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CT Makes Pass-Through Entity Tax Optional

July 11, 2023

Connecticut has recently made major changes to the pass-through entity tax (PTET). Who do these changes impact? When are these changes effective? We explore here.

Attention taxpayers…the Connecticut budget bill, H.B. 6941 makes sweeping changes to the state’s pass- through entity tax (PTET). Here’s what you need to know.

What is a pass-through entity?

A pass-through entity is a business structure that reduces the effects of double taxation, (which occurs when income tax is levied once on corporate income, then again when profits are distributed as dividends to shareholders). Income or loss from a pass-through entity flows through to the individual owners and is taxed only once on the owners’ individual tax returns. Therefore, these types of entities are not subject to income tax at the entity level.

What is the pass-through entity tax?

An entity-level tax assesses a state tax liability directly on the company before the income passes to the owners, similar to the corporate income tax. The owner of the electing pass-through entity may take a federal deduction for the state taxes paid on the owners’ behalf (where they may not be allowed the deduction given the $10,000 maximum allowed state and local tax deduction for itemizing individuals if they had paid it personally). The individual treats the pass-through entity tax paid (or applicable percentage allowable by state law) as a state tax payment made on their behalf.

For CT PTE purposes, qualifying pass-through entities include…

  • Corporations (treated as an S corporation under section 1362(a) for the applicable tax year)
  • General partnerships
  • Limited partnerships
  • Limited liability partnerships
  • Limited liability companies

What’s new?

In response to the federal constraint on the itemized deduction for state taxes paid, most states enacted PTETs, but CT is the only state that enforced a mandatory PTET.

Starting in 2024, the PTET will be optional in Connecticut.

In addition, the following changes have been made:

  • New method for calculating the tax base
    • Currently, the PTET rate of 6.99% is applicable to both the standard base and the alternative base. The standard base is determined by subtracting the CT source income from subsidiary PTEs that filed a CT PTET return from the PTE’s CT source income (including income passed through to corporate members). On the other hand, the alternative base is calculated as the combination of modified CT source income and the resident portion of unsourced income. It excludes income passed through to corporate members.
  • The new law requires all electing pass-through entities to use the alternative base and retains the current 6.99% tax rate.
  • Pass through entities can no longer file a combined return with one or more commonly-owned PTEs
  • Reinstatement of the requirement that PTEs must file a nonresident composite income tax return and pay the tax on behalf of any nonresident noncorporate member

What should my business do?

Now that the CT PTET election is optional, impacted PTEs will want to assess the value of making the election. The election is made no later than the due date for filing the return (including extensions). The optional tax payment must be remitted by the 15th day of the third month following the close of the entity’s tax year. Planning and modeling out the results is key to determining if the election is right for your business in 2024.

Let us know if you need assistance with the analysis. Contact us.

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