S-Corp’s New York SALT Comments
Today the S Corporation Association submitted comments to the New York Department Taxation and Finance on their proposed SALT fix for partnerships.
Following hard on the heels of the new Connecticut SALT fix, New York asked stakeholders for feedback on their draft to restore the State and local tax deduction for New York partnerships. In its comments, S-Corp made clear its support for the proposal with the following three improvements:
- “Expand the UBT to include S corporations as well as partnerships. There are 410,000 S corporations in New York State, employing more than two million people. These S corporations face the same challenges with the new policy as partnerships and they should be included in the reform.
- Allow for S corporations and other pass-through businesses to elect out of the UBT on an annual basis. There are several reasons why a pass-through business may choose not to be taxed at the entity level. They should be given that flexibility. Making the UBT an election is essential to avoiding unintended and unnecessary hardships.
- Maintain current levels of revenue. The purpose of this reform should be to restore legitimate business deductions to New York’s Main Street community, not to raise new revenues.”
With the New York legislature out for the year, this proposal will have to wait until next year, but the request for comments demonstrates that the state-based fix to the SALT mess continues to have legs in New York and elsewhere.
You can read the full S-Corp comments here. Other affiliated groups submitting comments include our Parity for Main Street Employers coalition and the STAR Partnership.
The effort to restore SALT deductions continues!
Tax Breaks for Job Creators
Center for Budget and Policy Priorities (CBPP) got itself into a lather the other day noting that the new, 20-percent deduction for pass-through businesses will reduce revenues by twice what the federal government spends on Pell Grants.
What’s the link between the Pell Grant program and the business income deduction? None. There is no link. The CBPP could have just as easily compared the deduction to spending on our national defense or agriculture programs.
Moreover, while the CBPP makes certain to highlight the 7.7 million beneficiaries of the Pell Grant program, they ignore the 73 million employees who work for pass-through businesses. Those workers earn around $2 trillion a year in wages. To borrow the CBPP’s simple-minded premise, that’s bigger! Nine-times more employment and seventy-times more monetary benefit. And unlike a Pell Grant, those pass-through jobs continue from one year to the next, providing a safety-net of economic security for tens of millions of families across the country. But no matter. For the CBPP, government spending is always more important than private sector jobs.
Also missing from their post is any notion of the actual taxes pass-through owners pay. The CBPP laments that the “pass-through tax break is extremely regressive: a full 61 percent of its benefits are expected to go to the top 1 percent of households by 2024” but fails to note that those households will continue to pay enormous amounts of tax – more than $500,000 a year.
That’s typical of left-of-center tax analysis. The opponents of tax relief never focus on tax burdens, just tax benefits. To the left, everybody is a beneficiary.
So, the CBPP is upset that taxpayers employing the majority of private sector workers and paying high levels of tax get a reduction in a bill designed to, wait for it, cut taxes and promote jobs. Go figure.
This is an age-old battle – the CBPP will always want higher tax burdens on job creators to fund more government spending. That’s who they are. But we reject the idea that the United States is merely a country of beneficiaries. It’s a country of entrepreneurs and risk takers and workers and creators – the types of people that start businesses and make investments and create jobs. That’s the population targeted by the pass-through deduction in the Tax Cuts and Jobs Act.
These businesses are the very backbone of the American economy and to keep them and their workers dynamic and growing, we need a federal tax code that maintains parity between big public corporations and Main Street businesses. That’s why the pass-through deduction was included in the Tax Cuts and Jobs Act, and that’s why the Main Street business community is committed to making the deduction work for all employers, including making it permanent.
Mass S-Corp Conversions? Not Yet, But Wait ‘til the Deduction Expires
The headline is eye-grabbing, but what does it mean?
A new study by Penn Wharton predicts a “mass conversion” of pass-through businesses to C corporation under the new tax law. Specifically, the study finds that 235,780 pass-throughs representing 17.5 percent of all pass-through income will convert to C corporation in response to the new rules.
What sort of businesses are most likely to convert? Those professional services businesses that don’t qualify for the new deduction. Faced with a choice between paying the pass-through rate of around 40 percent and a corporate rate half that much, they are understandably attracted to the lower rate, particularly if they have the ability to defer paying out dividends.
Key points reported by the authors:
- “We project that the Tax Cuts and Jobs Act (TCJA) will cause 235,780 U.S. business owners—77 percent of whom have incomes of at least $500,000—to switch from pass-through entity owners to C-corporations, primarily to take advantage of sheltering their income from tax by converting to C-corporations.
- The biggest switchers include doctors, lawyers and investors, especially if owners can afford to defer receipt of business income to a later year. Other business owners, who are qualified to use the 20 percent deduction for pass-through business income, including painters, plumbers, and printers, are more likely to remain as pass-through entities.
- We project that about 17.5 percent of all pass-through Ordinary Business Income will switch to C-corporations.”
So we’ve come full circle. The C corporation is the new tax avoidance vehicle for highly-paid professionals, just like it was pre-1986.
But what about the headline? We’re not sure how “mass” this conversion is, given that there are more than four million S corporations and nearly that many partnerships and LLCs. Their estimate is less than five percent of the total population here. Less than one percent if you include sole proprietors.
Moreover, we already knew the new tax bill shifted the equilibrium between pass-throughs and C corporations. Every S corporation we work with is considering converting. We have yet to hear of a C corporation going the other way.
For S-Corp, the news here is less about doctors and accountants and more about what it says will happen if the pass-through deduction is allowed to expire. This study makes clear the dramatic separation in outcomes for those pass-through businesses that get the deduction and those that don’t. For businesses that get the deduction, entity choice is a close call. For those that don’t, there really is no decision—they will all be C corporations.
A 21-percent corporate rate without an off-setting pass-through deduction will push the business community in the wrong direction—towards the harmful double corporate tax rather than away from it.
Which is why the law’s authors need to start pressing for permanence now. The deduction is slated to expire in eight years, which might seem like a long time, but multi-generation businesses plan in decades, not years. For them, the temporary nature of the deduction plays a significant role in their planning right now.
So pass-through businesses are converting, just not “massively”. The real “mass” conversion is yet to come, but only if Congress fails to act.
NOTE: The Penn Wharton study has some good data, but they have the rates wrong. The double tax on C corporations under the old law was 50.5 percent, not 58.8 percent. Under the new law, it’s 39.8 percent, not 44.8 percent. And that rate is only achieved by C corporations that pay out all their earnings immediately to fully taxable shareholders, which we know doesn’t really happen in the real world. Businesses that need to distribute all their earnings to taxable shareholders are called S corporations. By overstating the top corporate rate, the authors get the relative rate story wrong—its pass-through businesses that pay the higher amount under the new rules, not C corporations.
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