SALT Strategies

Illinois Enacts Elective Pass-through Entity Tax and Enters the PTET Highway

IL PTET header 1 - Illinois Enacts Elective Pass-through Entity Tax and Enters the PTET Highway

On August 27, 2021, Illinois governor J.B. Pritzker signed P.A. 102-658 (S.B. 2531), Laws 2021 {“Bill”}, that establishes an elective Pass-through Entity Tax (PTET) for partnerships and S corporations. The Bill permits PTEs to pay an elective tax on income earned or received in the state.

The Illinois PTET – Quick Take – The E’s and T’s of the Illinois PTET

The Quick Take – Most notably, the Bill modified Section 201 to include Subsection (p) that provides the Illinois PTET:

  • Eligible Entities – Partnerships and S corporations, but not Publicly Traded Partnerships.
  • Elective – An annual election is required and it is irrevocable once made. At this time, there is no identified procedure to make the election in the Bill.
  • Effective – The PTET is effective for tax years ending on or after December 31, 2021. The PTET will end at the earlier date of the repeal of the TCJA SALT limitation or January 1, 2026.
  • Estimated Payments – Required if the Illinois PTET exceeds $500. At this time, how to pay estimated tax payments is to be determined.
  • Tax Rate – 4.95%.
  • Tax Calculation – Based on Illinois Apportioned Income, there is no distinction between S corps & Partnerships nor Resident or Non-Resident (unlike the NY PTET).
  • Tax Credit – Partners and shareholders can claim a refundable credit equal to 4.95% of their distributive share of the entity’s net income.
  • Tiered PTEs – Tiered partnerships can deduct distributive income from the electing partnership.

The Bill – Subsection (p) In Greater Detail

The Bill amended Section 5 in the Illinois Income Tax Act {“The Act”}. The following Illinois Statutes were amended:

As noted earlier, The Bill adds Subsection (p) to Section 201. The following excerpts from Subsection (p) as added by P.A. 102-658 (S.B. 2531), Laws 2021, are provided below to supplement the aforementioned Quick Take.

Eligible Entities

Per Subsection (p)1, “a partnership (other than a publicly traded partnership under Section 7704 of the Internal Revenue Code) or Subchapter S corporation may elect to apply the provisions of this subsection.” See Amended Section 201(p)(1) as Amended by P.A. 102-658.

Elective

“A separate election shall be made for each taxable year. Such election shall be made at such time, and in such form and manner as prescribed by the Department, and, once made, is irrevocable.” See Amended Section 201(p)(1) as Amended by P.A. 102-658.

Effective

“For taxable years ending on or after December 31, 2021 and beginning prior to January 1, 2026, a partnership (other than a publicly traded partnership under Section 7704 of the Internal Revenue Code) or Subchapter S corporation may elect to apply the provisions of this subsection.” See Amended Section 201(p)(1) as Amended by P.A. 102-658.

“The provisions of this subsection shall apply only with respect to taxable years for which the limitation on individual deductions applies under Section 164(b)(6) of the Internal Revenue Code.” See Amended Section 201(p)(10) as Amended by P.A. 102-658.

Estimated Payments

“For each taxable year for which an election under paragraph (1) is in effect, a partnership or Subchapter S corporation is required to pay estimated tax for such taxable year under Sections 803 and 804 of The Act if the amount payable as estimated tax can reasonably be expected to exceed $500.” See Amended Section 201(p)(9) as Amended by P.A. 102-658.

Tax Rate

Section 201(p)(2) of the Bill sets forth that “a partnership or Subchapter S corporation electing to apply the provisions of this subsection shall be subject to a tax for the privilege of earning or receiving income in this State in an amount equal to 4.95% of the taxpayer’s net income for the taxable year.”

