On October 31, 2022, the Virginia Department of Taxation (the “Department”) released draft guidance (the “Draft Guidelines”) on Virginia’s elective pass-through entity (PTE) tax, addressing how to make a PTE tax election for 2022 and thereafter. The Draft Guidelines follow an April tax bulletin (Tax Bulletin 22-6). Further guidance on a retroactive election for tax year 2021 will be published before October 15, 2023.
Virginia’s PTE tax law, enacted earlier this year, allows a qualifying PTE to make an annual election for tax years 2021 through 2025 to pay income tax at a rate of 5.75 percent at the entity level. A PTE that qualifies to make the election (a “qualifying PTE”) is one that is 100 percent owned by natural persons, or, in the case of a subchapter S corporation, 100 percent owned by natural persons or other persons eligible to be shareholders in an S corporation. An entity that is disregarded as separate from its owner for federal income tax purposes, such as a single-member limited liability company or a qualified subchapter S subsidiary, is not a qualifying PTE. However, if a disregarded entity is an owner of a PTE, the disregarded entity is ignored in determining whether the PTE is owned 100 percent by natural persons. If a PTE (the “upper-tier entity”) owns another PTE (the “lower-tier entity”), only the upper-tier entity can make an election if it qualifies. Any lower-tier entities cannot make an election. The law provides a corresponding refundable income tax credit for tax years 2021 through 2025 for any amount of income tax paid by a qualifying PTE having Virginia taxable income if the PTE makes the election and pays the elective income tax imposed at the entity level. The law allows the qualifying PTE to shift the income tax burden from the PTE owners to the PTE itself.
