December 2, 2020
On May 8, 2020, the State of Maryland enacted SB 0523, Income Tax – Pass-Through Entities and Corporations, which authorizes pass-through entities (PTEs) such as partnerships and S-corporations the option to elect to pay Maryland state income tax on an entity level rather than “passing it through” to the entity owner. Many other states have proposed similar legislation as a workaround on the limitation on State and Local Tax (SALT) deductions imposed by the Tax Cuts and Jobs Act (TCJA). The IRS recently confirmed that workarounds like the one implemented by the new Maryland law will be allowed. Therefore, the Maryland Senate Bill is a huge boon to owners of PTEs in Maryland. A previously non-deductible individual state income tax expense is now a deductible business expense on their federal tax return.
New Deductible Expense
When it took effect on January 1, 2018, the TCJA limited state and local tax deductions to $10,000 for individuals. Under the new Maryland law for tax years beginning January 1, 2020, PTEs can elect to have their net income taxed at the entity level creating an entity-level state tax deduction not subject to the $10,000 cap on individual SALT deductions. SB 0523 allows Maryland residents to receive a credit on their individual Maryland return when the PTE elects to pay tax with the Maryland business return.
PTEs that utilize the cash-basis for tax purposes must pay their Maryland taxes by year-end to receive the deduction.
Which Entities Qualify
This election may be used for Maryland residents that operate S-corporations or partnerships in Maryland. For S-Corporations, all shareholders must be Maryland residents for the entity to qualify. Partnerships may have non-Maryland partners and still be eligible for the tax and credit. Eligible business are not required to operate solely in Maryland, but must be subject to Maryland tax.
On November 9, 2020, the IRS issued Notice 2020-75, which approved state pass-through entity taxes. As the end of the year approaches, SB 0523 offers a great tax savings and tax planning opportunity for those with interest in an eligible Maryland-based business. For more information on the taxation of pass-through entities, contact Troy Turner at firstname.lastname@example.org or Liana Shelyubsky at email@example.com.
Troy Turner, CPA
Vice President, Director of Tax
Senior Tax Accountant