House File 352 - Introduced HOUSE FILE 352 BY COMMITTEE ON WAYS AND MEANS (SUCCESSOR TO HSB 69) A BILL FOR An Act relating to an entity-level taxation election for 1 pass-through entities and allowing a partner or shareholder 2 to claim a credit against the individual income tax, and 3 including effective date and retroactive applicability 4 provisions. 5 BE IT ENACTED BY THE GENERAL ASSEMBLY OF THE STATE OF IOWA: 6 TLSB 1209HV (4) 90 jm/jh

H.F. 352 Section 1. Section 422.11, Code 2023, is amended to read as 1 follows: 2 422.11 Franchise tax credit. 3 1. The taxes imposed under this subchapter , less the credits 4 allowed under section 422.12 , shall be reduced by a franchise 5 tax credit. A taxpayer who is a shareholder in a financial 6 institution, as defined in section 581 of the Internal Revenue 7 Code, which has in effect for the tax year an election under 8 subchapter S of the Internal Revenue Code, or is a member of a 9 financial institution organized as a limited liability company 10 under chapter 524 that is taxed as a partnership for federal 11 income tax purposes, shall compute the amount of the tax credit 12 by recomputing the amount of tax under this subchapter by 13 reducing the taxable income of the taxpayer by the taxpayer’s 14 pro rata share of the items of income and expense of the 15 financial institution and subtracting the credits allowed 16 under section 422.12 . This recomputed tax shall be subtracted 17 from the amount of tax computed under this subchapter after 18 the deduction for credits allowed under section 422.12 . The 19 resulting amount, which shall not exceed the taxpayer’s 20 pro rata share of the franchise tax paid by the financial 21 institution, is the amount of the franchise tax credit allowed. 22 2. For a taxpayer making an election under section 422.16C 23 that is also a financial institution subject to the franchise 24 tax under subchapter V, the tax imposed under section 422.16C 25 shall be reduced by a franchise tax credit equal to the amount 26 of franchise tax paid by the taxpayer for the same year. 27 Sec. 2. NEW SECTION . 422.16C Pass-through entity —— 28 election —— entity-level tax —— credit. 29 1. As used in this section, unless the context otherwise 30 requires: 31 a. “Partnership” means the same as defined in section 32 422.25A, except a “partnership” does not include a pass-through 33 entity that is a publicly traded partnership as defined in 34 section 7704 of the Internal Revenue Code. 35 -1- LSB 1209HV (4) 90 jm/jh 1/ 7

H.F. 352 b. “Taxpayer” means a partnership or an S corporation. 1 2. a. Except as provided in paragraph “b” , for tax years 2 beginning on or after January 1, 2022, but before tax years 3 beginning on or after January 1, 2026, notwithstanding any 4 other provision of law to the contrary, a taxpayer may elect to 5 be subject to the provisions of this section. 6 b. This section only applies to tax years for which the 7 limitation on individual deductions applies under section 8 164(b)(6) of the Internal Revenue Code. 9 3. a. A separate election shall be made for each tax year 10 on a form and at a time prescribed by the department. An 11 election shall be irrevocable once made and shall be binding on 12 the taxpayer and all partners or shareholders of the taxpayer. 13 b. If an election is made under this section, a taxpayer 14 shall not be required to file a composite return for the same 15 tax year pursuant to section 422.16B. 16 4. a. A taxpayer making an election under this section 17 shall be subject to tax in an amount equal to the maximum rate 18 under section 422.5A, imposed against the taxable income of the 19 taxpayer for the taxable year properly determined under this 20 chapter and allocated and apportioned to the state under the 21 rules adopted by the department. The tax shall be due with the 22 taxpayer’s return required under this chapter. 23 b. The tax under this section shall be reduced by the credit 24 provided in subsection 5, paragraph “b” , and the franchise 25 tax credit in section 422.11, subsection 2, and the composite 26 credit in section 422.16B, subsection 4. Any other tax 27 credits shall not be claimed by the taxpayer against the tax 28 imposed under this section. A net operating loss or other loss 29 carryback or carryforward shall not be claimed by the taxpayer. 30 5. a. For a taxable year in which a taxpayer made an 31 election under this section, for the partners or shareholders 32 of the taxpayer, the taxes imposed under this subchapter, less 33 the credits allowed under section 422.12, or the taxes imposed 34 under subchapter III or V, as applicable, shall be reduced by 35 -2- LSB 1209HV (4) 90 jm/jh 2/ 7

