By: Trey Suttle, CPA
The Tax Cuts and Jobs Act of 2017 (“TCJA”) made a major change to the amount of state and local taxes paid that could be deducted on an individual’s income tax return. Prior to the legislation, there was no cap on the amount of state and local taxes paid that could be deducted. The TCJA legislation enacted a $10,000 state and local tax (SALT) cap. Since this legislation was enacted, states, especially those with higher state and local income tax rates, have been seeking methods which would allow taxpayers with ownership interests in entities taxed as partnerships or S-Corporations a method by which they could deduct the full amount of state and local taxes that were paid without being affected by the SALT limitation.
In response, states began to enact laws that included a Pass-Through Entity Tax (PTET). Typically the owners of pass-through entities (PTEs) are responsible for paying any tax generated from their share of the income generated by the entity on their individual income tax returns. A pass-through entity tax allows the pass-through entity to pay the tax on its income on behalf of the partner or shareholder. At the Federal level, this would allow the pass-through entity to deduct the amount of pass-through entity taxes paid. At the State level, even though the partner or shareholder would have to continue to include their respective share of income from the entity, it would allow the owner to claim a credit for the amount of the owner’s distributive share of the taxes paid by the PTE and allow the owner to possibly exclude their distributive share of the PTE’s income on their state income tax return, depending on the rules for the particular state. In response to states starting to enact these elective taxes, the IRS issued Notice #2020-75. The notice clarified that PTE tax payments are, in fact, deductible in determining the federal taxable income of the pass-through entity, which allows the full deduction of the state income taxes paid and avoid the SALT limitation discussed above. Since the IRS’ stance was published, more states have started to enact legislation allowing for a pass-through entity tax.
During the 2023 West Virginia legislative session, SB 151 was introduced. This bill created an elective pass-through entity tax that was retroactive to the beginning of tax year 2022. The bill was signed into law by Governor Justice on March 28, 2023. The law now allows entities with West Virginia taxable income to pay tax at the entity level. The election is made on a year-by-year basis and is made with the filing of the state pass-through entity tax return and the payment of the tax by the entity. It is not mandatory for pass-through entities to elect into the payment.
Individuals with ownerships interest in pass-through entities may be intrigued by the perceived advantages electing to pay PTET instead of paying state income tax at the personal level. However, the election is not for everyone. It should be looked at on a taxpayer-by-taxpayer basis and an entity-by-entity basis to make sure that it is advantageous for the taxpayer. Some items to consider are:
- Will my state income tax rate be lower than the current PTET rate, which in most cases is at the highest individual rate?
- Does the PTET give me a significant deduction from Federal taxable income generated by the PTE?
- If you are paying PTET in another state, does your resident state give a credit for taxes paid to another state?
- Does the entity have the funds available to pay the PTET?
- Does my state require me to add back the amount of PTET credit to my taxable income?
- Does the state allow for any excess PTET payment to be refunded? Or does it have to be carried over and if so, is there a limit on the time the excess can be carried forward?
Currently, there are several surrounding states to West Virginia including Ohio, Kentucky, Virginia, and Maryland that have enacted legislation allowing PTET. Pennsylvania currently has proposed legislation that would allow a PTET.
We understand that there are many complexities when considering whether to elect to pay PTET and Suttle & Stalnaker, PLLC is ready to help you. If you would like more information on how this applies to you, please contact Danny Shobe, CPA, CCIFP at 304.343.4126 or dshobe@suttlecpas.com. You may also contact Trey Suttle, CPA at 304.343.4126 or at tsuttle@suttlecpas.com.