CA Legislature Proposes the Passthrough Entity Tax Fix

By Ryan Root, CPA

February 7, 2022

The California State Legislature has proposed a bill that would fix the passthrough entity elective tax and provide additional economic relief, if it passes.

The long-awaited fix to AB 150’s passthrough entity elective tax has been introduced in the California Legislature. If enacted in its current version, AB 87/SB 113 would make several taxpayer-friendly changes to the passthrough entity elective tax, retroactive to the beginning of the 2021 tax year, including:

  • Removing the tentative minimum tax limitation for purposes of computing the amount of Passthrough Entity Elective Tax Credit that may be claimed;
  • Allowing qualified entities to make the election even if one of the owners is a partnership (although the tax could still not be paid on behalf of the owners that are partnerships);
  • Allowing qualified entities to pay the tax on behalf of owners that are single-member LLCs owned by individuals, estates, or trusts, although single-member LLCs would still be ineligible to make the election themselves; and
  • Including guaranteed payments made to partners in the entity’s qualified net income for purposes of computing the tax.

How will this affect or benefit my tax situation?

  • If you have ownership in an S Corporation, Partnership, or LLC, the passage of this bill could benefit you.
  • AB-150, passed by state lawmakers on July 16, 2021, allowed certain passthrough entities (S-Corporations and Partnerships) to pay an elective 9.3% tax on an entity owner’s distributive share of income, which created a federal deduction for the state taxes paid and a credit on the entity owner’s individual tax return.  The ability for owners to benefit from the tax credit utilization was potentially limited due to the California tentative minimum tax restrictions and a restriction depending on the entity type.

Other items of interest in the proposed legislation

AB 87/SB 113 also provides additional relief unrelated to the passthrough entity elective tax, including, but not limited to:

  • Repealing the $5 million business credit limitation and NOL suspension rules for the 2022 taxable year;
  • Excluding Restaurant Revitalization Grants from gross income and allowing expenses paid with these grants to be fully deducted, retroactive to taxable years beginning on or after January 1, 2020; and
  • Excluding Shuttered Venue Operator Grants from gross income, retroactive to taxable years beginning on or after January 1, 2019, and allowing expenses paid with these grants to be deducted–unless the taxpayer is a publicly-traded company or does not meet the 25% gross receipts reduction threshold (the same used for second-draw PPP loan eligibility).
  • Added a requirement for California employers with more than 25 employees to provide up to 80 hours of COVID-19 supplemental paid sick leave to employees retroactive to January 1, 2022, until September 30, 2022. This is in addition to the mandated 24 hours of regular paid sick leave already required under California law.

You may also, view the full Assembly and Senate Bills if you would like to partake in some “light reading.”

The bill has only been proposed and has not yet been voted on. However, these proposals were all included in the Governor’s proposed budget, and he requested that these provisions be acted on before March 15, 2022. Count on us to keep you posted on any further developments.