New North Carolina PTE Tax Can Reduce Federal Income Taxes
By The Tax Cuts and Jobs Act of 2017 capped the deduction available to individual taxpayers under Section 164 to $10,000 for 2017 through 2025. That deduction includes state income taxes, real property taxes, and personal property taxes. To benefit taxpayers who own partnerships or S corporations, many states have enacted elective pass-through entity (“PTE”) taxes that allow the entity to pay the owners’ state income taxes at the entity level. That is significant because Congress explicitly stated the $10,000 limitation does not apply to pass-through entities.
Notice 2020-75 acknowledges the newly enacted PTE taxes can provide full deductibility of state income taxes paid by the pass-through entities on behalf of their owners. After the issuance of Notice 2020-75, over twenty states have enacted PTE taxes, including North Carolina.
The election for the North Carolina PTE is made annually on the entity’s timely filed North Carolina income tax return and may be revoked via an amended return. The PTE tax is calculated at North Carolina’s income tax rate (4.99% for year 2022). On December 2, 2022, the North Carolina Department of Revenue released SALT Guidance – Update 3, which provides important information on the new tax. This information includes that 2022 is the first year North Carolina’s PTE tax will be effective. Also, North Carolina PTEs that elect into the tax are required to pay estimated tax payments beginning January 1, 2023, in the same manner as a North Carolina C corporation.
All pass-through entity owners should be aware of the North Carolina PTE tax’s potential to reduce federal income taxes for 2022.
John G. Hodnette is an attorney with Johnston, Allison & Hord in Charlotte.