California joined the growing list of states to create a workaround of the $10,000 cap on the federal deduction for state and local taxes paid for pass-through entities under a bill signed Friday by the governor.
Gov. Gavin Newsom, a Democrat, signed A.B. 150, part of a package to enact California's 2021-22 budget. He was widely expected to do so — when updating his budget request in May, he reiterated his position that the cap on the SALT deduction should be lifted but said California would provide "a partial fix" for S corporations and other pass-throughs.
Final votes on the legislation, which took place July 1, were 78-0 in the California Assembly and 40-0 in the California Senate.
California joins at least 15 states that have enacted SALT cap workarounds since passage of the 2017 federal tax overhaul.
The governor's office did not immediately respond to a request for additional comment.
A lobbying group, the S-Corp Association, said the provision "is good news for the state's 600,000 S corporations who, along with California partnerships and LLCs, can now deduct the full amount of their state and local tax payments on their federal taxes."
Under an analysis of A.B. 150 by the state Senate, California's SALT workaround for pass-through entities will be an elective tax that the entity pays on behalf of partners. The partners can then receive a credit. The tax rate will be 9.3% and will fall on the distributive shares of income of the partners. Individual partners can choose not to consent, but the entity can still elect to pay the tax. Those partners who do consent will get a nonrefundable credit that equals the amount of tax paid by the entity on the partners' behalf.
The pass-through workaround will begin for tax year 2021 and sunset after tax year 2025, according to the analysis.
In addition to the workaround on the SALT cap, A.B. 150 includes several credits and exemptions. A two-year exemption on the sale of diapers and menstrual products is extended indefinitely. The state historic tax credit, scheduled to sunset on Jan. 1, 2026, is extended by one year.
The bill also includes credits for hiring and investment, including one for employers who bring back employees they may have dismissed because of the pandemic.
On July 12, the governor also signed the state's main budget bill, S.B. 129. That bill contained what Newsom called "the biggest state tax rebate in American history," in which low- and middle-income Californians receive a state stimulus check of at least $500. Families with children will get another $500 under the plan.
The overall budget is $263 billion, and California has a surplus of more than $75 billion. That drew criticism from state Republicans, who had wanted to use some of the surplus for additional tax relief, including suspending the state's gas tax for a year.
"Unfortunately, the majority party rejected my call to suspend the gas tax burdening families with a 51.1-cent increase in gas prices starting today," Sen. Rosilicie Ochoa Bogh, said in a statement. "As we move towards an economic recovery, this is the time Californians could use more money in their pocketbooks. With tens of billions in extra revenue, helping struggling families save at the pump should have been a priority."
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