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IRS Provides Safe Harbor for SALT Deduction Workarounds

April 01, 2019

The IRS is offering C corporations and specified pass through entities some breaks related to the state and local tax deduction (SALT) that was limited under the Tax Cuts and Jobs Act (TCJA).

One area of December 2017’s Tax Cuts and Jobs Act (TCJA) that has been under intense scrutiny is the $10,000 limitation on state and local tax (SALT) deductions. Fortunately, the IRS has announced it will offer business taxpayers some safe harbors related to the limited SALT deduction, when receiving tax credits for charitable contributions.

Background

The TCJA caps the individual itemized deduction for state and local taxes at $10,000. As a “workaround” to this, however, states with charitable funds that finance state services, have begun offering taxpayers state tax credits in exchange for charitable contributions to the funds. While some of these programs were effective prior to the TCJA, others were implemented afterward to allow individuals to convert a state tax payment into a charitable payment that would not be subject to the cap.

The IRS responded to this by releasing proposed regulations in August requiring taxpayers to reduce charitable deductions by the amount of SALT credits received in return.

What is the safe harbor?

The IRS sets safe harbors for C corporations and specified pass through entities in Rev. Proc. 2019-12 that lets them deduct payments made to a charity in exchange for a state or local tax (SALT) credit as an ordinary business expense to the extent of the credit received.

Note that an entity must be considered a C corp or specified pass-through entity to qualify for the safe harbor.

What counts as a specified pass through entity?

An entity must meet four requirements to be considered a specified pass through entity and therefore qualify for the safe harbor:

  1. The pass through must be organized as a business (other than a C corporation) that is regarded as separate from its owner for all federal income tax purposes
  2. The entity must operate a trade or business within the meaning of Section 162
  3. The entity must be subject to a SALT incurred from carrying on its trade or business
  4. The entity must receive (or expect to receive) a SALT credit that it applies (or expects to apply) to offset a SALT (other than a state or local income tax).

Effective dates

The guidance applies retroactively to amounts paid on or after Jan. 1, 2018. Taxpayers can rely on the safe harbor for payments made last year and in their planning for payments in 2019.

Questions? Contact us.

For more tax reform updates, be sure to visit our Tax Reform Center- your “one stop shop” for all things Tax Cuts and Jobs Act (TCJA) related.

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