SALT Cap PTET Workaround: Unpacking the Details in the Wake of the GOP’s OBBB
by Prof. Robert Bloink and Prof. William H. Byrnes
The TCJA’s new cap on the value of state and local tax deductions at the federal level (the so-called SALT cap) was one of the most controversial and contested elements of the 2017 tax reforms. Unsurprisingly, the cap took center stage once again in negotiations over the 2025 One Big Beautiful Bill, or OBBB. At least 36 states have taken action to limit SALT cap exposure for taxpayers, primarily in higher tax states. While two primary workaround strategies emerged soon after the SALT cap became the law of the land—the charitable contributions workaround and the pass-through entity tax (PTET) workaround—only the PTET workaround has survived.
Although the OBBB increased the SALT cap significantly, the cap is now subject to phaseout for high-income taxpayers, meaning that the PTET workaround remains highly relevant. Clients should remain wary, however—as the IRS has yet to release promised regulations formalizing the PTET workaround and formal guidance on the use of the strategy is entirely lacking.
OBBB Increases the SALT Cap
The SALT cap again was one of the most controversial sticking points during OBBB negotiations. In the end, the OBBB temporarily raised the $10,000 SALT cap to $40,000 (the $10,000 cap will be reinstated again in 2030). The SALT cap will be adjusted annually by 1% annually through 2029 (the $40,000 cap amount for 2025 will increase to $40,400 in 2026).
The higher $40,000 cap phases out for taxpayers with modified adjusted gross income (MAGI) that exceeds $500,000 (with a minimum $10,000 floor regardless of income). The cap will be reduced by 30 percent of the excess (if any) of the taxpayer's MAGI over the threshold amount (which will also be adjusted for inflation, from $500,000 in 2025 to $505,000 in 2026).
Because of this phase-out, higher-income taxpayers (who, of course, are also likely to have the highest SALT deductions) may see limited usefulness from the increase to $40,000—thus, the value of using PTETs as workarounds remains.
However, the OBBB did not address the PTET strategy in any way.
PTET SALT Workaround
In the wake of the TCJA, many states actually created new PTETs in order to allow taxpayers to sidestep the SALT cap via use of a pass-through structure (i.e., partnerships, S corporations). Procedurally, many states allow the entity to elect application of the PTET—yet maintain the pass-through entity structure (thus mimicking the traditional C corporation structure).
The business pays the PTET at the entity level and is then able to deduct the payment as a business expense on its federal income tax return—reducing the business’ taxable income and the amount of that income that is passed through to the individual business owner.
The state, in turn, provides a state-level credit to the individual business owner to reduce (or eliminate entirely) any additional state tax liability. The state’s tax revenue stream remains constant because the liability is merely shifted from the individual business owner to the business itself.
Via Notice 2020-75, the IRS has stated that it would release regulations providing that the entity itself would be entitled to deduct the PTETs if they are paid to the state or local jurisdiction. The IRS provided that these PTETs are not included when applying the SALT cap to the individual partner, LLC member or S corporation shareholder. This essentially allows taxpayers who use the pass-through entity structure to sidestep the SALT deduction cap.
Questions Over the PTET Strategy Remain
Substantial questions remain over the PTET workaround—and, in fact, the IRS has not stated its legal rationale for allowing the PTET workaround while prohibiting the charitable contributions workaround (and the issue has yet to be litigated).
For example, Notice 2020-75 does not specifically state whether the state or local PTET tax must be related to a trade or business (although some states specifically require that the PTET be related to a trade or business, not all states have formally adopted this requirement).
The Notice does not specify how the federal deduction should be allocated among partners or S corporation shareholders. Partnerships may allocate the deduction using the substantial economic effect rules (i.e., the benefit is allocated to the partner who is subject to the burden).
The Notice is also unclear as to whether the PTET-related deduction can be taken by accrual-basis taxpayers if they have not technically paid the tax by year-end (assuming the tax has been accrued by year-end).
Conclusion
Nearly five years after Notice 2020-75 was released, the IRS has yet to release the promised regulations. Whether Notice 2020-75 is ever revoked or replaced seems to largely depend on political motivations—and it remains unclear whether the Trump administration will invest the resources to either revoke the notice or provide clarifying regulations. In the meantime, advisors should exercise caution when navigating the complex PTET workaround option.