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What is the commercial loan income exemption?
For taxable years beginning on or after January 1, 2023, income that a financial institution derives from commercial loans of $5 million or less provided to a person residing or located in Wisconsin and used primarily for a business or agricultural purpose is exempt from Wisconsin income/franchise tax as provided in secs.
71.05(1)(i), and
71.26(1)(i), Wis. Stats., and sec. Tax
3.10 (EmR 2404), Wis. Adm. Code.
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Does the commercial loan income exemption apply to loans that originated before taxable years beginning on or after January 1, 2023?
The exclusion applies to the income reportable for taxable years beginning on or after January 1, 2023, even if the loan originated in a prior taxable year.
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Who is eligible for the commercial loan income exemption?
A financial institution that is classified as a corporation, a tax-option (S) corporation, or a limited liability company treated as a corporation for income/franchise tax purposes is eligible for the income exemption.
"Financial Institution" means a financial institution defined in sec.
69.30(1)(b), Wis. Stats., that is authorized to do business under state or federal laws relating to financial institutions and is one of the following:
- A bank as defined under 12 USC 1841(c), including a national bank organized and existing as a national bank association pursuant to provisions of 12 USC ch. 2 and a state bank organized and operating under ch. 221, Wis. Stats, or a comparable law in another state.
- A savings bank organized under ch. 214, Wis. Stats., or a comparable law in another state.
- A savings and loan association organized and operating under ch. 215, Wis. Stats., or a comparable law in another state; or organized according to federal law.
- Any credit union to the extent not exempt under sec. 71.26(1)(a), Wis. Stats., and sec. 186.113(20), Wis. Stats.
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Does a financial institution have to be organized or incorporated under Wisconsin law to be eligible for the income exemption?
No.
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What income is exempt under the commercial loan income exemption?
All income, including interest, fees, and penalties, derived from a qualifying commercial loan.
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What income is not exempt under the commercial loan income exemption?
Exempt income does not include income derived from persons other than the borrower of the commercial loan, such as income derived from the sale of a commercial loan or income derived from another financial institution for a loan participation agreement.
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How is the exempt income reported on the Wisconsin tax return?
The exempt income is reported as follows:
- Form 4 -
Wisconsin Non-Combined Corporation Franchise or Income Tax Return, Schedule 4W -
Wisconsin Subtractions From Federal Income, line 14
- Form 5S -
Wisconsin Tax-Option (S) Corporation Franchise or Income Tax Return, Part IV, Line 18
- Schedule 5K-1 -
Tax-Option (S) Corporation Shareholder’s Share of Income, Deductions, Credits, etc., Part IV, line 18
- Form 6, Part II:
Unitary Income Computation Subtractions from Income, line 4n, other subtraction code number 13
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Does a financial institution that is engaged in business within and outside Wisconsin include the exempt income in the numerator and/or denominator of the financial institution's apportionment sales factor?
Yes. Income derived from a commercial loan is apportionable income according to sec.
71.25(5), Wis. Stats., and is included in the financial institution's apportionment sales factor according to sec.
Tax 2.49, Wis. Adm. Code.
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What records must a financial institution keep to substantiate the exemption?
A financial institution must keep electronic records to substantiate the eligibility and amount of the exempt income. The records must be easily accessible and useable for the Wisconsin Department of Revenue to conduct an audit and must be kept for as a long as the taxable year is open for review or adjustment by the department. See sec. Tax 3.10(6), Wis. Adm. Code, for more recordkeeping requirements.
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Is a tax-option (S) corporation that elects to pay tax at the entity level under sec.
71.365(4m)(a), Wis. Stats., eligible for the income exemption?
Yes. According to sec.
71.365(4m)(d)1.c., Wis. Stats., the income exemption is allowed for a tax-option (S) corporation that elects to pay tax at the entity level under sec. 71.365(4m)(a), Wis. Stats.
Commercial Loan
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What is a commercial loan?
A loan issued to a borrower if the proceeds are used primarily for a business or agricultural purpose in Wisconsin.
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What is a loan?
A loan means money given in exchange for an obligation to pay back such money that results from direct negotiation between a financial institution and a borrower.
A loan does not include unsecured open-end lines of credit such as credit cards and other unsecured revolving credit plans and letters of credit; conversions; sales or leases of property; futures or forward contracts; options; notional principal contracts such as swaps; credit card receivables, including credit card relationships; non-interest bearing balances; cash items in the process of collection; federal funds sold; securities purchased under agreements to resell; assets held in a trading account; securities; interest in a real estate mortgage investment conduit, or other mortgage-backed or asset-backed security; and other similar items.
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Does a credit card or open line of credit qualify as a loan?
