Business Owners: How to Save More Money On Taxes Using Pass-Through Entities
Paying pass-through entity taxes (PTET) can have a significant impact on your federal tax savings. As a business owner, understanding how PTET affects your taxes is crucial for maximizing your tax savings. In this guide, we will explore the benefit of deducting your pass-through entity tax that is paid to your state and how to qualify for the federal tax deduction.
Pass-through entities, such as partnerships and S corporations, are not taxed at the entity level for federal purposes. Instead, the income or losses "pass-through" to the individual owners, who report them on their personal federal tax returns. This means that any state taxes imposed on the pass-through entity's income are also passed through as an expense to the business’ federal taxable income.
To ensure you meet the requirements for deducting PTET, you must carefully review the tax laws in your state. Some states have specific guidelines and limitations that may affect your eligibility for deducting PTET. Here are some general requirements to consider:
1. Entity-level tax: The tax must be imposed at the entity level, meaning it is levied on the pass-through entity itself. If the tax is imposed directly on the owners, it may not qualify for federal tax deductions.
2. Imposed on income: The tax must be imposed on the pass-through entity's income, rather than on other factors such as assets or payroll. It is essential to understand how your state calculates PTET to determine if it meets the income requirement.
3. Paid before year end: The state tax will also have to be paid before year end in order to claim the federal deduction. Some argue that the tax could be accrued as an expense as regulations are unclear.
4. Seek professional guidance: It will be best to consult with a tax professional to be able to determine if you are eligible and to figure how this might benefit you and your business in the short-term and long-term.
Once you have determined that you meet the requirements for deducting PTET, you need to calculate the estimated state taxes owed. You will most likely need to consult with a tax professional to be able to determine the estimated state tax to be able to deduct. A simple formula that can be used as an example of the federal deduction and tax savings is shown below:
Federal taxable income - $1,000,000 (estimated)
State taxable income - $1,000,000 (estimated)
Multiply by state tax rate 7%
State tax paid $ 70,000 (estimated)
Federal taxable income after pass-through entity tax deduction $930,000.
If you are in the 37% tax bracket you would have a federal tax savings of $25,900 ($70,000 x 37%).
Understanding how PTET affects your federal tax deductions is essential for maximizing your tax savings. By meeting the requirements for deducting PTET and carefully calculating the deductible amount, you can minimize your tax liability and keep more of your hard-earned money. Remember to review the tax laws in your state and consult with a tax professional to ensure you are taking full advantage of the PTET deduction. With proper planning and optimization, you can navigate the complexities of PTET deductions and achieve significant tax savings.
Maximize your tax savings today by optimizing your PTET deductions. Consult with VEDU PLC to ensure you meet all the requirements and accurately calculate the deductible amount. Start saving more money on your federal taxes now!
Guest Post Written By:
Connor Quinn, CPA. (August 15th, 2023). Business Owners: How to Save More Money On Taxes Using Pass-Through Entities. https://www.fishingfortaxstrategies.com