Defining Pass Through Entity Tax

Back in 2017, the Tax Cuts and Jobs act was passed, putting a $10,000 limit on the amount of state and local tax that can be deducted on an individual's tax returns. For high income taxpayers that also pay a significant amount of property taxes, they quickly get to this $10,000 cap. For taxpayers who own pass thru entities such as partnerships and S-Corps, there is a potential way around this cap. This work around is called the Pass-Through Entity Tax.

The Pass-Through Entity (PTE) Tax is a state tax paid at the entity level that reduces the entities federal income. This, in turn, reduces the amount of federal income shown on an individual’s K1. The individual also receives a state-level credit for PTE taxes paid in a year. This amount is based on an individual’s ownership percentage and certain other state rules. It’s important to note that single member LLCs and sole proprietorships are not eligible for PTE.

The amount of the credit an individual receives on their tax returns depends on the state you are filing in. There are many states that utilize the PTE tax. The following states have PTE tax: Alabama, Arkansas, Arizona, California, Colorado, Connecticut, Hawaii, Georgia, Iowa, Idaho, Illinois, Indiana, Kansas, Kentucky, Louisiana, Massachusetts, Michigan, Maryland, Minnesota, Missouri, Mississippi, Montana, North Carolina, Nebraska, New Jersey, New Mexico, New York, Ohio, Oklahoma, Oregon, Rhode Island, South Carolina, Utah, Virginia, Wisconsin and West Virginia. and New York City .     

Please click your respective Northeast state for a deeper dive into PTE in your state.

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

• Connecticut
• New Jersey
• Massachusetts
• Rhode Island
• New York

Connecticut

In Connecticut, PTE Tax is mandatory. The amount of PTE Tax is based on the entity’s Connecticut state income tax. It’s important to note that PTE tax will not reduce CT State Taxable Income. The amount of CT PTE Tax due is based on 6.99% of CT Taxable Income. You receive a credit of 87.5% of the total CT PTE Tax paid that is then passed down to an individual’s 1040. 

Example of the tax this credit could save 

If Partnership A has matching Federal and CT income of $100,000 and made PTE/BAIT estimated payments equal to the 6.99% CT Tax rate, the amount of tax paid at the entity level is $6,999. This reduces taxable federal income of the entity by $6,999 to $93,001. The taxable state Income stays at $100,000. 

Now let’s say this is a husband-and-wife partnership and that $93,001 is their only source of income for 2022. They would pay self-employment and ordinary income tax on $93,001 instead of $100,000. If the taxpayer does not make the election, total taxes owed would be $20,154, including the self-employment tax. If the taxpayer did make the election, the amount owed would be $18,541. This results in tax savings of $1,613. 

The taxpayer will also receive a credit for PTE taxes paid by the entity on their individual tax return for the amount allocated to them on their CT tax returns. In this case it is a credit of 87.5% of the tax paid by the entity, which is $6,124.13 in total to the husband/wife’s joint tax return. 

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

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New Jersey 

In New Jersey, a business must elect through the state of New Jersey’s website to take advantage of the PTE/BAIT Tax. You must make this election every year before the 15th of the 3rd month following the close of the tax year. For example, if you are planning on taking advantage of the PTE credit for 2023, the election must be made before 03/15/2024. 

Estimated payments are required to be made quarterly. There will be no penalties assessed for not making estimated payments in the first year the election is made. The amount of PTE/BAIT due is based on your partnership’s New Jersey taxable income, including guaranteed payments and investment income. The first $250,000 has a tax rate of 5.675%; amounts between 250,000 and 1,000,000 have a rate of 6.52%; amounts between 1 million and 5 million, 9.12%; and amounts over 5 million are taxed at 10.9%. For New Jersey, the credit amount is equal to 100% of the NJ PTE taxes paid in the calendar tax year. 

Example of the tax savings this credit could save: 

If Partnership A has matching Federal and NJ income of $100,000 and made PTE/BAIT estimated payments equal to the 5.675% NJ Tax rate, the amount of tax paid at the entity level is $5,675. This reduces the entity’s taxable federal income by $5,675 to $94,325. The taxable state income stays at $100,000. 

Now let’s say this is a husband-and-wife partnership and that $94,325 is their only source of income for 2022. They would pay self-employment and ordinary income tax on $94,325 instead of $100,000. If the taxpayer does not make the election, total taxes owed would be $20,154 including self-employment tax. If the taxpayer did make the election, the amount owed would be $18,848. This results in tax savings of $1,306. 

The taxpayer will also receive a credit for the total amount paid in PTE taxes by the entity on their individual tax return for the amount allocated to them. In this case it is a credit of the full amount $5,675 because it is a husband wife partnership. This should cover any NJ Tax due for this taxpayer. 

