On November 9th, the IRS issued Notice 2020-75 which clarified that state and local income taxes (SALT) imposed on, and paid by, a pass-through entity, including a S-corporation or partnership, can be fully deducted. The Tax Cuts and Jobs Act of 2017 (“TCJA” or “tax reform”) limited the amount of the SALT deduction available for individuals to $10,000. The change under TCJA adversely impacted many individuals including business owners because they are no longer able to deduct state income taxes exceeding $10,000 at the individual level. The change under TCJA led some states to create a SALT cap workaround which imposes an income tax at the business level as opposed to having the taxes paid at the individual level. This business entity level tax helps impacted taxpayers recapture the saving opportunity of a SALT deduction. The good news is the recent IRS Notice confirms that regulations are forthcoming that pass-through entities will be able to deduct the income taxes paid at the business entity level.
Important Notice Insights
The Notice now will permit impacted entities to fully deduct the tax amount at the business level rather than through the owners at the individual level. This means state workaround programs are expected to go unchallenged by the IRS.
In addition, the changes outlined in the Notice are effective immediately. If a state SALT Cap workaround was enacted prior to this date, the entity level deduction will be allowed to align with the state’s enactment date. It is important to carefully review the proposed regulations to ensure entity level deductions paid under current state program will be accepted, without regard to the SALT Cap, by the IRS.
The IRS is expected to issue specific regulations allowing pass-through business entities that pay income taxes to deduct the whole amount. This is welcome news for those impacted by the $10,000 SALT cap and it is likely other states will enact similar SALT cap workarounds in the next legislative session. It is important to consult with a qualified tax advisor to review your situation and determine how the change will impact you. If you have questions, click here to contact SALT leader Tim Clancy.