It depends if the credit is secured or unsecured. A loan does not include unsecured open-end lines of credit such as credit cards and other unsecured revolving credit plans and letters of credit. Secured open-end lines of credit may qualify for the income exemption.
Used Primarily for a Business or Agricultural Purpose in Wisconsin
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How is a loan used primarily for a business or agricultural purpose in Wisconsin?
A loan is used primarily for a business or agricultural purpose if the loan proceeds are used 75% or more for a business or agricultural purpose in Wisconsin.
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Does collateral used for a commercial loan need to be located in Wisconsin for the loan to qualify?
No. There is no requirement that assets used as collateral be located in Wisconsin.
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What is a business purpose?
Business purpose means the borrower uses the loan proceeds for activities undertaken for an industrial, commercial, or professional purpose.
Business purpose does not include the following:
- Investment in stocks, bonds, and other securities or ownership interests in entities including the borrower's own stock or ownership interests, unless such assets are regularly held for sale in a trade or business;
- Personal or consumer expenditures;
- The purchase, expansion, or improvement by an owner of a one to four unit residential facility if such owner or their parent or child uses all or a portion of the facility as their personal residence.
- Activities conducted by any unit of government or any agency or instrumentality of one or more units of government.
- Activities conducted by nonprofit organizations, unless one of the following apply:
- The commercial loan proceeds are used in Wisconsin for activities in which the nonprofit organization reports business income tax on Form 990-T,
Exempt Organization Business Income Tax Return, to the federal Department of the Treasury.
- The nonprofit organization has over 50 full-time employees in the calendar year immediately preceding the calendar year in which the commercial loan is issued, and the loan proceeds are used in Wisconsin for activities regularly conducted by such employees.
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What is an agricultural purpose?
Agricultural purpose means the borrower uses the loan proceeds for preparation of plant or animal products for use in a business or for sale or distribution to markets. Agricultural purpose includes agriculture, horticulture, viticulture, dairy, livestock, wildlife, poultry, bees, forest products, fish and shellfish, and any products thereof, and all products raised or produced on farms and any processed products thereof.
Agricultural purpose does not include fishing preserves, recreational uses, or personal uses.
Loan Provided to a Person Residing or Located in Wisconsin
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Who is a person residing in Wisconsin?
A person is considered residing in Wisconsin if either of the following apply. This determination is made for the person's taxable year in which the loan originated.
- A natural person or fiduciary who is a resident of Wisconsin as determined under secs.
71.01(1n) or
71.14, Wis. Stats.
- A person whose commercial domicile of their business or agricultural activity is in Wisconsin. For purposes of this exemption, commercial domicile means the location from which a trade or business is principally managed and directed. It is rebuttably presumed that the location from which a trade or business is principally managed and directed is the location where the greatest number of the business's employees have their office or their base of operations from which they regularly work and are directed or controlled.
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Who is a person located in Wisconsin?
A person (including a natural person or fiduciary) who has a fixed business location in Wisconsin such as a commercial office, warehouse, or manufacturing facility.
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Does a financial institution have to be commercially domiciled in Wisconsin to qualify for the income exemption?
No.
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Can a financial institution make a qualifying loan to a corporation whose domicile is outside Wisconsin?
Yes, a loan may qualify if it is made to a corporation located in Wisconsin (i.e., the corporation has a fixed business location in Wisconsin such as a commercial office, warehouse, or manufacturing facility).
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Does a guarantor of a commercial loan need to reside within Wisconsin for the loan to be eligible for the income exemption?
No. There is no requirement that a guarantor of a qualifying commercial loan reside in Wisconsin.
Loan of $5 Million or Less
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How is a commercial loan determined to be $5 million or less?
The
original full amount of the loan obligation is used to determine the $5 million limitation. In the case of secured open-end lines of credit and other secured revolving credit plans and letters of credit, the full amount of the loan obligation is the maximum amount of credit available to the borrower. Costs and fees rolled into the loan are included as part of the original loan obligation. Charge-offs or amounts not expected to be recoverable from a borrower do not reduce the original loan obligation.
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Is a commercial loan that originated in a taxable year prior to January 1, 2023, eligible for the income exemption if the full amount of the original loan obligation was $5 million or less?
Yes, if all other requirements are met.
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Is a commercial loan with an original loan obligation of more than $5 million eligible for the income exemption if the balance of the loan as of the beginning of the 2023 taxable year is $5 million or less?
No. The original loan obligation is not $5 million or less.
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Are commercial loan closing costs and/or other service fees considered part of the original loan obligation?
Yes. Any costs, fees, or other charges to the borrower that are rolled into the loan amount are considered part of the original loan obligation and used to determine whether the loan meets the $5 million eligibility threshold.
