

Cost center master 142Address tab 60


356

Index

Cost objects 59Cross Functional Blueprint phase 31Customer master 139Customer number 228Customer tax classification code 200,

234Customer tax classification indicator 233

D

DART 53, 57, 58, 131, 156, 172, 220, 221Advantages 98Data Retention Tool 49, 97Disadvantages 99Extract 128Implementing 100Reporting 149View 112, 114View attribute page 113View configuration 112

Data element 183Data mining tool 118Depreciation areas 72, 110Depreciation books 72Depreciation method 74Development Team 30Direct fees related to disposal 258, 259Direct pay permits 188Direct taxes 39Directory set 111Document splitter 55, 62Document splitting 262, 264, 268Domestic manufacturing deduction 65Domestic production activities manufac-

turing deduction 157Drop shipment 76, 181Dummy jurisdiction code 247

E

Embedded software 76, 178, 181Environmental tax 259Environmental tax provisions 258Equipment master 77Equitable apportionment 169ERP Central Component (ECC) 57Exemption certificate 219

Exemption reasons 92EXIT_SAPLFYTX_USER_001 222Extended withholding 85, 86, 91, 94, 95

Basic settings 91Calculation 93Check income types 92Check recipient types 92Reasons for exemptions 92Tax base amount 93Tax code 93Tax countries 91Tax keys 92Tax type 93

External tax software 194Extract 118Extract configuration 102Extract testing 102Extraction tool 99

F

FAS 109 157, 175FAS 123R 157Federal bonus rules 72Federal income tax 38, 251Financial depreciation 72Fixed assets 71Franchise tax 251, 252, 253Freight 76, 181Freight and delivery fees 177FTW0 103FTWA 103, 109FTWA1 109Functional area code 67

G

G/L account assignment 74G/L Master 70GAAP financial statement 55GAAP standards 58General ledger (G/L) 55

Account 193, 197General ledger master data 138Go-Live phase 32Goods issues 247Goods receipts 247Green taxes 258


357

Index

H

HR module 123, 128, 129

I

I_INPUT_USER 222IDR (Information Document Request)

112Implementation Guide (IMG) 103Imputed interest rules 83Income types 92Indirect taxes 39Information Document Request (IDR)

47, 98Initiative Blueprint phase 31Installation cost 76, 181Installation fee 178Intercompany labor fees 128Intercompany transactions 53, 81Internal order 64Internal order master 144Internal Revenue Code Section 6001 49,

97

J

Joining DART segments 114Joins 115Jurisdiction code 60, 77, 187, 190, 191,

215, 216, 221, 228, 231, 234, 247

K

Knowledge Management (KM) 97, 119, 120, 121

L

Labor 178Large and Mid Sized Business (LMSB)

102Legal Entity

Accounting 69Basis 52Reporting 52

LMSB program 102Loading master data 147

Local income taxes 43LOCATION_DATA 214LOCATION_RESULTS 216Logical destination 213Low value asset 77, 182

M

M 175M-1 157, 175Master data 99Master data cleansing 146Material

Group 228Ledger 262, 264, 268Master 137

Material master tax indicator 242Material tax classification indicator 235,

236Material to Inventory team 30Materials Management (MM) condition

record 198, 199Max tax rules 207Meals and entertainment expense 165Memory index 106Microsoft Access 118Microsoft Excel 118MM account assignment tax classification

indicator 241MM condition record 239MTA 194

N

Naming conventions 111NAVS 237, 238NAVS condition type 198NetWeaver 97, 119, 120, 121New G/L 262, 264, 268Non-Resident Alien (NRA) withholding

85Nontaxable tax code 247NRA withholding 90, 91

O

Order to Cash team 30


358

Index

P

Payroll taxes 47Physical destination 211Plant code 65Plant master 134Posting indicator 245Posting node 94Posting without tax allowed indicator

248Pricing procedure 236, 263Process key 245, 246Procure to Pay team 30Profit center 57, 62

