SB 113 Lifts Limitations on Use of Tax Credits & Expands Elective Pass-through Entity Tax
On February 9, 2022, Governor Newsom signed SB 113 into law. This bill includes California tax law changes, including reinstatement of business tax credits and net operating loss deductions limited by Assembly Bill 85 (AB 85), as well the expansion of the pass-through entity (PTE) tax.
REINSTATEMENT OF NET OPERATING LOSS (NOL) DEDUCTIONS AND TAX CREDITS
The NOL suspension, enacted previously in response to COVID-19 under AB 85, applied to taxpayers with net income over $1 million for 2020-2022. The amount of credits that could be used was limited to $5 million for 2020-2022. This new bill restores the use of the net operating losses to offset California income.
EXPANSION OF ELECTIVE PTE TAX
SB 113 also modifies the state’s PTE elective tax. Previously, PTE’s may elect to annually pay their entity-level tax. Qualified taxpayers would then receive a credit for their share of the PTE tax which lowers their California personal income tax.
Beginning 1/1/2021, SB 113 makes the following changes regarding the elective PTE tax:
- Guaranteed payments are considered net income for the PTE tax
- Eligibility is expanded to entities that have partners, members, or shareholders
- The definition of “qualified taxpayer” now includes an LLC that is a disregarded entity
- The PTE tax credit can now reduce tax for an individual below the tentative minimum tax
- The credit is required to be applied against the net tax after credits for taxes paid to other states, beginning 1/1/2021
Taxpayers should review their available NOLs and plan to use them as effectively as possible.
The changes to the PTE elective tax may open up eligibility for entities and taxpayers that previously were not able to make the election.
Members, shareholders, and/or partners should evaluate their share of the PTE taxes paid and make sure they are applying the credit correctly on their individual returns. Contact REDW’s trusted State and Local Tax advisors for any questions or for assistance in evaluating taxes paid or applying the credit.