Practitioner’s Tax Action Bulletin® Advisory
Background
The Tax Cuts and Jobs Act (TCJA) brought sweeping changes to the tax landscape, but few provisions caused as much distress among individual taxpayers as the $10,000 cap on the itemized deduction for state and local taxes (SALT). For years, taxpayers who itemized could deduct the full amount of their SALT payments. The TCJA’s cap, effective 2017–2025, slashed that deduction for many, especially high earners in high-tax states.
Most states tax partnership and S corporation income the same way it’s taxed for Federal income tax. The entity doesn’t pay income tax. Instead, the partners and shareholders report their share of the entity’s income on their returns and pay income tax on it. For individual owners, that state income tax is subject to the SALT cap.
Many states responded to the federal SALT cap with a creative workaround, the Pass-through Entity Tax (PTET). This allows partnerships and S corporations to pay state income tax at the entity level, often at the highest individual rate, with the goal of restoring some federal tax benefit for state taxes paid. In most states, paying the PTET is elective, but in a few, it’s mandatory.
The 2025 Act (formerly the One Big Beautiful Bill, or OBBB) retroactively increased the SALT cap to $40,000 for 2025. It will rise by 1% annually through 2029 before reverting to $10,000 in 2030. For taxpayers with Modified Adjusted Gross Income (MAGI) over $500,000, the cap is reduced (but not below $10,000), with the threshold increasing annually.
Given these changes, some clients may wonder: Is the PTET election still worth it? The answer is a resounding yes—and not just for those bumping up against the SALT cap. Let’s explore why continuing or making the PTET election can deliver meaningful federal tax savings.
Federal Deduction Advantage
The IRS has said, in Notice 2020-75, that specified income tax payments made by partnerships and S corporations—such as a PTET—are deductible when computing the entity’s non-separately stated income or loss. This means the entity deducts the PTET, reducing the taxable income passed through to owners. Most importantly, this deduction is not subject to the SALT cap.
Contrast this with the alternative: If the entity doesn’t pay the PTET, owners pay state income tax on their share of pass-through income, and that deduction is subject to the SALT cap on Schedule A if the owner is an individual. The PTET election thus offers a way to sidestep the federal limit.
Self- Employment Tax Savings
Even if your clients expect to fully deduct their SALT under the increased cap, there’s another compelling reason to consider the PTET election: reducing self-employment (SE) tax.
When a partnership or S corporation pays the PTET, the deduction reduces the amount of income passed through to owners for both federal income tax and SE tax purposes. State income taxes paid directly by owners, on the other hand, do not reduce SE income—even if attributable to pass-through business income.
Leveraging the Standard & Charitable Deductions
If deducting state and local taxes at the entity (rather than the owner) level causes an individual owner’s remaining itemized deductions to fall below the standard deduction, making the PTET election increases the taxpayer’s total deductions by taking advantage of the standard deduction.
Example 1 – John and Sandi, under age 65, file jointly. For 2025, they project $21,000 in state income tax, $15,000 of which is attributable to income from J&S Partnership (in which each owns 50%). They also expect $3,500 in property taxes, $5,000 in mortgage interest, and $3,000 in charitable contributions. Their projected MAGI is $400,000, including $300,000 from J&S.
With MAGI below $500,000, their SALT deduction cap is $40,000, so they could deduct all their SALT paid ($24,500). At first glance, they might dismiss the PTET election as unnecessary. But here’s what happens if J&S makes the PTET election and pays $15,000 of the SALT:
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- John and Sandi’s itemized deductions drop from $32,500 to $17,500 ($6,000 other SALT + $3,500 property tax + $5,000 mortgage interest + $3,000 charity). However, their income passed through by J&S also drops by $15,000.
- They now claim the $31,500 standard deduction instead of itemizing, increasing their total deductions by $14,000 ($31,500 standard deduction less $17,500 itemized deductions).
- The PTET deduction also reduces their SE income by $15,000.
Bottom line: Making the PTET election here reduced taxable income by $14,000 and SE income by $15,000, even when the SALT cap wasn’t a limiting factor.
Starting in 2026, individuals who don’t itemize can claim a $1,000 ($2,000 if married filing jointly) above-the-line deduction for most cash charitable contributions. If the PTET election causes a client’s remaining itemized deductions to fall below the standard deduction, they can take advantage of both the standard deduction and the new above-the-line charitable deduction.
Example 2 – Assume the same facts as above, but for 2026. If the PTET election is made, John and Sandi can claim the standard deduction and also a $2,000 above-the-line deduction for their charitable contributions, further reducing their taxable income.
Practical Considerations
State PTET programs generally work in one of two ways. Some states give the entity owners a state income tax credit equal to the PTET the entity paid on their behalf. Other states reduce the owner’s taxable state income by their share of the entity’s income on which the PTET was paid.
While the PTET election can be a powerful tool, each state has its own rules and practitioners must consider several factors:
- Election mechanics: Is the PTET elective or mandatory? Can owners opt in or out individually, or is it all-or-nothing?
- Owner eligibility: Some states exclude trusts or estates from participating.
- Residency: If all owners reside in the state where the entity does business, the PTET election is simpler. Nonresident owners may not benefit and could even be disadvantaged.
- Allocation issues: For partnerships, how is the federal PTET deduction allocated if not all owners participate? Will cash distributions be needed to keep capital accounts aligned? For S corporations, the deduction is allocated to all shareholders, which may be viewed as inequitable if some receive a benefit and others do not. There’s also a risk of violating the one-class-of-stock rule if some owners receive a state tax credit and others don’t.
For smaller, closely held entities, these issues are usually manageable. As the number and types of owners increases, complexity grows.
The Future of the SALT Cap
It’s important to note that the increased SALT cap is temporary. After annual increases through 2029, the cap reverts to $10,000 in 2030 and has been made permanent. Waiting for the cap to disappear is no longer an option. The PTET election remains a relevant and valuable planning tool for the foreseeable future.
Actionable Steps for Practitioners
- Review state PTET rules: Understand the mechanics and limitations in your clients’ states.
- Analyze the impact: Model the federal income and SE tax savings for clients.
- Communicate proactively: Use client letters and meetings to explain the benefits and potential complexities of the PTET election.
- Plan for future years: With the SALT cap scheduled to revert to $10,000, ensure clients are prepared to maximize deductions and minimize tax liability.
Conclusion
The PTET election isn’t just a workaround for the SALT cap—it’s a strategic opportunity for pass-through entity owners to reduce both federal income and self-employment taxes. Even with the temporary increase in the SALT cap, the PTET election can deliver significant tax savings, especially when it shifts deductions from Schedule A to the entity level and reduces SE income.
As tax practitioners, it’s our job to help clients navigate these choices and reduce their taxes. The PTET election deserves a place in every pass-through entity owner’s tax planning toolkit—now and in the years ahead.
Editor’s Note: The full article presented above is available in the Practitioner’s Tax Action Bulletin, as Tax Action Memo (TAM-2336), Issue 17, first published September 9, 2025, along with other valuable tax practitioner articles. Contact Our Sales Team for a Subscription to Checkpoint’s bi-monthly Practitioner’s Tax Action Bulletin, which is available in print, and online or to add Thomson Reuters Planner CS to your advisory toolkit.
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