SALT cap workaround - Pass-Through Entity (“PTE”) Tax
The New York 2021-2022 Budget Bill introduces new Article 24-A to the New York Tax Laws, which provides for an optional New York State Pass-Through Entity (“PTE”) Tax. The new optional PTE tax would apply to eligible pass-through entities. For purposes of the PTE tax an eligible PTEs include corporations taxed under subchapter S of the Internal Revenue Code and entities taxed as partnerships. This would also include Limited Liability Companies (“LLC”) taxed as s-corporations and partnerships. Disregarded entities, including sole proprietorships and single member LLCs are not eligible for this election.
The PTE tax is designed to be a work around for the $10,000 limitation on the state and local tax deduction (“SALT Deduction Cap”) for federal income tax purposes. Unlike prior attempts to work around the SALT Deduction Cap, the IRS confirmed in Notice 2020-75 that deductions such as the PTE tax will be allowed in computing the entity’s non-separately stated taxable income or loss for the tax year of the PTE tax payment.
Beginning with the 2021 tax year, the tax would work by imposing the PTE tax on the entity’s taxable income which could then be deducted by the entity in computing its federal taxable income. The individual shareholders/partners/members would then receive a refundable New York State income tax credit for the PTE tax paid equal to their pro rata share of the pass-through entity. The legislation also allows residents of New York to take a credit against their personal income tax for PTE tax paid to other states, provided that the PTE tax is substantially similar to the New York PTE. Taxpayers may also qualify for a resident tax credit for PTE taxes paid to Canadian Provinces (this credit may be limited based upon the taxpayer’s claiming a federal foreign tax credit).
Since the purpose of the PTE tax is to provide a SALT limitation workaround to New York State taxpayer individuals, the tax is imposed at rates equivalent to the current (and recently increased) New York State personal income tax rates. The tax does not extend to the New York City resident income tax.
For partnerships, the PTE tax base will be the sum of: (1) the partnership’s New York taxable income attributable to New York resident members, and (2) New York source taxable income attributable to nonresident members. S-corporation income subject to the PTE Tax will include only income derived from New York sources, even for resident shareholders.
The PTE tax election is made annually by the due date of the first estimated payment (i.e. March 15th) and is irrevocable for the year elected. An electing PTE must pay the PTE Tax in four equal installments on March 15, June 15, September 15 and December 15 in the calendar year prior to the due date of the required return.
For calendar year 2021, the election to pay the PTE Tax must be made by Oct. 15, 2021, and an electing entity is not required to make estimated payments for taxable year 2021. Partners, members or shareholders of electing entities should make estimated payments for 2021 as required by the personal income tax as though not entitled to the credit for the PTE Tax for such year.