Passthrough Entity Tax: New Laws, New Year, New Considerations

The 2024 federal budget, enacted through the Inflation Reduction Act and codified by OBBBA, lifted the state‑and‑local tax (SALT) deduction ceiling from $10,000 to $40,000. The increase is phased for taxpayers with adjusted gross income (AGI) above $500,000, and caps at $10,000 for those exceeding $600,000. This shift reshapes the calculus for the pass‑through entity (PTE) tax election, which was originally designed as a workaround to the $10,000 SALT cap. Even with a higher SALT limit, many owners still benefit from the election because the PTE tax is deducted at the entity level, directly reducing owners’ AGI and unlocking numerous phase‑out thresholds.

California’s SB 132, effective for the 2026 tax year, relaxes the strict pre‑payment rule that once barred an election if the June 15 deadline was missed or under‑paid. Taxpayers can now file the election after the deadline, but the state credit is reduced by 12.5 % of the shortfall. The reduction applies whether the payment arrives on June 16 or the entity’s March 15 filing date. Practitioners must model both scenarios—immediate late payment versus waiting until the return deadline—to determine the net credit impact, especially for marginal under‑payments.

For most clients, the PTE election remains advantageous. The entity‑level deduction lowers adjusted gross income, preserving eligibility for other AGI‑sensitive benefits such as qualified business income (QBI) deductions and phase‑outs of personal exemptions. Tax advisors should run a quick AGI‑impact analysis and compare the 12.5 % credit penalty against the potential loss of SALT deductions under the new $40,000 ceiling. Spidell’s May 2026 California Tax Letter provides a detailed modeling worksheet and real‑world examples. Professionals can register for the upcoming webinar at Spidell.com to deepen their planning strategy.