Virginia Releases Elective Pass-Through Entity Tax Guidance

By Rebecca A. Helmes

The Virginia Department of Taxation released guidelines explaining how to make the pass-through entity tax (PTET) election for Taxable Year 2021, file that year’s return, and claim a retroactive PTET credit. The Department previously released guidelines applicable to taxable years 2022 through 2025 (see State Tax Update, 01/24/2024). (Virginia Public Document Ruling No. 24-12, 02/19/2024.)

Making the election.

For taxable year 2021, a pass-through entity (PTE) can make a retroactive PTET election and pay the tax for the taxable year by submitting Taxable Year 2021 Form 502PTET, including all owner credit allocation information, using Business Online Services on or before September 16, 2024.

Taxpayers cannot use Form 502 to make the PTET election for Taxable Year 2021. The PTET election is binding on all eligible owners once it is made. Electing PTEs determine for themselves how to get PTET election consent from their eligible owners. For S corporations, this includes determining whether to use the special option on how to compute the PTET (see State Tax Update, 01/24/2024).

Filing the retroactive Taxable Year 2021 PTET return.

Electing PTEs must file the retroactive Taxable Year 2021 PTET return and accompanying schedules and make any payments electronically. The Department will not accept retroactive Taxable Year 2021 PTET returns after September 16, 2024, and there are no extensions or late filing options.  The PTET must be paid in full by the time a PTE files its Taxable Year 2021 Form 502PTET.

An electing PTE must refer to its previously filed Taxable Year 2021 Form 502 to complete its Taxable Year 2021 Form 502PTET. An electing PTE that has not previously filed a Taxable Year 2021 Form 502 would still be eligible for the retroactive Taxable Year 2021 PTET election, but it could be subject to up to a $1,200 late filing penalty if it was required, but failed, to file a Taxable Year 2021 Form 502.

The electing PTE must notify its owners that the election has been made and whether or not the owners are eligible owners entitled to receive the information and benefits of the election. It must provide a Schedule VK-1 to each of its owners, including its eligible and ineligible owners, with information about the passthrough of income and related deductions and credits. The total PTET credits amount on an electing PTE’s return cannot exceed the total PTET that the electing PTE paid. Additionally, the electing PTE must provide sufficient information on the Schedule VK-1s in its return to identify all PTET credit-eligible taxpayers and their credit amounts. If that information is omitted, the otherwise eligible owners will not be entitled to use the PTET credit on their Virginia income tax returns.

The PTET credit amount distributed to each eligible owner is equal to the PTET amount paid by the PTE on the income distributed to each of them. The credit is allocated to nonresident eligible owners based only on their distributive or pro rata share of income attributable to Virginia. When an electing PTE has a total PTE taxable income of zero or less, its eligible owners are not entitled to any PTET credits. The PTET credit cannot be distributed to ineligible owners.

Estimated tax payments: No estimated payments are required because the Taxable Year 2021 PTET election is retroactive.

Previous filings: On Form 502PTET, a PTE should claim nonresident withholding payments that were paid on behalf of nonresident eligible owners on a PTE return (Form 502). However, any withholding payments made must be subtracted from the total amount of retroactive PTET credits allocated to eligible owners because eligible owners may have already received and claimed credit for any withholding payment made by the PTE. Additionally, if the PTE already filed a composite return (Form 765), the PTE is still eligible to make the retroactive Taxable Year 2021 election if it reports a subtraction on its PTET return for any income for which tax has been paid on a Form 765.

Penalties: By statute, penalties for electing PTEs are based on statutory corporate penalties. Civil and criminal penalties can be imposed for filing a fraudulent return.

Eligible owner’s return filing.

Before the Department will permit eligible owners to claim the PTET credit on their income tax returns as a retroactive 2021 PTET credit, the Taxable Year 2021 Form 502PTET must be submitted and the PTET must be paid in full by September 16, 2024. Owners cannot amend their Taxable Year 2021 owner returns to claim the retroactive 2021 PTET credit. Instead, the retroactive 2021 PTET credit will be reported only on the owners’ returns for Taxable Year 2023. While the credit is reported on a 2023 owner return, and while the state generally will not pay interest going back to 2021, the retroactive 2021 PTET credit is based on the owner’s and the PTE’s Taxable Year 2021 taxes, and any refunds issued on a Taxable Year 2023 return as a result of the credit are solely on account of the owner’s and PTE’s 2021 taxes.

An eligible owner can claim the refundable PTET credit against their Virginia individual income tax or fiduciary income tax. An estate or trust, other than a trust that is disregarded for income tax purposes, that is an eligible owner of an electing PTE can claim the full PTET credit that it receives on its fiduciary income tax return, but cannot distribute any part of the credit to its beneficiaries.

Eligible owners must wait until the electing PTE issues the Schedule VK-1 before they claim the PTET credit. If the electing PTE issued such schedule after the owner’s return due date, the eligible owner may either: (1) make any necessary extension payments and file the return during the extension period, or (2) file the original return without claiming the credit and then file an amended tax return once the Schedule VK-1 showing a PTET credit is received. Eligible owners of an electing PTE who claim the PTET credit on their individual or fiduciary income tax return must make an addition equal to the eligible owner’s proportionate share of any deduction for state and local income taxes paid or incurred by the PTE during the same taxable year.