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Prop regs targeting SALT limitation workarounds don’t affect deductibility of business payments

September 6, 2018

In a news release, IRS has clarified that business taxpayers who make business-related payments to charities or government entities for which the taxpayers receive state or local tax (SALT) credits can continue to deduct the payments as business expenses. The deductibility of these payments isn’t affected by the recent proposed regs targeting state-implemented “workarounds” in response to the new Code Sec. 164(b)(6)limitation on individual annual SALT deductions.

Background—business expense deduction. Generally, a taxpayer may deduct ordinary and necessary business expenses paid or incurred during the tax year in carrying on a trade or business. (Code Sec. 162(a)) An expense is ordinary if it is customary or usual within a particular trade, business or industry or relates to a common or frequent transaction in the type of business involved. A necessary expense is appropriate and helpful to the operation of the taxpayer’s trade or business.

Background—SALT deduction. For tax years beginning after 2017 and before 2026, the Tax Cuts and Jobs Act (TCJA; P.L. 115-97, 12/22/2017) amended Code Sec. 164(b)(6) to limit individual annual SALT deductions to a maximum of $10,000, with no carryover for taxes paid in excess of that amount. As a result of this change, many taxpayers will not get a full federal income tax deduction for their payments of state and local taxes. The SALT deduction limit doesn’t apply to taxes paid in connection with a trade or business or in connection with the production of income. (Code Sec. 164(b)(6))

Following the TCJA’s passage, certain state legislatures—specifically, those of high-tax states—implemented workarounds to mitigate the effect of the new Code Sec. 164(b)(6) SALT deduction limit for their residents. One method used was the establishment of charitable funds to which taxpayers can contribute and receive a tax credit in exchange.

In response, IRS issued proposed regs that would effectively eliminate the benefit of these workarounds. See “Proposed regs would eliminate benefit of SALT limitation workaround” (08/27/2018).

Business taxpayers unaffected by regs.  In the news release, in response to taxpayer inquiries, IRS clarified that taxpayers who make business-related payments to charities or government entities for which they receive SALT credits can continue to claim business expense deductions for these payments. These business deductions are unaffected by the new proposed regs.

IRS stated that the business expense deduction is available to any business taxpayer— regardless of whether it is doing business as a sole proprietor, partnership or corporation—as long as the payment qualifies as an ordinary and necessary business expense.

References: For the deduction for state and local taxes, see FTC 2d/FIN ¶ K-4500United States Tax Reporter ¶ 1644.03.  For ordinary and necessary business expenses, see FTC 2d/FIN ¶L-1200United States Tax Reporter ¶1624.

IR 2018-178, 9/5/2018

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