Insights


California Senate Bill 113 Makes Beneficial Changes to Pass-Through Entity Tax

The Tax Cuts and Jobs Act (TCJA) of 2017 limited the state and local tax (SALT) deduction for individuals to $10,000. In response, many states have passed laws providing passthrough entity owners a workaround to the limitation by allowing passthrough entities to pay state taxes at the entity level. The benefit of the entity paying taxes directly is that the entity may deduct the full amount of taxes paid on its federal return, whereas the federal deduction for state taxes paid by individual owners is limited.

California AB 150, passed in July of 2021, allowed qualifying S-Corps, partnerships, and LLCs to elect to pay California taxes on qualifying income at a rate of 9.3% for owners who consent to have taxes paid on their behalf. The law is applicable for tax years beginning on or after January 1, 2021, and before January 1, 2026. California taxes paid at the entity level will reduce the federal K-1 income passed through to owners, and consenting owners can claim a credit on their California return for up to 100% of the taxes paid on their behalf.

AB150 significantly limited which entities were eligible to pay the tax, and for those that could, it limited the tax benefit to the owners of doing so. Recently enacted Senate Bill 113 (SB 113) removed many of these limitations, making more entities eligible to pay the tax, and increasing benefits to owners. SB 113 greatly improved the elective tax option by:

  • Expanding which entities can make the election and the types of owners for whom the tax may be paid;
  • Including guaranteed payments paid to partners/LLC members in the tax base; and
  • Eliminating tentative minimum tax limitations.

Owners of passthrough entities may be able to significantly reduce their tax liability because of this expanded SALT workaround. As always with tax planning, there are lots of factors to consider in determining whether it makes sense for a passthrough entity to make the election, and whether owners should consent to have the entity pay tax on their share of the entity’s income.  While entities have until the extension deadline to make the election, the passthrough entity tax is due March 15th, so there is some urgency for taxpayers to determine whether paying the passthrough entity tax makes sense for 2021. We’re here to help you determine what is best for your unique situation.

Have questions? The experts at PP&Co are ready to help. Contact us at info@ppandco.com or (408) 287-7911 for assistance to determine what is best for your unique situation.