PURPOSE: This rule clarifies business expense reductions related to the production of exempt interest income pursuant to sections 143.431.2 and 143.121.3(a), RSMo.

1. (1) For purposes of this rule, exempt income means interest or dividends on obligations of the United States and its territories and possessions or of any authority, commission or instrumentality of the United States to the extent exempt from Missouri income taxes under the laws of the United States. Related expenses are defined as any expenses allocable to the earning of exempt income.
2. (2) Any expenses incurred in the production of exempt income shall reduce the exempt income pursuant to section 143.121.3(a), RSMo. This statute is modeled after 26 U.S.C. section 265 (Internal Revenue Code) which disallows the deduction for federal income tax purposes of expenses incurred to purchase or carry tax-exempt obligations.
3. (3) In arriving at the amount of related expenses, the taxpayer may use actual 12 CSR 10-2

expenses or a reasonable estimate. In general, the taxpayer should use the same or similar method to that used to compute related expenses for federal income tax purposes, provided that the method reasonably reflects related expenses for Missouri-exempt income.

1. (4) If a taxpayer fails to compute reasonable related expenses, the director will make an adjustment based on the best information made available. If sufficient information is not made available or if the taxpayer’s records do not provide sufficient information, the director will use the following formula to compute related expenses:

Exempt income × Expense items=Reduction to exempt income Total income

The principal expense item in this formula is interest expense, however, the director may include other expense items because of their direct relationship to the production of exempt income. The taxpayer may propose an alternative method provided that it properly reflects the amount of related expenses.

1. (5) The reduction to exempt income shall be made only if related expenses total more than five hundred dollars ($500).

AUTHORITY: sections 143.121 and 143.431, RSMo (1994).* Original rule filed July 19, 1996, effective March 30, 1997. *Original authority: 143.121, RSMo (1972), amended 1977, 1986, 1989, 1990 and 143.431, RSMo (1972).