Example:
- A borrower is issued a commercial loan of $4,900,000.
- Additional costs and fees of $150,000 apply to that loan.
- The borrower does not pay the $150,000 up front but instead rolls the amount into the outstanding loan obligation.
- Since the loan obligation and costs and fees equal an original loan obligation of $5,050,000, income derived from the loan does not qualify for the exemption.
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Do charge-offs or amounts not expected to be recoverable from the borrower reduce the original loan obligation?
No. Portions of an outstanding loan balance that are written off do not reduce the original loan obligation.
Example:
- A bank issues a commercial loan with an original loan obligation of $6 million.
- The bank charges off $2 million and keeps track of charged-off balance on a separate set of books. The outstanding loan balance is reduced for the amount charged off.
- Since the original loan obligation was more than $5 million, the loan does not qualify for the commercial loan income exemption.
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Is a commercial loan with an original loan obligation of $15 million eligible for the income exemption if 33% of the proceeds (or $4.95 million) are used for a business purpose in Wisconsin and 67% in another state?
No. The original loan obligation is not $5 million or less.
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Is a commercial loan with an original loan obligation of $5 million or less eligible for the income exemption if some of the loan proceeds are used outside Wisconsin?
It depends. Assuming all other requirements are met, the commercial loan is eligible for the income exemption if 75% or more of the loan proceeds are used for a business or agricultural purpose in Wisconsin.
Example:
- Financial Institution A issues a loan to Business B for $4 million.
- Business B uses $3 million of the loan proceeds to expand their manufacturing facility in Wisconsin.
- Business B uses $1 million of the loan proceeds to renovate their headquarters office in Illinois.
- The loan is used primarily for a business purpose in Wisconsin since 75% of the loan proceeds ($3 million / $4 million) were used to expand the Wisconsin manufacturing facility.
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If a commercial loan is refinanced, is the $5 million eligibility threshold based on the refinanced loan amount or the original loan amount?
A commercial loan that is refinanced is considered a new, original loan obligation. Therefore, the $5 million eligibility threshold is computed based on the facts contained in the refinanced loan documentation.
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If a secured, open-end line of credit is issued to a business with a maximum amount of credit available to the borrower of $6 million, but only $4.9 million has been withdrawn, is it eligible for the income exemption?
No. The maximum amount of credit available exceeds the $5 million eligibility threshold.
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If a financial institution issues three commercial loans over different time periods to the same borrower, is each loan eligible for the income exemption or are the three loans aggregated for purposes of the $5 million eligibility threshold?
It depends. Separate loan agreements with the same borrower will not be aggregated if the loans are obtained for a different use and qualifying purpose.
Examples:
- A farmer seeks $15 million to purchase farmland in Wisconsin for use in their agricultural business. Bank A issues three separate loans to farmer for $5 million each. The three loans are aggregated as a loan of $15 million. Therefore, the income derived from the three loans is not eligible for the income exemption.
- A farmer seeks $15 million to purchase $5 million of farmland, $5 million of equipment, and $5 million for a barn. Bank B issues three separate loans of $5 million each to be used for the separate qualifying purposes. The three loans are not aggregated, and each may qualify for the income exemption.
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If a financial institution issues two commercial loans to two different entities that have the same owner, is each loan eligible for the income exemption or are the two loans aggregated for purposes of the $5 million eligibility threshold?
It depends. Separate loan agreements between related entities will not be aggregated if the loans are obtained for a different use and qualifying purpose.
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Is a financial institution that purchases a commercial loan from another financial institution able to claim the income exemption?
Yes. A financial institution that acquires a commercial loan through a purchase,assignment, or participation agreement may be eligible for the income exemption if theacquired loan had an original loan obligation of $5 million or less. If the original loanobligation was $5 million or less, and all other requirements are met, both the purchasing and selling financial institutions may claim the exemption for theirrespective share of the income derived from the qualifying commercial loan.
Example:
- A qualifying commercial loan of $5 million is issued by Bank A.
- Bank B purchases a $3 million participation in the commercial loan from Bank A.
- Both Banks A and B may qualify for the income exemption since the original loanwas for $5 million or less
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If multiple financial institutions enter into a loan syndication to originate a commercial loan, is the amount of each financial institution’s portion of the syndicated loan used to determine the $5 million eligibility threshold?
No. The $5 million eligibility threshold is determined based on the total original loan obligation with the borrower, not each financial institution's portion of the syndicated loan.
Example:
- Four financial institutions pool their resources to fund a loan syndication to a borrower.
- The total original loan obligation is $20 million with each bank funding $5 million.
- The loan does not qualify for the income exemption because the total original loan obligation is more than $5 million.