Virginia governor signs bill to update PTET eligibility requirements

If you’re a Virginia tax practitioner relying on your software provider to make changes to incorporate the pass-through entity tax (PTET) form, spring 2023 may have been stress-inducing. Several software providers did not make updates in a timely fashion — or at all. The VSCPA had multiple discussions with the Virginia Department of Taxation (TAX), but there will not be a waiver for the online PTET form submission. TAX plans to create an option to directly e-file through the Department’s website, but indicated it will not be available until late summer/early fall2023. In the meantime, TAX is advising impacted practitioners to take advantage of the automatic extension.

The PTE issue began last year when we successfully helped push through legislation to adopt the ability to pay entity-level taxes for qualifying pass-through entities, i.e., the workaround for the State and Local Tax (SALT) cap. In December 2022, the VSCPA Tax Advisory Committee sent comments to the Virginia Department of Taxation on its draft PTET guidelines for the PTE tax. In addition to redlining the draft guidelines, the VSCPA asked for additional clarification related to the credit for taxes paid to other states as it relates to apportionment. The VSCPA strongly believed the definition of “qualifying pass-through entity” was too restrictive and disqualified more PTEs than intended by the General Assembly.

To fix the issue, companion bills were introduced to repeal the definition of “qualifying entity” and replace it with “eligible owner,” and ensure the calculation of tax is based on the share of Virginia income, gain, loss or deduction attributable to the eligible owners. Prior to the legislation, a PTE could only make the PTET election if it was 100% owned by natural persons or persons eligible to be shareholders of an S corporation. As a result, PTEs owned in part or in full by corporations, other PTEs, and other entities were prohibited from making the election.

Ultimately, the bills (HB 1456 / SB 1476) were passed and signed by the governor on March 27, 2023. This legislation will not take effect until July 1, 2023, but will be retroactive to the 2022 tax year.

On March 29, TAX released Tax Bulletin 23-3 to respond to the new law. The bulletin clarifies the new definition of “eligible owner”:

Only a direct owner of a PTE who is (1) a natural person subject to Virginia’s individual income tax or (2) an estate or trust subject to Virginia’s fiduciary income tax may claim a refundable PTET credit. Consequently, all PTEs can make the PTET election, but only owners meeting the eligible owner requirement are eligible to claim refundable PTET credits.

The changes made to PTET are in effect for taxable year 2021 and thereafter. The Bulletin provides further guidance on filing returns as well as the automatic six-month filing extension.

We’ll continue to post updates in our Pass-Through Tax Resource Center at www.vscpa.com/pte-tax.