California S-Corps and Partnerships may have heard about this guy PEET. You write him a big check in June and then he gets you a tax deduction on your tax return for the year. Does it sound too good to be true?
What is PEET?
PEET (also known as PTE and PTET) is not a guy. It is an acronym for the Pass-Through Entity Elective Tax which is a tax that pass-through entities voluntarily pay.
What? You volunteer to pay more in tax?
Weird, right?
How it works is the S-Corp or Partnership pays a tax of 9.3% of their California net income to the state of California. That payment is then deducted on the Federal tax return for the S-Corp/Partnership. This reduces the Federal taxable income and thus the Federal tax due for the shareholder/partners.
In addition, the 9.3% tax is treated as a credit toward the shareholder/partners personal state estimated tax payments.
So the right hand pays the tax, the left hand gets a credit, and you get a tax deduction in the middle.
The IRS is okay with this?
Yes, indeed. In Notice 2020-75, the IRS said this is an a-okay way to get more deductions.
So, should I be doing this with my S Corp or Partnership?
That is an analysis that each partner or shareholder needs to do with their tax professional. You have to be sure you have enough tax liability else the credit will be limited for you. (You don’t lose the credit, it carries forward, but you don’t want to do that for too long or for too much as the PEET is due to expire at the end of 2025.)
When is the payment due?
For California calendar year entities, the reservation payment (greater of 50% of your prior year PTET or $1000) is due on June 15th and it cannot be late! If you fail to make the reservation payment on-time you can’t participate for that year*.
Then you would do tax planning again at year-end to see if you want to make the balance of the payment in the current calendar year (to get the federal deduction this year) or if you want to wait until the next year or decide not to participate and just get the reservation payment refunded to you.
Do other states have this?
At least 36 states (as of April 2024) have an elective tax like this.
Does Cromwell help with this?
Yes, Cromwell has Tax Packages available where we meet with our clients in May, review their financials, and decide whether to participate or not. We have some clients who saved $300 and some clients who who saved $45,000 on their federal taxes by participating in the PTET. So, it can be a great opportunity, especially for taxpayers in a high tax bracket.
*Note: the CA legislature is working on a fix for this. SB1501 would allow an entity to make the payment late if they pay a penalty of 5% of the tax. But as of the writing of this article, that has not passed.