H.F. 352 a credit equal to the ratio of the partner’s or shareholder’s 1 share of the taxpayer’s taxable income over the taxpayer’s 2 total taxable income multiplied by the state tax liability 3 actually paid by the taxpayer. 4 b. If the taxpayer is itself a partner or shareholder of 5 another taxpayer making an election under this section, the 6 credit under this subsection shall be allowed. 7 c. An individual may claim the credit under this subsection 8 allowed to a partnership or S corporation that has not made 9 an election under this section, or allowed to an estate or 10 trust distributing taxable income to an individual. The 11 amount claimed by the individual shall be based upon the pro 12 rata share of the individual’s earnings of a partnership, 13 corporation, estate, or trust. 14 d. If the amount of credit allowed under this subsection 15 exceeds the tax liability of the partner or shareholder for the 16 tax year, the excess may be credited to the tax liability of 17 the partner or shareholder for the following five tax years or 18 until depleted, whichever occurs first. 19 6. A nonresident individual who is a partner or shareholder 20 of a taxpayer for a tax year in which an election is made under 21 this section shall not be required to file an individual income 22 tax return under section 422.13 for such tax year if the only 23 Iowa source income of the individual is from a taxpayer making 24 the election under this section, the credit allowed to the 25 partner or shareholder equals or exceeds the tax liability of 26 the partner or shareholder for the tax imposed in the tax year 27 the election is made, and if the taxpayer files and pays the 28 tax due under this section. 29 7. A taxpayer making an election under this section is 30 liable for the entity-level tax imposed pursuant to this 31 section, including applicable penalties and interest. This 32 section shall not prohibit the department from assessing 33 direct or indirect partners and shareholders for taxes owed in 34 the event that the taxpayer fails to timely make any payment 35 -3- LSB 1209HV (4) 90 jm/jh 3/ 7

H.F. 352 required by this section for any reason. 1 8. In addition to and not in lieu of any period of 2 limitation provided in section 422.25, if a taxpayer files an 3 amended return that requests a refund of tax previously paid 4 within one year prior to the expiration of the department’s 5 applicable period of limitations in section 422.25, the 6 department has one year from the date of receipt of the 7 amended return to assess any direct or indirect partners 8 and shareholders related to the reduction of any tax credit 9 provided under subsection 5. 10 9. The department shall adopt rules pursuant to chapter 17A 11 to administer this section. 12 Sec. 3. Section 422.85, Code 2023, is amended to read as 13 follows: 14 422.85 Imposition of estimated tax. 15 A taxpayer subject to the tax imposed by sections 422.16C, 16 422.33 , and 422.60 shall make payments of estimated tax for the 17 taxable year if the amount of tax payable, less credits, can 18 reasonably be expected to be more than one thousand dollars for 19 the taxable year. For purposes of this subchapter , “estimated 20 tax” means the amount which the taxpayer estimates to be the tax 21 due and payable under subchapter II, III , or V of this chapter 22 for the taxable year. 23 Sec. 4. ESTIMATED TAX PAYMENTS FOR TAX YEARS BEGINNING PRIOR 24 TO EFFECTIVE DATE OF ACT. Notwithstanding sections 422.16 and 25 422.85, a taxpayer electing to apply the provisions of section 26 422.16C shall not be required to make estimated tax payments 27 for a tax year beginning prior to the effective date of this 28 Act. 29 Sec. 5. PENALTY AND INTEREST WAIVER RELATED TO TAX YEARS 30 ENDING PRIOR TO EFFECTIVE DATE OF ACT. Notwithstanding any 31 provision of law to the contrary, the department may waive 32 penalty and interest for a return filing or tax payment related 33 to an election to be subject to the provisions of section 34 422.16C for a tax year ending prior to the effective date of 35 -4- LSB 1209HV (4) 90 jm/jh 4/ 7