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

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Massachusetts

In Massachusetts, an entity must make the election to pay the PTE Excise. PTE Excise election is made by filing Form 3, Form 355S-Schedule S, or Form 2 and is confirmed by submitting a new Form 63D-ElT. A qualified member of Massachusetts is considered a “natural person, estate, or trust subject to MA personal income tax and is a shareholder, partner, beneficiary of an electing PTE.” This person can be a resident, partial resident or nonresident. The pass-through entity may elect annually to pay the tax on the entity MA taxable income. The rate for MA is 5% of your MA entity taxable income. Qualified members also receive 90% of their respective share of the PTE tax paid during the year.   

Example of the tax savings this credit could save: 

If Partnership A has matching Federal and MA income of $100,000 and made PTE/BAIT estimated payments equal to the 5% MA tax rate, the amount of tax paid at the entity level is $5,000. This reduces taxable federal income of the entity by $5,000 to $95,000. The taxable state income stays at $100,000. 

Now let’s say this is a husband-and-wife partnership and that $95,000 is their only source of income for 2022. They would pay self-employment and ordinary income tax on $95,000 instead of $100,000. If the taxpayer does not make the election, total taxes owed would be $20,154 including self-employment tax. If the taxpayer did make the election, the amount owed would be $19,003. This results in tax savings of $1,151. 

The taxpayer will also receive a credit for PTE taxes paid by the entity on their individual tax return for the amount allocated to them on their MA tax returns. In this case it is a credit of 90% of the PTE taxes paid which is $4,500 that goes on their personal MA return as a credit to personal taxes paid. 

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

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Rhode Island

Rhode Island does not require you to pay PTE tax, but an election is mandatory if you would like to take advantage of the PTE Tax. The form 2022 RI-1099E must be filed before March 15 of the subsequent tax year. The RI PTE Tax is based on the RI State Taxable Income of the Pass-Through Entity. The RI-PTE is filed at the end of the year with the attached RI-1099E’s attached. The tax rate for the RI PTE is 5.99% of the entity’s taxable income. This tax then reduces federal taxable income on the Individual’s 1040. Please note, the PTE Tax must be listed as a modification increasing federal taxable income for Rhode Island purposes. The credit will be passed through to the owner’s personal income tax return and is reported on RI SCH W using the letter code E. 

Example of the tax savings this credit could: 

If Partnership A has matching Federal and RI income of $100,000 and made PTE/BAIT estimated payments equal to the 5.99% RI tax rate, the amount of tax paid at the entity level is $5,990. This reduces taxable federal income of the entity by $5,990 to $94,010. The taxable state income stays at $100,000. 

Now let’s say this is a husband-and-wife partnership and that $94,010 is their only source of income for 2022. They would pay self-employment and ordinary income tax on $94,010 instead of $100,000. If the taxpayer does not make the election, total taxes owed would be $20,154, including self-employment tax. If the taxpayer did make the election, the amount owed would be $18,773. This results in tax savings of $1,381. 

The taxpayer will also receive a credit for PTE taxes paid by the entity on their individual tax return for the amount allocated to them on their RI tax returns. In this case it is a credit of the full amount of PTE taxes paid which is $5,990 that goes on their personal RI return as a credit to personal taxes paid. 

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

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New York

In order to take advantage of PTET in New York, you must make an election after Jan 1 and before Mar 15. The election is made through the New York state website. For New York, you must first determine what the PTE taxable income is. You must compute both resident and nonresident taxable income separately. Special allocations are considered when calculating the income. 

Once you have determined your separate pools of resident vs nonresident PTE taxable income, you must allocate the credit by the % in each of the pools. PTE taxable income rates are as follows: 2 million or less has a rate of 6.85%; 137,000 plus, 9.65% of the excess of PTE taxable income greater than $2 million; $426,500 plus, 10.30% of the excess of PTE taxable income greater than $5 million; $2,486,500 plus, 10.90% of the excess of PTE taxable income greater than $25 million. It’s important to note that there are separate rules for non-residents. 

Example of the tax savings this credit could save: 

If Partnership A has matching Federal and NY income of $100,000 and made PTE/BAIT estimated payments equal to the NY 6.85% tax rate, the amount of tax paid at the entity level is $6,850. This reduces taxable federal income of the entity by $6,850 to $93,150. The taxable state income stays at $100,000. 

Now let’s say this is a husband-and-wife partnership and that $93,150 is their only source of income for 2022. They would pay self-employment and ordinary income tax on $93,150 instead of $100,000. If the taxpayer does not make the election, total taxes owed would be $20,154, including self-employment tax. If the taxpayer did make the election, the amount owed would be $18,574. This results in tax savings of $1,580. 

The taxpayer will also receive a credit for PTE taxes paid by the entity on their individual tax return for the amount allocated to them on their NY tax returns. In this case it is a credit of 100% of the PTE taxes paid which is $6,850 that goes on their personal NY return as a credit to personal taxes paid. 

Reminder: It’s important to consult with a tax advisor about credits and deductions before making any decisions that could affect your individual tax situation. 

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