Pass-Through Entity Tax Law

On February 22, 2023, Governor Eric Holcomb signed SB2 into law, authorizing certain pass-through entities to voluntarily elect to pay tax at the entity level based on each owner’s total share of adjusted gross income. It is retroactively effective for taxable years beginning on or after January 1, 2022.

The bill also provides a refundable tax credit equal to the amount of tax paid by the electing entity with regard to the owner’s share. Another credit is available for pass-through entity taxes that are imposed by and paid to another state. This change seeks to provide tax relief to Indiana small businesses by allowing them to receive an unlimited federal deduction for their state tax payments.

The Indiana PTET (Pass-Through Entity Tax) law is written to provide a federal tax benefit for individual taxpayers while being revenue-neutral for the state of Indiana. The creation of a PTET effectively bypasses the $10,000 cap on an individual’s state tax deduction put into place in 2018 by the Tax Cuts and Jobs Act. The IRS is aware of and has authorized the deduction of such taxes at the federal level through the guidance issued in IRS Notice 2020-75.

HOW DOES THIS AFFECT YOUR RETURNS

Indiana’s new PTET law is significant for Indiana taxpayers. The law allows for Indiana resident pass-through entity owners to elect that all of their income be subject to Indiana tax at the entity level. The Indiana resident individual is entitled to a credit for the PTET paid on their behalf that can be claimed on their individual Indiana return. The $10,000 state tax expense limitation on the federal return does not apply to state taxes expensed by the pass-through entity.

This new law and its widespread implications are still developing. I am watching for updates from the Indiana Department of Revenue, and I am speaking with my software provider to address immediate concerns regarding filing deadlines and timing of elections.