State Pass-Through Entity Tax Regime Updates for 2025 and Beyond: What Tax Practitioners Need to Know

The pass-through entity tax (PTET) landscape continues to evolve as states refine their state and local tax (SALT) workaround mechanisms in response to both federal developments and practical implementation challenges. With the One Big Beautiful Bill Act (OBBBA) raising the federal SALT cap limitation to $40,000 for 2025-2029, states have taken varied approaches to extending, modifying, or enhancing their PTET regimes. Accordingly, practitioners will need to vigilantly monitor states’ changes to their PTET regimes, not just for 2025, but for years to come.

Federal Context

The Tax Cuts and Jobs Act (TCJA) introduced a temporary restriction on taxpayers’ ability to fully deduct their state and local taxes. Under the TCJA, taxpayers were limited to a SALT deduction of only $10,000 ($5,000 if married separately). The OBBBA raised the SALT deduction cap from $10,000 to $40,000 ($20,000 for married filing separately) for 2025, with certain income limitations.[1] The deduction begins to phase down once a taxpayer’s adjusted gross income exceeds $500,000 ($250,000 if married filing separately) in 2025. The allowable SALT deduction is reduced by 30% for each dollar over $500,000 but cannot be reduced below $10,000. Both the deduction cap and the AGI limitation will increase by 1% each year until 2030, at which point the SALT cap will permanently revert to $10,000.[2]  The changes under the OBBBA have prompted states to reassess their PTET programs, with some extending them and others providing additional flexibility. Below, we highlight some of the legislative responses by the states so far.

Procedural Simplifications and Extended Deadlines

Some states have recently enacted updates to their procedural processes for entities making the PTET election. These have been mostly welcome changes that will allow taxpayers to streamline their elections, and in some cases, have a more complete financial picture before making the election.

Alabama

Starting in 2025, Alabama permits pass-through entities to make or revoke PTET elections directly on their income tax return, including extensions. Previously, the election required a separate online filing by March 15 of the following year, regardless of the return due date. This change provides significant administrative relief and aligns Alabama with states that integrate the election into the return-filing process.

Michigan

Michigan enacted one of the most dramatic deadline extensions for tax years 2024 and later. Pass-through entities now have until the last day of the ninth month following the year-end to make a PTET election (e.g., September 30, 2026, for calendar-year 2025 elections). Previously, elections were due by March 15 of the election year, similar to New York’s deadline. This forced taxpayers to elect within the first 2.5 months of the year before they had enough information to make an informed decision. This extension gives entities the opportunity to consider nearly complete financial data before making what is typically a binding three-year election under Michigan law.

Oklahoma

Oklahoma similarly extended its PTET election deadline, aligning it with the return due date, including extensions. Starting with tax year 2024, the election can now be made in two ways:

(1) filing Form 586 as a stand-alone form at any time during the preceding tax year or within 2.5 months after the beginning of the current tax year, or

(2) directly on the Oklahoma income tax return (Form 512-S or Form 514) by the return's due date, including extensions, with Form 586 included with the return; thereby eliminating the burden of making an early election without complete financial information.

The revocation requirement has also been simplified, allowing taxpayers to make an informed decision with sufficient financial data.

Maryland: Expansion of PTET Base for Resident Owners

Maryland enacted one of the most significant substantive changes to a state PTET regime in 2025, fundamentally altering the tax base calculation for resident owners of partnerships and S corporations. Notably for S corporations, the new rules create a split calculation similar to California and Arizona’s S corporation PTET regimes: Resident members are taxed on their full federal distributive share, while nonresident members are taxed only on state-sourced income. This creates potential federal compliance issues for S corporations with mixed-residency ownership.

Expansion to All-Source Income for Residents

As part of its fiscal 2026 budget legislation, Maryland expanded the PTET base for resident owners effective for tax years beginning after December 31, 2025. Under prior law, the PTET applied only to Maryland-source income for all owners, regardless of residency. The new law allows resident owners to be subject to PTET on their full distributive or pro rata share of entity income from all sources, while nonresident owners remain subject to PTET only on Maryland-source income.

This change addresses a long-standing mismatch in Maryland's PTET framework. Maryland residents are taxed on their worldwide income, but the PTET could only be paid on the Maryland-source portion. As a result, resident owners received only a partial PTET credit on their Maryland returns, and the pass-through entity could deduct only that portion of state tax paid on Maryland-source income for federal purposes. The legislation aligns the entity-level payment with the owner's actual Maryland tax exposure by expanding the PTET base to include all income earned by resident owners.

S Corporation Compliance Risk: The Single-Class-of-Stock Problem

While this change resolves the mismatch for partnerships and LLCs, it creates a significant federal compliance issue for S corporations with mixed-residency ownership. The Maryland PTET election is an all-or-nothing election for the entity. Because resident and nonresident shareholders are now subject to PTET on different income bases (all-source versus Maryland-source), the economic effect of the tax varies between shareholder categories.

