CA Pass-Through Enity Elective Tax

• Summary

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• Created in response to 2018 tax law

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• To give CA business owners an additional deduction for their businesses, to make up for the $10,000 limitation on the deduction of state and local taxes on the 1040 return

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• Went into effect for the 2021 tax year, expires after 2025

• Summary (con’t)

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• Payment applies to pass -through entities that are taxed as partnerships or S-corps and file forms 1065 or 1120S

• Allows the tax on the CA income passed through on the K-1, to be paid by the business

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• The PTE income will be taxed at a flat 9.3%

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- The tax paid by the business for the shareholder/partners personal return can be taken as a expense on the businesses books, reducing business income

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• Summary (con’t)

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• The business owner can then take a credit equal to the tax paid by the company, as a credit against CA tax on the 1040 personal tax return.

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• Estimates for the current year must be made by June 15 of the tax year in question (ex. Estimate for 2023 tax year is due 6/15/23.

• Estimate must either be at least 50% of the estimate for the prior year or $1,000, the balance must be paid by the due date of the 1065 or 1120S (March 15)

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• If the initial estimate payment is not made by June 15, the entity will not be eligible for the PTE that year

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PTE Example

The company return (1065/1120S):

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• Company filing a partnership or S-corp return has income of $100,000

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• Profit is distributed to a single owner, so the year end K-1 will have $100,000 in business income for 2023

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The company elects the PTE for 2023

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- If this is a first time election, $1,000 is due on 6/15/23.

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• If PTE was elected in 2022, 50% of the amount paid in PTE in 2022 was due

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• Assuming income is the same, that is:
• $100,000 x 9.3% = $9,300 x 50% = $4,650 paid out of the company’s funds

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The company elects the PTE for 2023 – con’t

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• On or before March 15, 2024 the partnership or S-corp return is filed

• - At that time, the if this was a first year election of PTE, $8,300 will be due with the companies tax return for PTE

• - $9,300 total state tax - $1,000 paid = $8,300 balance due

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• If PTE was elected previously in 2022, $4,650 was paid on 6/15/23 and $4,650 will be due by 3/15/23

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PTE Benefit to Taxpayer

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• The benefit will be that the $9,300 PTEs was an expense of the company, so the distribution to the owner will be $100,000 - $9,300 = $91,700

• The owner will save on federal tax by $9,300 x personal tax rate on their personal return

• Using a 22% bracket for example $9,300 x 22% = $2,046 savings on federal tax

• 22% bracket is $41,776-$89,075 single, $83,551 to $178,150 married

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On the business owners 1040 personal return:

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• On or before 4/15/24, the business owner will file their personal 1040, and record the K-1 as $100,000 in income

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• Also on the 1040, the business owner will be allowed a $9,300 credit (not deduction), on their CA state return.

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• Any unused tax credit can be carried forward 5 years

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Things to consider before electing PTE:

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• Electing PTE can reduce the amount of K-1 income, which also reduces the 20% Qualified business income Deduction

• PTE will decrease the state tax available as an itemized deduction, this means that if the taxpayer near or under the $10,000 state and local tax deduction limit, not paying the state tax could reduce the amount of itemized deductions

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Things to consider before electing PTE – con’t:

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• PTE is calculated at a flat 9.3%, even if you are paying lower rates on the tax return

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• You can carryover unused PTE five years as a credit, but after five years the credit is lost. If the credit can’t be used in that time period, there would be a loss in the amount of the unused credit

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