State Pass-Through Entity Tax (PTET): The SALT Cap Workaround for S-Corp and Partnership Owners

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 pass-through entity tax is the most widely adopted response to the SALT deduction cap (now $40,000 under OBBBA, $20,000 MFS), and it works because the IRS acknowledged in Notice 2020-75 that entity-level state income taxes paid by a pass-through entity are deductible by the entity as a business expense under IRC 164, not subject to the individual SALT limitation. The concept is straightforward: instead of the business income flowing through to the owners and the owners paying state income tax on their individual returns (where the SALT cap limits the deduction), the entity elects to pay the state income tax directly, deducts the payment as a business expense on the entity’s return, and reduces the K-1 income passed through to the owners. The owners then claim a credit on their individual state returns for their share of the entity-level tax, so they aren’t double-taxed at the state level. The net effect is that the state income tax becomes a federal above-the-line deduction (through reduced K-1 income) rather than a below-the-line itemized deduction subject to the SALT cap. This produces a federal tax savings equal to the difference between the full deduction of the entity-level tax and what the owner could have deducted under the SALT cap.

✓Key takeaway

PTET mechanics:

Step	What Happens
1. Entity elects PTET	S-Corp or partnership makes a state-level election (annual, with state-specific deadlines)
2. Entity pays state tax	Entity pays state income tax on the pass-through income at the entity level
3. Federal deduction	Entity deducts the state tax payment as a business expense (IRC 164, not subject to SALT cap)
4. Reduced K-1 income	Owners receive lower K-1 income (reduced by the PTET deduction)
5. Owner state credit	Owners claim a credit on their individual state return for their share of the PTET paid
6. Net result	State-level: roughly neutral. Federal: tax savings from above-the-line deduction

PTET availability (selected states):

State	Tax Rate	Election Type	Deadline
New York	6.85%-10.9% (graduated)	Elective	March 15 of the tax year
California	9.3%	Elective	Original return due date
New Jersey	5.675%-10.75% (graduated)	Elective	March 15 of the tax year
Illinois	4.95%	Elective	Original return due date
Connecticut	6.99%	Mandatory	Automatic (no election needed)
Georgia	5.39% (2025)	Elective	Original return due date
Massachusetts	5%	Elective	March 15 of the tax year
Florida	N/A	No state income tax	N/A
Texas	N/A	No individual income tax (has franchise tax)	N/A

Who benefits most:

Situation	Benefit Level
High-income owner in high-tax state (CA, NY, NJ)	Maximum benefit
Owner already at SALT cap ($40K) from property taxes alone	High benefit
Owner in no-income-tax state (FL, TX, WA, NV)	No benefit (no state income tax to shift)
Owner below standard deduction (not itemizing)	Benefit (PTET is above-the-line, not an itemized deduction)
Multi-state business	Complex (must allocate income by state; some states allow, some do not)

How much does the PTET election save?

Hypothetical example

Round numbers. An S-Corp owner in New York has $500,000 of pass-through business income and $15,000 in property taxes.

Without PTET election:

Item	Amount
Pass-through income on K-1	$500,000
NY state tax on individual return (8.82% effective)	$44,100
Property taxes	$15,000
Total state/local taxes paid	$59,100
SALT deduction allowed (capped at $40,000)	$40,000
SALT deduction lost	$19,100
Federal tax on full $500,000 (37%)	$185,000
Total federal + state tax	$229,100

With PTET election:

Item	Amount
S-Corp elects PTET	Entity pays $44,100 NY tax
Entity deducts PTET payment	$44,100 above-the-line deduction
Reduced K-1 income to owner	$500,000 - $44,100 = $455,900
Owner’s NY state credit	$44,100 (offsets individual NY tax, net state = $0 additional)
Owner’s property tax	$15,000
SALT deduction (only property taxes now, under cap)	$15,000
Federal tax on reduced $455,900 income (37%) + SALT deduction	$163,033
Total federal + state tax	$207,133

Item	Amount
Federal tax savings from PTET	$21,967

The savings come from: (1) the $44,100 PTET is deducted at the entity level (above the SALT cap), and (2) the $15,000 in property taxes still fits within the SALT cap.

Scaling the savings ($15,000 property taxes assumed, $40,000 SALT cap):

Pass-Through Income	State Tax Rate	PTET Paid	Total SALT (w/property)	Excess Over $40K Cap	Net Savings (37%, after QBI)
$200,000	8%	$16,000	$31,000	$0	$0 (under cap)
$500,000	9%	$45,000	$60,000	$20,000	~$4,000
$1,000,000	10%	$100,000	$115,000	$75,000	~$21,000
$2,000,000	10.5%	$210,000	$225,000	$185,000	~$52,000

Common PTET pitfalls:

Pitfall	Details
Missing the election deadline	Many states require the election by March 15 of the tax year (cannot be made retroactively)
Estimated payment requirements	Most states require quarterly estimated PTET payments
Multi-owner complications	All owners must agree to the election in some states
Out-of-state owners	Some states don’t allow credits for PTET paid to other states
Partnership guaranteed payments	Some states exclude guaranteed payments from the PTET base
S-Corp reasonable salary	PTET applies to pass-through income, not W-2 wages (salary is not reduced)
AMT interaction	The PTET deduction reduces regular tax but may create or increase AMT exposure (less common post-TCJA)

PTET and QBI interaction:

Question	Answer
Does PTET reduce QBI?	Generally yes (PTET is a deduction at the entity level, reducing qualified business income)
Impact on QBI deduction	Lower QBI means lower 20% QBI deduction
Net benefit?	Usually still positive (federal rate savings from PTET exceed the lost QBI deduction)

Example:

Item	Without PTET	With PTET
QBI	$500,000	$455,900
QBI deduction (20%)	$100,000	$91,180
QBI deduction tax savings (37%)	$37,000	$33,737
Lost QBI savings		$3,263
PTET federal savings		$21,967
Net savings from PTET		$18,704

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

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Cite this page

Yarik Yarosh, CPA. "State Pass-Through Entity Tax (PTET): The SALT Cap Workaround for S-Corp and Partnership Owners." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-state-pass-through-entity-tax-ptet-salt-workaround

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