Noonan’s Notes Blog is written by a team of Hodgson Russ tax attorneys led by the blog’s namesake, Tim Noonan. Noonan’s Notes Blog regularly provides analysis of and commentary on developments in the world of New York tax law.

BREAKING!!! 2023 Budget Bill Expands New York’s Pass-Through Entity Tax for Some (But Not All) Resident S Corporation Shareholders

Here’s the deal:

Last year, the tax base for S corporations included only New York source income, which for many New York-based businesses is low, due to New York’s market-sourcing apportionment rules. The same limitation did not apply to partnerships subject to the PTET. Those entities enjoyed the PTET benefit on ALL income flowing through to New York residents, even non-New York sourced income. 

It may sound counterintuitive that taxpayers would want to maximize their PTET liability, but that is the way PTET taxes work – the higher the PTET liability, the greater the federal tax benefit to the pass-through entity owner.

From what we understand, the reason for New York’s original limitation on the PTET benefit for resident S corporation shareholders arose out of the Tax Department’s concern that, for federal tax purposes, S corporations could not specially allocate the deduction for PTET paid between resident and nonresident shareholders without putting the entity’s S corporation status in jeopardy. To eliminate this perceived problem, the original New York PTET regime put all S corporation shareholders on the same footing by limiting the PTET to New York sourced-income only. Unfortunately, this also limited the PTET benefit for S corporations with only New York resident shareholders. It was a bit like using a hammer when a scalpel would’ve been required. 

To its credit (and with full support of the New York tax department, which also deserves credit), the legislators pulled out their scalpel and fixed this issue. Under the new legislation, New York has created two classes of S corporations for purposes of the PTET computation: the “electing resident S corporation” and the “electing standard S corporation.”

The PTET computation is unchanged for electing standard S corporations, which are S corporations that make the PTET election but do not certify that all of their shareholders are residents of New York. For those entities, the PTET is still limited to New York source income, even if they have New York resident shareholders.

On the other hand, if an S corporation that elects to pay the PTET certifies that all of its shareholders are residents of New York, then the PTET tax base is expanded to include all items of income, gain, loss or deduction to the extent they are included in the taxable income of the shareholder subject to New York’s personal income tax.

To be considered an electing resident S corporation, an S corporation must certify at the time of its PTET election that all shareholders are residents of New York, otherwise it is automatically treated as an electing standard S corporation. If an electing S corporation make a certification as to shareholder residency, the certification is irrevocable as of the due date of the PTET election.

But there’s also transition provision for this year, since the new law is effective for 2022. So for this year only, the certification to be taxed as an electing resident S corporation for this year must be made by March 15, 2023. We expect the Tax Department will be releasing guidance on the manner for making the certification as the deadline draws closer.

The Budget Bill also provides some relief for the PTET estimated payments that are due this year. For 2022, an electing resident S corporation is required to make estimated tax payments on March 15 and June 15 representing 25% of the required annual payment as if the electing resident S corporation was an electing standard S corporation. However, all electing resident S corporations are required to pay 75% of the required annual payment by September 15, 2022.

More good news: the new legislation also creates a new PTET for New York City taxpayers! But we’ve reached our word limit for blogs…..more to come!

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