Maryland Pass-Through Entities: Changes to State Tax Deduction

Following the enactment of the Tax Cuts and Jobs Act in 2018, individual taxpayers who report itemized deductions on their individual tax returns have generally been limited to the $10,000 cap on the deduction of state and local taxes. Subsequently, many states with high tax rates have looked for opportunities to mitigate such limitation.

Maryland issued legislation in July 2020 permitting a Maryland pass-through entity to elect to pay the tax imposed with respect to Maryland resident members’ share of income. If the annual election is made, the Maryland tax relating to such portion of income would be considered a tax on the entity, and accordingly treated as a business deduction at the pass-through entity level.

Following the announcement of the Maryland legislation, the Internal Revenue Service also recently released Notice 2020-75 which accepted certain pass-through taxes as a deduction at the entity level. The IRS anticipates proposed regulations on this matter to be released as well.

As currently written, the Maryland election is only available to pass-through S-Corporation and partnership entities (not available for sole proprietors) operating a trade or business and is not available for Maryland nonresident pass-through entity members.

There are many current uncertainties as tax forms and instructions have yet to be released. We expect clarification and technical corrections to be released.

With the recent Maryland and IRS releases, there are a many potential timing and cash flow implications relating to the payment of the estimated Maryland tax liability by the pass-through entity. We recommend these discussions be included as part of year end 2020 tax planning and consideration of the Maryland tax liability in the future.

Please contact a member of the WCS Tax Department here.