California Senate Bill No. 104 (SB 104), introduced January 5, 2021, would provide an elective entity level tax for pass-through entities (PTEs) doing business in the state. With SB 104’s introduction, California becomes one of the first states to move towards the enactment of a PTE tax after the IRS issued preliminary guidance in Notice 2020-75 (see our previous Insight), which generally confirms the federal deductibility of state PTE taxes. SB 104 currently is with the state Committee on Rules pending assignment and can be acted upon on or after February 5, 2021.
Taxpayers with significant California activity should consider modeling the potential impact of the optional PTE tax proposed in SB 104 and continue to monitor amendments as the bill moves through the legislature. While SB 104 currently limits its applicability only to individual partners, the bill might be expanded to include additional types of partners as stakeholders weigh in during the legislative process. Other issues, including the tax rate and exclusion of income versus a credit for taxes paid arising under the current version of SB 104 may be subject to change throughout the legislative process, so taxpayers will need to remain flexible in their modeling and tax planning.
Additionally, taxpayers with S corporations in their structures should monitor the Elective S-Corporation Tax included in the Governor’s Budget Summary to see if it is introduced in a bill during the legislative session. Taxpayers also should consider the potential impact of similar PTE tax regimes in other jurisdictions. Given the recent IRS guidance, other states may introduce similar proposals in the coming months.