This spring, Montana joined Idaho and Utah with the passage of Senate Bill 554, allowing for pass-through entities to expense state and local taxes in what is commonly known as the “SALT Workaround.” The SALT Workaround was developed in response to the 2017 Tax Cuts and Jobs Act, which limited the deduction for state and local taxes to $10,000 for individuals. With Notice 2020-75, the IRS accepted the workaround and clarified its applicability.
The SALT Workaround can generate significant tax savings for individuals. To ensure that the benefits can be fully monetized, it may be prudent to restructure certain holding structures. For instance, if an individual, taxed at the highest marginal tax rate, owned rental real estate that had $20,000 in property taxes that was otherwise capped, the individual would receive $8,400 in tax savings each year if they are able to utilize the SALT Workaround. To utilize the SALT Workaround, the asset or business that is producing the state or local income tax liability must be taxed as a partnership or S corporation.
In particular, individuals should consider the following two strategies to facilitate the election:
1. For businesses and properties that are owned through single member LLCs, the taxpayer should consider admitting nominal members to such entities so that such entities will be classified as a partnership, which will allow the members to avail themselves of the SALT Workaround. An S corporation election may also be appropriate.
2. Notice 2020-75 suggests that the SALT Workaround is available for individual personal residences or vacation property, even if the asset is not involved in a trade or business. If permitted by the applicable state’s enabling legislation, individuals should consider moving their personal residences to a pass-through entity to avail themselves of the SALT Workaround.
Here is the status of the SALT Workaround in the core states of PB&L’s region:
· Idaho: The workaround is available for the 2023 tax year through an election that must be filed with a timely-filed tax return. The election must be signed by each member of the entity who is a member at the time the election is filed, or any officer, manager or member of the entity who is authorized to make the election. Further, the election is available regardless of the underlying business activity.
· Montana: The workaround is available for the 2023 tax year through an election that must be filed before the tax return is due. The election is available regardless of the underlying business activity.
· Nevada: No enabling legislation passed to date.
· Utah: The workaround is available for each taxable year that begins on or after Jan. 1, 2022. The election is an annual election that is made by the pass-through entity. In contrast to Idaho and Montana, a pass-through entity means a business entity that is classified as a partnership for federal income tax purposes, an S corporation, or an estate or trust or a similar business entity. Payment of the pass-through entity tax on or before the last day of the pass-through entity’s taxable year is considered an irrevocable election to be subject to the tax for the taxable year. The election must be made on or before the last day of the pass-through entity’s taxable year. The workaround applies only to Utah income tax paid by the pass-through entity on behalf of the pass-through entity owner.