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(PoS). PoS validators (somewhat an income tax code section, the broad deductions of state and local taxes
comparable to bitcoin miners) “stake” definition of “digital assets” (“ ‘digital (SALT), dramatically affecting certain
their tokens to earn rewards as a “block asset’ means any digital representation taxpayers. The cap led some taxpayers
producer” on the network. The rewards of value which is recorded on a crypto- to contemplate changing their state of
are earned for supporting the network graphically secured distributed ledger residency because their states impose a
and arguably for providing a service to or any similar technology as specified higher-than-average tax rate on personal
the network. The IRS has not currently by the Secretary” (Infrastructure Act, income. States’ reactions were quick in
released any specific guidance around §80603(b)(1)(D)) may be suggestive of a few cases, but many awaited guidance,
staking activities. This has left many future tax guidance. Additionally, Sens. which the IRS eventually offered in
private fund managers with uncertainty Cynthia Lummis, R-Wyo., and Kirsten Notice 2020-75.
about whether PoS validating rewards E. Gillibrand, D-N.Y., released their Fast-forward four years, and 27
are considered U.S. trade or business draft legislation, S. 4356, the Respon- states along with one other jurisdiction
income and are subject to withholding sible Financial Innovation Act (RFIA), have enacted a version of a PTE taxing
on allocations to non-U.S. investors. on June 7, containing expansive tax election with another four proposals
While the mining of bitcoin (which positions addressing some of the items in the works. This election pushes the
uses the “proof of work” (PoW) con- outlined above. responsibility for paying SALT income
sensus mechanism) may rise to the level Many issues besides those addressed taxes on flowthrough income up to the
of a trade or business activity pursuant above remain unclear for private fund PTE and allows it to deduct those taxes
to Notice 2014-21 and the IRS FAQs managers. Tax advisers should focus at the entity level under the provisions
released in 2019, PoS is inherently dif- on developing reasonable reporting of Notice 2020-75, simultaneously
ferent from PoW. For example, PoS positions consistently applied in good providing a credit to the owners to avoid
validators “lock” a portion of tokens to faith while the industry awaits defini- double taxation. Unfortunately for the
earn the right to be a block producer, tive guidance. practitioner, the only thing that can be
while miners must solve an algorithmic From Cynthia M. Pedersen, J.D., relied on consistently regarding state
problem to earn the right as a block LL.M., Baltimore PTE elections is inconsistency.
producer. Nevertheless, the purpose and As a result, practitioners may face a
the end result of a token reward are the difficult analysis in helping their clients
same. Both PoW miners and PoS valida- State & Local Taxes understand their possible PTE election
tors keep the blockchains operational. opportunities. A single state election can
Therefore, if a private fund manager is State PTE elections: A big be complex on its own, let alone navi-
acting as a PoS validator, the rewards picture perspective gating the differences among multiple
earned may be considered U.S. trade or Rarely does new state and local tax states’ elections on seemingly minor
business income (ECI) and subject to legislation cause a sigh of relief for mechanics that can have broad ramifica-
withholding on allocations to non-U.S. taxpayers or practitioners. While the tions. To avoid increasing a taxpayer’s
investors. This treatment depends on the parties responsible for tax reform may liability, practitioners should consider
sourcing of such rewards. If the private lead with best intentions for easing the the following steps, and discuss them
fund manager is located within the burden of those involved, a new state or with clients, before making a state PTE
United States, or delegates the activity local tax law typically signals yet another election.
to an agent located within the United layer of difficulty tacked onto an already
States, there is an argument that such difficult subject. And to make matters Step 1: Determining the
rewards may be considered ECI. worse, when thinking of the number of opportunity
domestic state and local tax jurisdictions, Which states currently offer
Congress and federal agencies one quickly realizes no two govern- a PTE election? With so much
are slowly issuing guidance ing bodies are likely to implement or information available on the topic
Congress passed and President Joe execute new tax laws consistently across of PTE elections, it is important to
Biden signed into law the Infrastructure the landscape. determine what opportunities are
Investment and Jobs Act, P.L. 117-58 That is the case for state passthrough available to taxpayers prior to diving into
(the Infrastructure Act), which for entity (PTE) “taxing” elections. Begin- the details. As previously mentioned,
the first time codified a definition of ning in 2018, the law known as the Tax 32 state and local jurisdictions have
cryptoassets for information reporting Cuts and Jobs Act (TCJA), P.L. 115-97, taken some form of action, including
required by brokers. Although this is not introduced a cap of $10,000 for itemized Alabama, Arizona, Arkansas, California,

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