Georgia Pass Through Entity Level Income Tax
For tax years starting January 1, 2022 and later, Georgia has enacted a new regime designed to help owners of pass through entities (Partnerships & S Corps) increase the amount of state income tax that may be deducted when calculating federal income tax of owners of pass through entities. One of the more unfavorable changes to the tax code under Tax Cuts & Jobs Act (TCJA) was the cap placed on state & local tax deductions. The cap was placed at $10,000 with no regard to filing status nor inflation. This has caused quite a problem for high earning taxpayers and taxpayers in high state income tax jurisdictions.
The PTE income tax election is an irrevocable election made annually to pay Georgia state income tax at the ENTITY level instead of the tax being paid at the owner level, as it has in the past. The state income tax paid at the entity level reduces the owner's income that's reported on his/her federal income tax return PRIOR to being subject to the state and local tax cap. This can drastically impact an owner's federal tax bill by effectively removing the state tax deduction cap. Of course, if the owner's personal home real estate tax is greater than $10,000, that will be limited, but one can see how this change can really benefit small business owners.
There are some scenarios where it may be more beneficial for a small business owner to continue paying tax at the owner level instead of the entity level, but the facts and circumstances are beyond the scope of this article. Please see the examples below for a better understanding of how this change can be beneficial to small business owners.
Example 1: Assume John Doe owns Acme S Corp. In 2022, Acme S Corp has pre tax net income of $100,000. The state income tax on his business income is $5,750. John also has $10,000 in real estate tax. If John pays tax at the owner level (old way), John will get to deduct $10,000 of real estate tax, while the $5,750 of state income tax will not be deductible. John's pass through income will be $100,000. John's federal taxable income will be $100,000-$10,000=$90,000. On his Georgia tax return, he will pay the $5,750 of income tax.
Example 2: Assume John Doe owns Acme S Corp. In 2022, Acme S Corp has pre tax net income of $100,000. The state income tax on his business income is $5,750. John also has $10,000 in real estate tax. If John pays tax at the entity level (new way), John will get to deduct $10,000 of real estate tax. John's pass through income will be $100,000-$5,750=$94,250. John's federal taxable income will be $94,250-$10,000=$84,250. On his Georgia tax return, he will owe $0 because he already paid the tax at the entity level.