California enacted Assembly Bill 150 (“AB 150”) in late 2021 as a method for deducting state and local taxes in excess of federal deduction limitations. AB 150 allowed passthrough entities (“PTEs”) to have the tax imposed and paid at the entity level rather than at the individual level, which permitted PTE owners to bypass the deduction limitation. For those owners who have elected to participate in this program, PTEs pay the tax on the qualified net income and their owners receive a corresponding credit against the state income tax liability related to their PTE income. Any unused credit at the owner level may be carried forward for up to five years.
Governor Newsom signed Senate Bill 113 (“SB 113”) on February 9, 2022, which modified and expanded the passthrough entity elective tax benefits previously established under AB 150. The goal of SB 113 was to add clarity and conformity to the state’s original objectives for establishing the PTE credit.
The PTE election is made annually on the original filed return, including extensions. For tax years 2022 through 2025, the first PTE installment payment is due June 15th of each year, and is equal to the greater of:
The second PTE elective tax installment is due by the entity’s tax return due date (without extensions), which for most partnerships, LLCs, and S corps will be March 15, 2023.
If a payment is not made by June 15th, the election may not be made and the pass-through entity and owners may not participate in the program for that corresponding tax year.
There are many unanswered questions surrounding the PTE program. For example, since many 2021 returns will not be filed by June 15th, taxpayers may not know what 50% of the 2021 tax will actually be. If a good faith estimate is paid on June 15 but ends up being short of the 50% when the 2021 return is filed, the 2022 PTE election is invalid.
Hamilton Tharp is recommending that taxpayers add more funds to ensure that they do not underpay the tax. If the PTE did not participate in the program for 2021, but the owners of the PTE are fairly certain they will want to participate in the PTE program for 2022, we are recommending the payment be made with all available financial information or the $1,000.
If you have any questions, please contact us. In most cases, if you or your firm qualify to participate in this program, we have already reached out and discussed the payments.
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