NC Tax Alert: Are You Being Impacted by the $10,000 SALT Cap?
The Tax Cuts and Jobs Act (TCJA) of 2017 had a profound impact on individual tax returns by limiting the amount of state and local taxes (SALT) that are deductible on Form 1040, Schedule A to $10,000. Prior to TCJA, state and local taxes on Schedule A were not limited. This was a major change causing many taxpayers, especially those who are subject to state income taxes, to pay more in federal taxes over the last four years.
As a result of these changes, many states have created work arounds for eligible pass-through entities allowing the state income taxes to be paid at the entity level, versus the individual level. This allows the entity to deduct the taxes in the same manner they would any other ordinary and necessary business expense thereby reducing the income the individual pass-through entity owners must include in their federal taxable income. This essentially allows for a federal deduction of the state income taxes that are no longer subject to the $10,000 SALT cap that would potentially apply if the individual paid the taxes themselves. While the IRS has scrutinized many of these work arounds, on November 9, 2020, they issued guidance (Notice 2020-75) confirming that they will allow the entity a federal deduction for the state taxes they pay under these new state tax laws.
On November 18, 2021, the North Carolina General Assembly passed Session Law 2021-180 that includes a potential work around of the SALT cap based on the IRS guidance for North Carolina taxpayers. This law permits eligible partnership and S-Corporations, referred to as passthrough entities (“PTEs”), to elect to pay North Carolina income tax at the entity level, rather than the individual level.
This election is made with the PTE’s annual North Carolina income tax return and can be made for tax years that begin on or after January 1, 2022. S-Corporations have no restrictions on their ability to make the election. However, this election is available to partnerships only if all partners are qualifying owners. Qualifying owners include:
- Individuals
- Estates
- Trusts qualified to hold S-Corp stock, (such as grantor trusts)
- Tax-Exempt Entities
A PTE electing to be taxed at the entity level is required to make estimated payments in the same manner as a C corporation. However, for the 2022 tax year, North Carolina has provided taxpayers with relief from this requirement and has stated that estimates are optional for PTE’s that make this election with their 2022 North Carolina tax return.
Individual owners of pass-through entities that are considering making this election with their 2022 tax year, should consider adjusting their remaining 2022 North Carolina estimated tax payments to account for the fact that the entity will be paying those taxes instead of the individual.
There are many variables to consider when determining if a PTE, and its owners, would benefit from making this election. Therefore, a careful analysis should be done before making such election or adjusting any previously calculated estimated tax payments.
If you have any questions regarding how this election impacts your tax situation, please don’t hesitate to reach out to your trusted BRC tax advisor.