Accounting 262Codes 58

Project management office (PMO) 27Project/WBS master 145Projects 64Promotion to production 103Proof of Concept phase 31Property tax 46, 64, 177, 251Property tax depreciation area 73

Q

Qualified production activity 160

R

R&DProject 172Reports 174Tax credit 67, 157, 172, 174

Realization phase 31Recipient types 92Reconciliation 104Record retention 48Record to Report team 30Records Retention Limitation Agreement

(RRLA) 102Register 221Remote Function Calls (RFCs) 211Report Painter 149, 152, 156Report Writer 149, 152, 154, 156Resale certificates 207Research and development tax credits

128Resource severance charge 258

Responsibility center 60Revenue Procedure 97-25 49, 97, 98,

101, 102, 121RFC call 213, 214, 217RFC destination 212RFC_CALCULATE_TAXES_DOC 213,

217RFC_DETERMINE_JURISDICTION 213RFC_FORCE_TAXES_DOC 213, 221RFC_UPDATE_TAXES_DOC 213, 221RVAJUS 255RVAXUD 235, 256RVAXUS 235, 256

S

Sabrix 57Sales and use tax 44, 251, 257Sales tax 76, 177, 181, 187, 196, 207SAP

Archiving 129Data dictionary 114NetWeaver Business Intelligence (BI)

149Query 149, 152, 156Standard report 149U.S. Tax Reporting Guide for 2006 127

SD condition record 200, 234Section 199 158, 159Section 482 266Security roles 119Self-assessed fees 258, 259Ship from 187, 191Ship to 187, 191Solution Manager 32, 172SPRO 103Standard views 99State and local income taxes 251State apportionment 127State income taxes 43Stock transfer 81Stock transport orders 81Storage Location

Code 66Master 135

Storage solution 100Subject matter experts (SMEs) 31SUTA 124


359

Index

T

TaxAnalysis 100Base amount 93Benefits 47Category code 247, 248Classification 197Classification code 203Classification indicator 235Classification indicator for plants 240Code 93, 192, 193, 195, 196, 199, 206,

227, 243, 244, 245, 247Countries 91Data matrix 26Decision matrix 226Incentives 258, 259Indicator 197, 198International 48Jurisdiction 231Keys 92Local 43Matrix 225Other 48Payroll 47Procedure 188, 190, 195, 208, 226Property 46Sales and use 44State 43Type 93User interface 257

Tax Reporter 125, 129Tax Reporter Log Manager 127TAX_ALLOWED_FIELDS 222, 223, 224TAX_CALC_ITEM_IN00 218TAX_CALC_ITEM_OUT00 219TAX_CALC_JUR_LEVEL_OUT00 220TAX_HEADER_INPUT 223TAX_ITEM_INPUT 223TAX_USER_PRICING 222, 223TAXUS 190, 201, 211, 228, 231TAXUSJ 188, 190, 191, 192, 194, 195,

199, 200, 201, 202, 203, 206, 211, 228, 231, 242, 243, 244, 255, 256

TAXUSX 190, 191, 192, 199, 200, 201, 202, 206, 209, 211, 227, 228, 231, 235, 236, 243, 244, 256

Taxware 57TCP/IP connection 211

Test extracts 106Test runs 110Testing phase 31Text file 99Three-factor formula 169Top down approach 101Training and production 100Training phase 32Transaction

Codes 103Data 99Key 245, 246

Transfer pricing 53, 58, 261, 264, 268Best practices 266

Transports 119Travel and entertainment expense 157,

165Treasury module 175TXW_INDEX 106

U

U.S. Code Section 1441 85UDITPA 169Uniform Division of Income for Tax

Purposes Act 169Use tax 187, 190, 196, 207Useful life 74User exits 99UTXJ 255

V

Vendor master 140Vertex 57View 117, 118

Creation 102Testing 103Tool 111, 112

W

W-2 123, 124, 125W-3 124W-8 85W-9 85Waste taxes and environmental fees 251WBS elements 65, 181


360

Index

WithholdingClassic 85Extended 85Extended, configuration 91

Z

ZIP code 217


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