WHAT IS IT?
Under the Tax Cuts and Jobs Act of 2018, taxpayers could only deduct a yearly combined maximum of $10,000 of their state income taxes and property taxes on their federal tax return which became known as the SALT limitation.
Assembly Bill 150 provided a workaround to the SALT limitation which was confirmed by the IRS via notice 2020-75. This set of regulations has provided an unexpected opportunity for business owners to save a great deal of taxes.
HOW DOES IT WORK?
1) Workaround allows eligible companies to pay a 9.3% tax to California on qualified net income of consenting owners:
a. Tax paid decreases net income on federal k-1 and is not subject to $10,000 SALT limitation
b. No impact on CA K-1 (i.e. no deduction for the tax payment)
c. Consenting owner receives credit for the payment on their CA tax return
2) Passthrough companies eligible – S Corp, LLC, LLP, and LP doing business in CA.
3) Consenting owners must be either individuals, fiduciaries, trusts, and estates
4) Not all owners must consent to the election; it’s applied based on each consenting owner’s pro rata share of income
5) Entity makes irrevocable election
a. Entity is obligated to pay the tax for the owners who provided consent
b. Election is made annually on timely filed return
6) Payment of tax is credited on the CA tax return of the consenting owners
a. Non-refundable credit (i.e., cannot be used in excess of tax incurred)
b. Unused amount carries forward for 5 years
7) Tax is due on or before March 15, 2022 for tax year 2021
a. Future tax year (2022-2025) payments are due twice a year (June 15 of the current year and March 15 of the subsequent year)
b. June 15 payment must be the greater of 50% of the tax paid the year before or $1,000
c. Entity is prohibited from making the election if it fails to make the proper June 15 payment
8) Governor proposed retroactive tax relief on January 11, 2022 related to the pass-through entity tax
a. Allowing disregarded entities, including single-member LLCs, to claim the credit
b. Eliminating the California tentative minimum tax limitation
Feel free to contact us if you are interested in learning more about how to use these new rules to reduce your taxes, perhaps significantly!