On September 8, 2017, the California Franchise Tax Board (FTB) held an interested party meeting (IPM) regarding proposed language on the withholding requirements for domestic pass through entities (PTE) under Title 18, California Code of Regulations Section 18662-7 (the Proposed Regulation). The Proposed Regulation includes key changes such as:
The current proposed language is still in draft and, as such, it will continue to be addressed and discussed with interested parties. It is expected that the FTB will provide further clarification and guidance on the Proposed Regulation and seek commentary from interested parties.
The Proposed Regulation includes many changes to the withholding rules that would directly apply to PTEs and their owners. The changes include a new method of calculating withholding tax based on the nonresident owner’s distributive share of California source income, and applying tax rates at the highest marginal rate based on each owner’s entity type. Furthermore, the Proposed Regulation includes two new forms, Form 592-PTE and 592-Q, which have annual and quarterly filing requirements, respectively.
In particular, the fact that upper tier entities will be required to allocate withholding pro-rata among all partners, regardless of residency status or tax exempt status, is troubling. It will potentially require tax exempts and insurance companies to now file income tax returns to seek refunds from the state. Additionally, the shared January 31st due dates for both Forms 592-PTE and 592B, with no changes to the imposition of penalties or abatement for a late filing of the Form 592B, will likely create significant compliance burdens and penalty abatement requests. It is highly likely that upper tier PTEs will not receive their lower tier information until the date their own Form 592Bs are due, which has been a historic problem that FTB was attempting to address.
PwC will continue to monitor the on-going discussions and provide updates as the regulatory process unfolds.