For example, consider an S corporation with 50% Maryland resident ownership and 50% nonresident ownership that elects into Maryland PTET and pays $100 of tax -- $70 attributable to the resident shareholder's tax on all income and $30 attributable to the nonresident's tax on Maryland-source income only. When allocating Maryland tax items, they must be split 50/50 in accordance with each shareholder's stock ownership, giving each shareholder a $50 allocation of PTET paid, resulting in a potential refund for the nonresident members and potential shortfall for the residents.

Unlike partnerships, S corporations cannot make special allocations of tax items or special distributions that differ from ownership percentages without risking the creation of a second class of stock. This would violate the single-class-of-stock requirement under IRC Sec. 1361(b)(1)(D), which requires all shareholders to have identical rights to distributions and liquidation proceeds. If the IRS views the differing PTET treatment as creating economic disparities that constitute a second class of stock, the entity's S election could be terminated.

California: Extended Program with Payment Flexibility

California enacted major PTET changes in 2025, addressing two key concerns: making the program permanent and eliminating harsh prepayment penalties.

Extension Through 2030

Originally set to expire after 2025, California's PTET has been extended through 2030, providing certainty for California taxpayers planning their state tax strategies. This extension acknowledges that despite the federal SALT cap increase, California's high tax rates make the PTET election valuable for many taxpayers, particularly given the phaseout of the higher SALT cap for high-income earners.

Payment Flexibility (2026 and Beyond)

California's PTET requires two payments: the first, which must be the greater of $1,000 or 50% of the prior year’s tax, is due June 15, and the remainder is due by the original return date. Under prior law, failure to make timely payments in the proper amounts invalidated the entire election, a harsh result that created traps for unwary taxpayers.

For tax years 2026-2030, California allows entities to make valid elections even if they miss or underpay the June 15 deadline. However, there is a penalty: Each owner's PTET credit is reduced by 12.5% of the proportionate share of the unpaid amount. This modification provides critical flexibility for entities with unpredictable income patterns while maintaining incentive for timely payment.

Important Note: This relief does not apply retroactively to 2025. Entities that missed their June 15, 2025, payment remain ineligible to elect for that year.

Illinois: PTET Extension from Sunset and Expanded Investment Partnership Eligibility

Illinois enacted major PTET legislation addressing the imminent expiration of its program with legislation enacted on December 12, 2025. The Illinois PTET, originally enacted in 2021, was set to expire for tax years beginning on or after January 1, 2026. This bill made the PTET program permanent by removing the sunset provision. This eliminates the ongoing uncertainty that plagued taxpayers and provides stability for long-term tax planning.

The extension was included in a broader tax omnibus bill that also decoupled Illinois from certain federal bonus depreciation provisions enacted in the OBBBA.

Expanded Investment Partnership Eligibility

Effective for tax years ending on or after December 31, 2023, Illinois broadened the definition of "qualifying investment securities" to include partnership interests that qualify as securities under federal securities law. This expansion means:

• Partnerships (e.g., private equity funds) holding interests in operating partnerships may now qualify as investment partnerships.
• Previously disqualified structures gained eligibility for favorable investment partnership treatment by expanding the definition of 'qualifying investment securities' to include partnership interests in operating businesses and modifying the gross income requirement to allow income from lower-tier partnerships to count toward the 90% threshold."

Investment partnerships may elect PTET, but the interaction requires careful planning:

• Income subject to PTET must be computed by deducting income subject to investment partnership withholding first from the base income (Form IL-1065, Line 35).
• If an investment partnership invests in a lower-tier partnership that elected PTET, the investment partnership may use the PTET credit to reduce its withholding obligation to the extent the credit would be distributable to nonresident partners.
• This creates a cascading credit mechanism that requires careful modeling, particularly when lower-tier operating companies generate gains on sale.

Virginia: Repeated Extensions 

Virginia enacted a modest one-year extension of its PTET program in 2025, following more substantial eligibility changes implemented in 2023. The Commonwealth's incremental approach to PTET continuation contrasts with other states' longer-term commitments, creating ongoing planning uncertainty for Virginia pass-through entities.

2025 Extension: Sunset Pushed to January 1, 2027

In response to the OBBBA, the state extended the sunset date for Virginia's elective pass-through entity tax from January 1, 2026, to January 1, 2027. This one-year extension applies to both the PTET itself and the corresponding refundable PTET credit available to eligible owners.

The short extension horizon requires practitioners to monitor the 2026 legislative session closely for potential further action. The commonwealth's pattern of incremental extensions suggests limited legislative appetite for long-term or permanent adoption of the PTET regime.

With over 30 states having a SALT workaround in place, more change is likely on its way. Taxpayers and practitioners should expect more states to address the permanent addition of the SALT deduction cap via legislation over the next year.

EisnerAmper’s State and Local Tax Group is experienced in working with taxpayers exploring their PTET options. Whether you are an established business wanting to stay up-to-date on your state’s latest changes, or just starting out and looking for a trusted advisor to help you make the best tax choice, EisnerAmper can assist you. Reach out to your EisnerAmper contact or one of our SALT experts below to learn more.