Kentucky Pass-Through Entity Tax 2023 - 2024

As with neighboring Indiana’s PTE tax, the Kentucky PTE tax allows qualifying pass-through entities to elect to pay state income tax at the entity level on a pro-rata share of their income allocated to the owners. The tax applies to a company’s taxable net income, which is calculated by adding back in certain amounts that were deducted for federal purposes and subtracting out some other amounts. The resulting figure is then multiplied by the state’s tax rate to determine the business’s Kentucky taxable net income.

The new Kentucky pass-through tax was implemented in 2023 by legislation passed during the state’s legislative session. House Bill 360 started out as a one-page bill focusing on ad valorem taxes on distilled spirits, but ended up containing a number of important tax-related changes. As part of this law, the Kentucky legislature created a workaround to help owners of pass-through entities bypass the $10,000 limit on the federal deduction for state and local taxes. Specifically, this workaround allows businesses to elect to pay the Kentucky pass-through entity tax at the entity level rather than the partner/owner flow-through rate.

Unlike C-corporations, most US businesses are taxed as pass-through entities, which flow profits directly to owners or members and are taxed under individual income taxes. These include partnerships, limited liability companies, and S corporations. As of 2018, these entities conduct about half of all US business activity.

Filing Kentucky PTE Tax

A partnership, S corporation, limited liability company (LLC), or C corporation that makes the PTE election must file a Kentucky LLET return for its taxable year. The tax applies to nonresident individual owners and shareholders of a PTE and residents. However, the tax doesn’t apply to sole proprietorships and general partnerships because they don’t have limited liability.

The Tax Cuts and Jobs Act of 2017 limited taxpayers’ ability to itemize state and local taxes, but the Kentucky PTE tax gives some pass-through owners an opportunity to still benefit from the TCJA’s reduction in their SALT deduction. If you’re a resident of Kentucky and own an interest in a pass-through entity, you should consider the PTE tax to see how it can benefit you.

Electing PTEs must file an irrevocable annual report with the Department on Form 740NP-WH, “Kentucky Nonresident Withholding on Distributive Share Income Transmittal and Composite Income Tax Return,” and submit a copy to each nonresident individual partner, member, or shareholder of the electing PTE. The nonresident individuals must also file an individual income tax return on Form K-1, “Employer’s Return of Income Tax Withheld,” and pay the withholding tax on a quarterly basis.

As more states adopt elective state-level entity taxes, taxpayers and practitioners need to understand their eligibility and tax impacts. Aprio’s State and Local Tax (SALT) team is available to assist. Contact us today to schedule a consultation.