SENATE BUDGET AND APPROPRIATIONS COMMITTEE

STATEMENT TO

SENATE, No. 3246

with committee amendments

STATE OF NEW JERSEY

DATED:  DECEMBER 10, 2018

      The Senate Budget and Appropriations Committee reports favorably Senate Bill No. 3246, with committee admendments.

      Senate Bill No. 3246, as amended, the “Pass-Through Business Alternative Income Tax Act,” establishes an elective entity-level tax that may be paid by pass-through businesses, and provides an offsetting credit to taxpayers who receive income from a pass-through business that elect to pay the tax.

       Pass-through businesses are partnerships, New Jersey limited liability companies that are not taxed as incorporated entities by the State, and New Jersey S corporations.  These entities are called pass-through businesses because, generally, the profits are passed directly through the business to the owners, and tax on the business’s income is assessed and levied on the owners' individual gross income tax returns.

      This bill creates an optional entity-level tax on pass-through businesses.  Specifically, at the election of the business, the tax is levied on a pass-through business that has at least one partner, shareholder, or member (collectively, “member”) that owes New Jersey gross income tax on income, dividends, and gain received from the pass-through business, and sourced to the State, in the tax year (the “distributive proceeds”).  To calculate the amount of tax due, the pass-through business is first required to determine the amount of distributive proceeds that each member receives from the business in the tax year.  Then, each member’s pro rata share of the distributive proceeds is multiplied by: (i) 5.525 percent, if the distributive proceeds of the pass-through business are less than $250,000 in the tax year; (ii) 6.37 percent, if the distributive proceeds are between $250,000 and $1 million; (iii) 8.97 percent, if the distributive proceeds are between $1 million and $3 million; and (iv) 10.75 percent, if the distributive proceeds are more than $3 million (the “taxed share”).  Finally, the pass-through business adds together each member’s taxed share to determine the business’s pass-through business alternative income tax liability for the tax year.  However, if a member does not owe gross income tax in a tax year on distributive proceeds, or the liability is less than $1, then that member’s amount of distributive proceeds is disregarded for purposes of calculating the pass-through tax liability for the tax year.

      For a business that opts to pay the pass-through tax in a tax year, the bill provides a refundable gross income tax credit that is available to taxpayers who are members of the pass-through business, irrespective of whether the taxpayer is a natural person, business entity, or estate or trust.  Specifically, the amount of this credit is equal to that member’s taxed share.  However, if a member does not owe gross income tax in a tax year on distributive proceeds, or the liability is less than $1, then that member cannot claim the tax credit that is available under this bill for the tax year, since that member’s pro rata share of distributive proceeds was disregarded for purposes of determining the tax liability.  This credit may only be claimed by a qualifying taxpayer after the application of all other credits allowed by law. 

      The Director of the Division of Taxation in the Department of the Treasury is authorized to develop and promulgate rules, regulations, procedures, and forms for the administration and collection of the tax, including but not limited to the payment schedule, the tax credit provided by the bill, and for the application of the credit relative to tax liabilities of estates and trusts.

      Pass-through businesses may be small and medium-sized, privately owned entities that operate for federal and State personal income tax purposes as pass-through entities.  For each of these entities, the taxable income is reported on the member’s personal tax return, and taxes are paid by the individual.  The ability of these individuals to deduct these personal state income tax payments are now restricted as federal personal itemized deductions to no more than $10,000 per year, but are not capped for businesses to use as unlimited business expenses that can reduce the income passed on to their individual members.  This bill establishes a new tax and individual tax credit that will preserve, at the business level, an uncapped offset against taxable income, and that business income offset will credit the individual taxpayer for their individual liability attributable to that income derived from the pass-through business.

      The bill takes effect immediately and is retroactive to taxable years of pass-through entities beginning on or after January 1, 2018.

COMMITTEE AMENDMENTS:

      The committee amendments:

      (1) revise the tax rate; previously the rate was 10.75 percent for all pass-through entities, and the amendments provide that the rate is as follows:

Pass-Through Entity Income, per Taxable Year	Tax Rate
Under $250,000	5.525%
Under $1 million, but at least $250,000	6.37%
Under $3 million, but at least $1 million	8.97%
$3 million and above	10.75%

      (2) remove the requirement that a taxpayer be a ‘natural person’ in order to receive the gross income tax credit under the bill, thereby permitting natural persons, business entities, and estates and trusts to be eligible to receive the corresponding pass-through credit;

      (3) increase the amount of the gross income tax credit under the bill, from 89.25 percent to 100 percent;

      (4) provide that the gross income tax credit may only be claimed by a qualifying taxpayer after the application of all other credits allowed by law;

      (5) make the bill retroactive to taxable years beginning on and after January 1, 2018; and

      (6) make technical corrections to add two omitted words and update an internal cross-reference.

FISCAL IMPACT:

      The Office of Legislative Services (OLS) anticipates that the bill will be revenue neutral, but the State may incur an initial expenditure increase related to the administration of the new tax. The permissive nature of the bill precludes the OLS from quantifying these impacts.

      To the extent that pass-through entities elect to pay the pass-through entity alternative business tax, the revenue will shift from the Property Tax Relief Fund to the General Fund.

      The bill provides a tax credit equal to a member’s pro rata share of the tax liability incurred from the entity-level tax, which can then be applied against the member’s gross income tax liability. This tax credit is provided to offset a member’s gross income tax liability on the member’s pro rata share of distributive proceeds of the pass-through entity since the pass-through entity would be paying the entity-level tax on those proceeds.

      The OLS further notes that the Division of Taxation in the Department of the Treasury may incur increased costs to implement and administer the pass-through entity alternative business tax, which the department may be able to absorb within its existing budget.