How to beat the reduced federal tax deduction for state taxes

C corporations cause double taxation for business owners, so you probably think you want to avoid them at all costs.

And for many of you, this is true, as the S corporation often provides the lower overall tax outcome.

But for some of you, the C corporation could provide the best tax outcome, especially since you can bypass the $10,000 state and local tax (SALT) deduction cap, which was introduced by the Tax Cuts and Jobs Act (TCJA), with a C corporation.

Prior to the TCJA, you could deduct as itemized deductions on your Form 1040, Schedule A—without limit—the following foreign, state, and local taxes:

• Income taxes
• Real property taxes
• Personal property taxes
• Foreign income and real property taxes

Tax reform took two direct actions against your itemized deductions for foreign, state, and local taxes. Beginning in tax year 2018,

• you can’t deduct foreign real property taxes, and
• your combined state and local income, real property, and personal property tax deductions may not exceed $10,000 ($5,000 on a married filing separate return).

If you operate your business as an S corporation, the S corporation passes its net income to your individual tax return. This causes you, the individual, to pay state income taxes on the S corporation income. Those state income taxes are subject to the $10,000 cap.

C Corporation Loophole

But there is an exception: This $10,000 limit applies only to individuals—meaning, taxes deducted on your Schedule A. The limit does not apply to C corporations.

If you operate your business as a C corporation, then your C corporation pays state income taxes on its net income and deducts those taxes on its corporate income tax return.

By |2020-04-03T12:37:09-07:00April 1st, 2020|Comments Off on How to beat the reduced federal tax deduction for state taxes

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