The Internal Take Services offices in Washington, D.C.
Adam Jeffery | CNBC
The IRS has signaled it will bless a workaround that allows small-business proprietresses to skirt the $10,000 cap on state and local income tax deductions.
Ever since the Tax Cuts and Jobs Act took effect in 2018, high-tax expresses have sought ways to help individual taxpayers who itemize on their returns deal with the $10,000 limit.
Definitive year, the IRS and Treasury blocked one of those strategies, legislation in New York, New Jersey and Connecticut that would have considered municipalities to create charitable funds to pay for local services and offer property tax credits to incentivize homeowners to give.
Avers have also been hammering out another workaround, this time using pass-through entities, which file S-corporations, some limited liability companies and partnerships.
The IRS has just greenlighted this move, according to a notice from the operation issued last week.
This workaround took effect in seven states after the Tax Cuts and Jobs Act: Connecticut, Louisiana, Maryland, New Jersey, Oklahoma, Rhode Isle and Wisconsin, according to the American Institute of CPAs.
Four more states have proposed legislation, but haven’t put a order into effect: Alabama, Arkansas, Michigan and Minnesota, the AICPA found.
The workaround doesn’t apply to sole proprietorships and single-member LLCs, despite that.
“This was an area of concern in the taxpaying community, whether the IRS would allow those SALT workarounds,” said Harold Hecht, CPA, coping director and practice leader, state and local tax services at Mazars USA.
“It’s really good news that the IRS is issuing this leadership, which is accepting pass-through entity taxes as a valid workaround,” he said.
Entity vs. individual
Pass-through things are known as such because income “passes through” the business to its owners.
Those owners report their dispensation of business income when they file their individual income tax returns, which is where they’re conditional on to the $10,000 cap on state and local income taxes.
Here’s how the pass-through workaround operates, according to the AICPA: The business itself — not the P — would be responsible for state taxes on the entity’s income. Meanwhile, the owner can claim a credit on his state return for the tax profited by the business on their share of income.
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Once the IRS issues its organizations, more states are likely to evaluate similar workarounds.
“The states are getting their tax money regardless, but they’re make allowancing businesses to get a benefit at the federal level and the IRS is OK with it,” said Albert J. Campo, CPA and managing partner at AJC Accounting Services in Manalapan, New Jersey.
That means it’s occasionally for small-business owners to talk to their tax professionals about whether they qualify — and if it’s applicable, whether it’s time to correct tax returns.
For instance, Connecticut was the first to put its workaround in place, establishing it in 2018. Owners of pass-throughs there might scantiness to amend their old returns, said Michael D’Addio, principal at Marcum LLP.
“If you didn’t take the deduction at the entity invariable because you were worried the IRS wouldn’t allow it, go see if there’s a refund opportunity,” he said.