Pass-Through Entity Tax (PTET) Election: Workaround for the SALT Cap

By Yarik Yarosh, CPA ·September 5, 2026 ·6 min read

Written by Yarik Yarosh, CPA (US & Canada) September 5, 2026 · FL CPA license AC61704 · CPA Ontario

The TCJA capped the state and local tax (SALT) deduction at $10,000, later raised to $40,000 under the One Big Beautiful Bill Act ($20,000 MFS). Business owners in high-tax states (California, New York, New Jersey, Connecticut, and others) still lose deductions when total state and local taxes exceed the cap. The pass-through entity tax (PTET) election is a state-level workaround: the S-Corp or partnership pays state income tax at the entity level instead of the individual level. The entity-level tax payment is a business expense (deductible against federal taxable income with no cap), and the owner receives a state tax credit on their personal return.

✓Key takeaway

How the PTET election works:

Without PTET (default):

S-Corp or partnership income flows through to the owner’s personal return
Owner pays state income tax on the personal return
State income tax is an itemized deduction, capped at $40,000 (SALT cap)
If total SALT exceeds $40,000: the excess provides NO federal tax benefit

With PTET election:

The S-Corp or partnership elects to pay state income tax at the entity level
The entity-level tax payment is an ordinary business expense (deductible on the entity’s federal return)
This deduction is NOT subject to the $40,000 SALT cap (it is a business deduction, not a personal itemized deduction)
The owner receives a credit or deduction on their state personal return for the tax paid by the entity (to avoid double taxation at the state level)

Federal benefit:

The entity-level tax payment reduces the S-Corp’s or partnership’s taxable income
This flows through to the owner’s K-1 as lower ordinary income
The owner’s federal tax bill is reduced by the entity-level payment x the marginal federal rate

Example:

State income tax on passthrough income: $50,000
Without PTET: $40,000 deductible (SALT cap), $10,000 non-deductible
Federal tax lost on $10,000: $10,000 x 24% = $2,400
With PTET: full $50,000 deductible as business expense
Federal tax saved: $10,000 x 24% = $2,400

States offering PTET elections (as of 2025): Over 30 states, including: California, New York, New Jersey, Connecticut, Illinois, Georgia, Maryland, Massachusetts, Minnesota, Oregon, Wisconsin, and many others. Each state has its own rules, rates, and election deadlines.

Election timing:

Some states require the election before the tax year begins (California: March 15 of the tax year)
Others allow retroactive elections (New York: with the filing of the return)
Miss the deadline = miss the benefit for that year
The election is typically made annually (not a permanent election)

QBI interaction: The PTET payment reduces S-Corp income, which reduces the owner’s QBI. The QBI deduction (20%) is based on the lower income. The net benefit of PTET is: PTET savings minus the lost QBI deduction.

At a 24% marginal rate with 20% QBI deduction:

PTET savings: $10,000 x 24% = $2,400
Lost QBI: $10,000 x 20% x 24% = $480
Net savings: $1,920

How much does the PTET election save?

Hypothetical example

Round numbers. For current guidance, see 26 U.S.C. 199A (qualified business income deduction). An S-Corp owner in California (9.3% state rate on passthrough income above $68,350). S-Corp K-1 income: $500,000. Owner’s other SALT: $10,000 (property tax).

Without PTET:

California tax on $500,000 passthrough income: approximately $45,000
Total SALT: $45,000 + $10,000 = $55,000
SALT deduction (capped at $40,000): $40,000
Non-deductible SALT: $15,000
Federal tax cost of non-deductible SALT: $15,000 x 35% = $5,250

With PTET:

California PTET paid at entity level: $45,000 (deductible as business expense, no SALT cap)
Owner’s personal California return: credit for PTET paid (no double taxation)
S-Corp income reduced by $45,000 PTET: K-1 income = $455,000
Owner’s remaining SALT (property tax): $10,000 (under the cap)
Federal deduction for the $45,000 PTET: $45,000 (full deduction via lower K-1)

The precise calculation:

Without PTET:

Itemized deductions include SALT: $40,000 (cap)
Federal taxable income: $500,000 - $40,000 SALT - other deductions

With PTET:

K-1 income: $455,000 (reduced by $45,000 PTET)
SALT on personal return: $10,000 (property tax only, under cap)
Federal taxable income: $455,000 - $10,000 SALT - other deductions

Net federal tax savings from PTET:

Additional federal deduction: ($500,000 - $40,000 SALT) vs. ($455,000 - $10,000 SALT)
Without PTET: income after SALT = $460,000
With PTET: income after SALT = $445,000
Difference: $15,000
Federal tax savings: $15,000 x 35% = $5,250

Minus QBI impact:

QBI without PTET: $500,000 x 20% = $100,000 QBI deduction
QBI with PTET: $455,000 x 20% = $91,000 QBI deduction
Lost QBI deduction: $9,000
Federal tax cost of lost QBI: $9,000 x 35% = $3,150

Net PTET savings: $5,250 - $3,150 = $2,100/year

At higher income levels (where more SALT exceeds the cap and the marginal rate is higher), the savings increase. An S-Corp owner with $1,000,000 in passthrough income in New York City (combined state + city rate of approximately 10%+) can save $10,000-$15,000/year from the PTET election.

Cost of the election: minimal. The S-Corp makes a state-level election (usually a checkbox on the state return or a separate form), pays the state tax at the entity level instead of the individual level, and the CPA adjusts the federal return accordingly.

Illustrative numbers only, not a real client and not advice for your facts.

How does business nexus work for state tax purposes?

Nexus is the minimum connection a business must have with a state before that state can impose its taxes. Physical nexus is established by having employees, property, or inventory in a state. Economic nexus, which has expanded significantly since the Supreme Court’s Wayfair decision (2018), can be triggered by exceeding revenue or transaction thresholds in a state (commonly $100,000 in sales or 200 transactions). Once nexus is established, a business may owe the state’s income tax, franchise tax, sales tax collection obligations, and payroll tax withholding for employees working in that state. Many states offer voluntary disclosure agreements (VDAs) that limit look-back periods and waive penalties for businesses that discover they have unfiled state obligations.

Related guides:

How do you handle state tax obligations when your business operates in multiple states?

Multi-state businesses must determine their filing obligations in each state based on nexus (physical presence, economic thresholds, or factor-based), then apportion income using each state’s apportionment formula. Most states use a single-factor sales apportionment formula that assigns income based on where your sales are delivered, though some states still use a three-factor formula weighting sales, payroll, and property. Throwback and throwout rules in some states can increase your tax liability by reassigning sales revenue from states where you aren’t taxable back to your home state. The pass-through entity tax election available in most states allows S corps and partnerships to pay state income tax at the entity level and claim a federal deduction, effectively bypassing the $10,000 SALT deduction cap for owners.

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Cite this page

Yarik Yarosh, CPA. "Pass-Through Entity Tax (PTET) Election: Workaround for the SALT Cap." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-pass-through-entity-tax-election

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.