H.F. 352 this Act. 1 Sec. 6. EFFECTIVE DATE. This Act, being deemed of immediate 2 importance, takes effect upon enactment. 3 Sec. 7. RETROACTIVE APPLICABILITY. This Act applies 4 retroactively to January 1, 2022, for tax years beginning on 5 or after that date. 6 EXPLANATION 7 The inclusion of this explanation does not constitute agreement with 8 the explanation’s substance by the members of the general assembly. 9 This bill relates to an entity-level taxation election for 10 pass-through entities and allows a partner or shareholder to 11 claim a credit against the individual income tax. 12 For tax years beginning on or after January 1, 2022, but 13 before January 1, 2026, a taxpayer (a partnership, other than a 14 publicly traded partnership, or a subchapter S corporation), 15 may elect to be subject to tax at the partnership or S 16 corporation level in an amount equal to the applicable tax 17 rates under Code section 422.5A imposed against the taxable 18 income of the taxpayer for the taxable year. Currently, the 19 taxable income of a partnership or S corporation passes through 20 to the partners or shareholders of the entity and is subject to 21 the individual income tax at the partner or shareholder level. 22 The bill only applies to tax years as long as the limitation 23 on individual deductions applies under section 164(b)(6) of the 24 Internal Revenue Code. 25 If an election is made, the partners or shareholders are 26 allowed a credit against the individual income tax equal to 27 the ratio of the partner’s or shareholder’s share of taxable 28 income over the total taxable income multiplied by the state 29 tax liability of the electing taxpayer. 30 An individual partner or shareholder may claim the credit 31 under the bill even if a taxpayer has not made an election. 32 The amount of the credit shall be based upon the pro rata 33 share of the individual’s earnings of the taxpayer making the 34 distribution. 35 -5- LSB 1209HV (4) 90 jm/jh 5/ 7

H.F. 352 The bill limits the number of credits the taxpayer is 1 eligible for if the taxpayer elects to be subject to tax at the 2 partnership or S corporation level. The bill also prohibits 3 the taxpayer from claiming a net operating loss or electing to 4 carryback or carryforward a loss. 5 The bill does allow the taxpayer, if the taxpayer is a 6 financial institution, to claim the franchise tax credit in 7 Code section 422.11 equal to the amount of franchise tax paid 8 by the taxpayer. 9 If the amount of credit allowed under the bill exceeds the 10 tax liability of the partner or shareholder for the tax year, 11 the excess may be credited to the tax liability of the partner 12 or shareholder for the following five tax years or until 13 depleted, whichever occurs first. 14 A nonresident individual who is a partner or shareholder of 15 a taxpayer for a tax year in which an election is made shall 16 not be required to file an individual income tax return in 17 this state if the only Iowa source income is from a taxpayer 18 making an election under the bill, and the credit allowed the 19 individual in the bill equals or exceeds the tax liability of 20 the individual in the tax year the election is made. 21 The bill specifies that a taxpayer making an election is 22 liable for the entity-level tax imposed by the bill, and allows 23 the department of revenue to assess direct or indirect partners 24 and shareholders for taxes owed in the event the taxpayer fails 25 to timely make any payment required by the bill. 26 For tax years where an election is made, the withholding 27 requirements of Code section 422.16 do not apply. The bill 28 does require the taxpayer to make estimated tax payments 29 pursuant to Code section 422.85, if applicable. However, a 30 taxpayer electing to be taxed at the partnership level or at 31 the S corporation level is not required to make estimated tax 32 payments for a tax year beginning prior to the effective date 33 of the bill. 34 The bill takes effect upon enactment and applies 35 -6- LSB 1209HV (4) 90 jm/jh 6/ 7