Tax Strategy: Pass-Through Entity Tax

 

If you own a pass-through entity (PTE) like an S-Corp or a Partnership, you’ve likely heard of the PTET. For years, it has been the ultimate "hack" to bypass the federal $10,000 cap on State and Local Tax (SALT) deductions.

 

What is PTET? 

 

Normally, an S-Corp or a Partnership doesn't pay state income tax; the owners do. But that personal tax is capped on your federal return. With a PTET election:

 

1. The Entity Pays: Your S-Corp or Partnership pays the state tax directly.

2. Federal Deduction: The business deducts that payment as a business expense, lowering the profit reported on your K-1.

3. State Credit: You get a credit on your personal state return for the taxes the business already paid.

 

Three Reasons PTET is Still Better than the New $40,400 SALT Cap

 

1. The High-Earner "Phase-Out"

 

The new $40,400 SALT cap isn't for everyone. Under the 2026 rules, this expanded cap begins to phase out once your Modified Adjusted Gross Income (MAGI) hits $505,000.

 

• If you earn over $606,333, your SALT cap likely drops back down to the old $10,000 limit.

• The PTET Advantage: PTET deductions at the entity level are not subject to this personal income phase-out.

 

2. Doubling Up with the Standard Deduction

 

To use the $40,400 SALT cap, you must itemize your deductions. However, the standard deduction for 2026 has also increased (to $31,500 for married filing jointly).

 

• Without PTET: You have to choose. If your SALT is $30,000 and you have no other deductions, you’d take the $31,500 standard  deduction and "lose" the benefit of your state taxes.

• With PTET: You get the business deduction and you can still take the full $31,500 personal standard deduction.

 

3. Self-Employment Tax Savings

 

For active partners in a partnership, the PTET deduction reduces the net ordinary income of the business. This lowers the base for Self-Employment (SE) taxes. A personal SALT deduction on Schedule A does not provide this extra SE tax saving.

 

While powerful, PTET isn't a "set it and forget it" strategy. Consider these factors:

 

• If you have partners in different states, some states may not give credit for taxes paid to another state (Double Taxation Risk).

• If your business is expecting a loss in 2026, the PTET election generally provides no benefit and could trap credits.

• The OBBBA increased Alternative Minimum Tax (AMT) exemption phase-outs. PTET can help keep you out of the AMT zone by lowering your AGI.