Tax Credit

Section(p)(2)(b) of the Bill sets forth in part that “each partner or shareholder of a taxpayer making the election under this Section shall be allowed a credit against the tax imposed under subsections (a) and (b) of Section 201 of The Act for the taxable year of the partnership or Subchapter S corporation for which an election is in effect ending within or with the taxable year of the partner or shareholder in an amount equal to 4.95% times the partner or shareholder’s distributive share of the net income of the electing partnership or Subchapter S corporation.”
Section 201(p)(4) further states that the credit is “not to exceed the partner’s or shareholder’s share of the tax imposed under paragraph (1) which is actually paid by the partnership or Subchapter S corporation.”

The Illinois PTET credit provision also states that “if the taxpayer is a partnership or Subchapter S corporation that is itself a partner of a partnership making the election under paragraph (1), the credit under this paragraph shall be allowed to the taxpayer’s partners or shareholders (or if the partner is a partnership or Subchapter S corporation then its partners or shareholders) in accordance with the determination of income and distributive share of income under Sections 702 and 704 and Subchapter S of the Internal Revenue Code.”

Finally, Section 201(p)(4) states that: “if the amount of the credit allowed under this paragraph exceeds the partner’s or shareholder’s liability for tax imposed under subsections (a) and (b) of Section 201 of The Act for the taxable year, such excess shall be treated as an overpayment for purposes of Section 909 of The Act.”

Tax Calculation

For purposes of paragraph (2), the term ‘net income’ has the same meaning as defined in Section 202 of The Act, except that the following provisions shall not apply:

i. the standard exemption allowed under Section 204;
ii. the deduction for net losses allowed under Section 207;
iii. in the case of an S corporation, the modification under Section 203(b)(2)(S); and
iv. in the case of a partnership, the modifications under Section 203(d)(2)(H) and Section 203(d)(2)(I).

We await additional guidance and requisite PTET forms and instructions.

Tiered PTEs

In Section 201(p)(3)(B) as Amended by P.A. 102-658, the Bill details specific tax calculations with respect to tiered partnerships as follows:

“If a taxpayer making the election under paragraph (1) is a partner of another taxpayer making the election under paragraph (1), net income shall be computed as provided in subparagraph (A), except that the taxpayer shall subtract its distributive share of the net income of the electing partnership (including its distributive share of the net income of the electing partnership derived as a distributive share from electing partnerships in which it is a partner).”

As with the tax calculation, we await additional guidance and instructions.

Other Notable PTET Provisions

Nonresidents

“A nonresident individual who is a partner or shareholder of a partnership or Subchapter S corporation for a taxable year for which an election is in effect under paragraph (1) shall not be required to file an income tax return under The Act for such taxable year if the only source of net income of the individual (or the individual and the individual’s spouse in the case of a joint return) is from an entity making the election under paragraph (1) and the credit allowed to the partner or shareholder under paragraph (4) equals or exceeds the individual’s liability for the tax imposed under subsections (a) and (b) of Section 201 of The Act for the taxable year.”

Suspension of Withholding

“The provisions of Section 709.5 of The Act shall not apply to a partnership or Subchapter S corporation for the taxable year for which an election under paragraph (1) is in effect.”

The TAKE AWAY – Illinois Enters the PTET Highway With a Solid Potential Alternative

So what is the Take Away? An initial analysis of the Illinois elective PTET reveals that the Illinois PTET’s provisions establish an effective beneficial alternative for PTE owners with Illinois PTE sourced income seeking a workaround to the TCJA SALT Itemized Deduction limitation.

Secondly, as the Illinois PTET provisions appear simpler than those of the New York PTET, affected PTE owners and their tax advisors considering the Illinois PTET may face less complex analytical or implementation concerns.

As with all PTET legislation, the challenge will be in the details of the Illinois PTET execution – but for now we are cautiously optimistic that the Illinois PTET will be a keeper. A nice way to start our 2021 Labor Day Holiday!!!


Read: New York Pass-through Entity Tax Guidance – A Complex Roadmap for Those Considering Venturing Into New York’s PTET Highway