Recently, Massachusetts joined several other states in enacting an entity-level excise that responds to the State and Local Tax (SALT) deduction limitations under IRS rules.  Under the new legislation, for tax years beginning on or after January 1, 2021, entities taxed as S corporations and partnerships, and certain trusts, may elect annually to be subject to the pass-through entity excise (PTE Excise) at a rate of 5%. The election is made on an annual basis.

Qualified members of an electing PTE are eligible for a credit equal to 90% of a member’s distributive share of PTE Excise paid.  Thus, the members do lose 10% of the benefit of the actual payment made.

Accordingly, the following entities that do business in Massachusetts or have income derived from or connected with Massachusetts sources may elect to be subject to the excise:

• Partnerships, including limited liability companies that are treated as partnerships for federal income tax purposes, but excluding publicly-traded partnerships;
• S corporations, including limited liability companies that are treated as S corporations for federal income tax purposes; and
• Trusts, to the extent that they have income that is taken into account by beneficiaries for Massachusetts personal income tax purposes.

Sole proprietorships and single-member limited liability companies that are disregarded for federal income tax purposes cannot elect to be subject to the PTE Excise because they are not pass-through entities.

The following summarizes the means to facilitate the use of this new Massachusetts legislation.

• This provision requires an annual election so a taxpayer could adopt the provisions one year and not the next.
• The taxpayer must pay the 2021 tax (i.e. 5% of business taxable income) by the due date of the entity’s tax return for this year.
• This tax would be reported on the owners Federal K-1 as a conventional business expense (i.e. circumventing the SALT limitation) and with 90% passed through to the owners on their State K-1 as a state credit to offset their Massachusetts personal income taxes. The state tax will not be deductible on the owners personal Massachusetts tax return and the tax will be an added back to determine the owner’s state income. Note that the required entity taxes, calculated on an annual basis, cannot be reduced by any personal Massachusetts estimated payments or nonresident withholding payments you may have already paid. Any such excess Massachusetts estimated tax payments can either be refunded or applied to 2022. If you ultimately decide to take advantage of this provision, you should reevaluate the need to pay your fourth quarter Massachusetts estimated tax payment that is due January 15.
• File an additional Massachusetts entity return.

The potential Federal tax savings of the SALT workaround depends on several factors, most importantly your marginal Federal income tax bracket. The higher the tax bracket, the greater the benefit. Currently, the highest marginal individual Federal income tax rate is 37%. The SALT workaround is tax neutral from a Massachusetts standpoint.

Potential Federal savings can be illustrated as follows.

• Entity business income of $1,000,000 would require a $50,000 MA PTE tax payment that would save about $13,500 ($50,000 at 37% -10% PTE not credited to owners) in taxes.
• Entity business income of $100,000 would require a $5,000 MA PTE tax payment that would save about $1,350 ($5,000 at 37% -10% PTE not credited to owners) in taxes.

While the tax is due no later than the due date of the entity’s tax return, cash basis taxpayers must make a PTE payment (electronically on the MA Department of Revenue website) before December 31, 2021 to take the deduction on the 2021 tax returns.  If you have any questions, please contact your SK service professional.

Frederick has over 30 years of experience and possesses expertise in structuring transactions, federal and state laws, and compliance. He has advised emerging and closely-held businesses with revenues in excess of $100M.

With over 30 years of experience of advising clients across numerous industries, Anne has an in-depth understanding of complicated accounting standards and tax laws, in addition to strategic income tax, estate planning, growth strategies, and formulating tax effective alternatives for structuring transactions.