Indiana Becomes the 30th State to Enact a Pass-Through Entity Tax

At a glance

• The main takeaway: Indiana is now the 30^th state to enact a pass-through entity tax, and more states are considering similar legislation.

• Assess the impact: If applied appropriately, an elective pass-through entity tax can offer owners of pass-through entities significant federal income tax benefits.

• Take the next step: Aprio’s State and Local Tax (SALT) team has experience analyzing multi-state PTET issues and can help your business determine the benefits and costs of making a PTET election.

Schedule a free consultation today to learn more!

The full story:

On February 22, 2023, Indiana Governor Eric Holcomb signed Senate Bill 2, making Indiana the 30^th state (plus New York City) to enact an elective pass-through entity tax (PTET). These taxes are intended to provide a workaround to the $10,000 limit on the federal deduction for state and local taxes as enacted by the Tax Cuts and Jobs Act (TCJA) of 2017.

These PTETs allow a pass-through entity (PTE), typically an entity taxed for federal income tax purposes as a partnership or an S corporation, to elect to pay income tax at the entity level. As acknowledged in IRS Notice 2020-75, the PTE is entitled to deduct the PTET paid in full on its federal return, which lowers the federal income reported by the PTE, and lowers the federal income flow-through to each individual owner, thereby lowering the income tax paid by such individuals. At the state level, the individual is provided a tax credit or an income exclusion to account for the fact that the PTE paid state tax at the entity level.

Highlights of Indiana’s PTET¹

• The tax election is retroactive to the 2022 tax year. For PTEs that would like to make an election for tax years beginning in 2022, the election must be made after March 31, 2023, and before August 31, 2024. Otherwise, the election must be made by the earlier of (i) the due date of the PTE’s return for such year, including extensions or (ii) the date the PTE files its return.

• The election is made annually and once made, is irrevocable. The election is made on form IN-PTET provided by the Indian Department of Revenue. For tax years beginning after 2022, the election may also be made on the PTE’s tax return. For tax years beginning in 2022, the PTE’s election may be made on an amended return if the PTE filed a return before April 18, 2023.

• The election is made annually and once made, is irrevocable. The election is made on form IN-PTET provided by the Indian Department of Revenue. For tax years beginning after 2022, the election may also be made on the PTE’s tax return. For tax years beginning in 2022, the PTE’s election may be made on an amended return if the PTE filed a return before April 18, 2023.

• For non-resident owners, the PTE calculates income on a post-apportionment basis whereas for resident owners, the PTE can elect to calculate income on a post- or pre-apportionment basis.  The PTE must treat all resident owners the same. This election may be important in the case of S corporations with nonresident and resident owners who want to avoid potential federal income tax issues.

• Estimated payments are not required for tax years ending on or before June 30, 2023.

• PTE owners are entitled to a refundable credit against their income tax liability in an amount equal to the portion of the tax paid by the entity that is attributable to the owner’s share of income taxable in Indiana.

• Potential Refund Opportunity: Retroactive to tax years beginning on or after January 1, 2019, an Indiana resident owner of a PTE where such PTE paid PTET to another state may be entitled to a credit on his or her Indiana income tax return when the other state’s PTET is “substantially similar” to Indiana’s PTET. Thus, Indiana residents may be able to amend returns to claim a credit if they were owners of a PTE that paid PTET to another state in a prior year, thereby creating a refund opportunity.

Please note that the multi-state tax aspects of PTET taxes, when the PTE operates in multiple states and has owners that are residents of multiple states, are very complex and must be analyzed on a case-by-case basis to determine if the election should be made. Issues to consider include (but are not limited to):

• Does the resident owner’s state provide credit for PTETs paid to other states?

• Does the owner have income or losses from other sources that could affect such owner’s ability to benefit from a PTET credit or income exclusion?

• Does the PTET election create individual income tax filing obligations for non-resident owners that may not have existed had such owner participate in a composite return?

• Are there increased tax compliance costs for electing and filing PTETs?

The bottom line

These PTETs can offer real federal income tax benefits when analyzed and applied appropriately. For information about which states have PTETs, please see our interactive PTE map. Also, it is worth noting that at the time this article was written, five additional states are considering PTET legislation: Hawaii, Iowa, Kentucky (passed legislature and awaiting the governor’s signature), Vermont and West Virginia (passed legislature and awaiting the governor’s signature).

Aprio’s SALT team has experience analyzing multi-state PTET issues, and we can assist your business to determine the benefits and costs of making a PTET election. We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

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¹ The state has provided additional guidance on its website (including answers to FAQs). This guidance includes calculations for multi-tiered PTE structures.