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Proc. 2021-49 also provided rules for the the individual return for entity tax paid
In Letter Ruling corresponding stock basis adjustments to another state, and more. In addition,
practitioners will need to know if the
that consolidated groups would take
202205018, the into account as upper-tier owners due PTE tax is elective or mandatory. The
corporation issued to the forgiven loans (and initial basis tax is elective in most states.
Shareholders eligible for the credit
inclusion).
stock to one spouse, Rev. Proc. 2021-50 provided the may or may not include trusts, estates,
but the other spouse special amended return procedures that tax-exempt organizations, and single-
consented to the may be used if taking advantage of Rev. member LLCs owned by an individual.
Entities eligible to make the election
Proc. 2021-48 or 2021-49 in lieu of fil-
corporation’s S ing an AAR. may or may not include entities with
election. State and local taxes paid by the such shareholders. Practitioners will
need to be very diligent in research-
S corporation ing the exact rules on eligibility for
treatments regarding the timing of tax- Of all the IRS guidance over the last their state’s tax as well as the rules on
exempt income and basis inclusion:14 year and a half, none has raised more deadlines for elections and calculation
1. As eligible expenses are paid questions than Notice 2020-75, issued of payments, and in projecting the ef-
or incurred (the AICPA’s Nov. 10, 2020. In this notice, issued in fect on each shareholder’s taxes. Proper
recommendation); response to several states’ enactment of documentation should be maintained
2. When loan forgiveness application is creditable passthrough entity taxes, the for shareholder consents in the format
filed; or IRS announced that it intended to issue required by the state.
3. When forgiveness is formally regulations to clarify the following mat- The following are some of the areas
granted by the U.S. Small Business ter: that state and local income taxes im- in which questions are still being raised.
Administration. posed on and paid by a partnership or an Passive or nonpassive charac-
Further guidance was issued in the S corporation on its income are allowed ter: According to Temp. Regs. Sec.
final 2021 Form 1120-S instructions as a deduction by the entity, resulting 1.469-2T(d)(2)(vi), deductions for state,
that provided for deducted eligible PPP in an above-the-line federal deduction local, or foreign income taxes are specifi-
expenses to be accounted for in the for the partners or shareholders. States cally identified as nonpassive. Thus, even
OAA in order to match the tax-exempt enacted these laws in response to the for a partner or shareholder who does
income included from the forgiven PPP provision in the 2017 law known as the not participate in the activity, state taxes,
loan and allow the basis inclusion to Tax Cuts and Jobs Act, P.L. 115-97, that like charitable contributions and miscel-
properly offset those deductions. The limited state and local tax deductions on laneous itemized deductions, are not
instructions also provided for a “true-up” personal returns from adjusted gross in- limited by the passive loss rules. Under
mechanism if treatment differed on an come to $10,000 per year. The state tax, Notice 2020-75, the “specified income
originally filed return to alleviate the which is referred to as a “PTE tax,” is tax payment” allowed to be deducted
need to amend that return (in most paid by the passthrough entity (PTE). A by the PTE includes only state and
situations). credit against state taxes is then allowed local taxes described in Sec. 164(b)(2).15
Additionally, Rev. Proc. 2021-49 to the PTE owners. Therefore, the PTE tax appears to also
provided guidance on corresponding More than 20 states have now passed be nonpassive, whereas the rest of the
basis adjustments for partnerships (and PTE tax laws, and each state has its own business income reported on line 1 and
partners) under Sec. 704 and Sec. 705. rules for its PTE tax. The rules vary rental income on line 2 or 3 of Schedule
The revenue procedure addressed other across states as to eligibility, election K-1, Partner’s [Shareholder’s] Share of
basis discrepancies that may occur dur- method and date, frequency of election, Income, Deductions, Credits, etc., may be
ing sales or exchanges and flexibility the tax base and rate, forms, payment re- passive income or loss depending on the
in properly allocating these items. Rev. quirements, allowance of state credit on partner or shareholder.

14. Caution should be used if the S corporation previously elected the safe 15. Foreign taxes are excepted from this category, as the deduction is disal-
harbor method provided for in Rev. Proc. 2021-20. lowed under Sec. 703(a)(2)(B) and Sec. 1363(b)(2).

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