Pass-through entity tax and the SALT cap in 2026: what changed and what did not

By the Tax Field Guide editorial team. Published 2026-10-31. Facts checked 2026-10-31. Related strategies: State Tax Cap Planning (SALT).

Education only; not tax, legal or investment advice. Tax rules change, and how they apply depends on your facts. No outcome is guaranteed.

The federal deduction for state and local taxes (SALT) is capped for individuals who itemize. Public Law 119-21, enacted July 4, 2025, raised the cap for 2025 through 2029, added an income phase-down, and left state pass-through entity tax (PTET) elections alone. This guide explains the numbers and the mechanics. It is general education, not a recommendation to make or skip any election.

The cap in 2026

Under 26 U.S.C. §164(b)(7), the applicable limitation amount is:¹

• $40,000 for taxable years beginning in 2025;
• $40,400 for taxable years beginning in 2026;
• 101% of the prior year's amount for years after 2026 and before 2030;
• $10,000 for years after 2029.

Married individuals filing separately get half of each amount.¹

The income phase-down

For years before 2030, the cap is reduced by 30% of the amount by which modified adjusted gross income exceeds a threshold: $500,000 for 2025 and $505,000 for 2026, rising 1% a year after that. The reduction cannot take the cap below $10,000.¹

A worked example for 2026 and a taxpayer who is not married filing separately: with modified AGI of $525,000, the excess over $505,000 is $20,000, 30% of which is $6,000, so the cap is $40,400 minus $6,000, or $34,400. The cap reaches the $10,000 floor when modified AGI is about $606,300, because the $30,400 gap between $40,400 and $10,000 divided by 30% is about $101,300 above the threshold. Above that point, the higher cap gives no additional room.

What a pass-through entity tax is

Many states let a partnership or S corporation elect to pay state income tax at the entity level, instead of its owners paying on their shares. The IRS addressed the federal treatment in Notice 2020-75. It says that a "Specified Income Tax Payment", meaning an amount a partnership or S corporation pays to a state to satisfy income tax imposed on the entity, is deductible by the entity in computing its non-separately stated taxable income or loss for the year of payment. The payment is not taken into account in applying the SALT limitation to any partner or shareholder.² That is why PTET payments became known as a way around the individual cap.

The definition covers payments under a direct state tax on the entity "without regard to whether the imposition of and liability for the income tax is the result of an election by the entity", and without regard to whether the owners then receive a credit or deduction on their own state returns.²

What the 2025 law did and did not change

The 2025 law changed the individual cap in §164(b)(7), as shown above. Analysis by RSM concluded that it made no changes to the deductibility of PTETs by a pass-through entity, to which taxpayers can make state PTET elections, or to the ability to make them.³ The Tax Adviser reached the same reading and noted that for many owners, especially those over the income threshold, PTET elections remain an effective way to reclaim an otherwise lost state income tax deduction.⁴

For owners well below the phase-down range, the higher $40,400 cap may already cover their state tax. For owners above roughly $606,000 of modified AGI, the individual cap is back to $10,000 until 2030, which is where entity-level payments matter most.

Who this applies to

• Partners and S corporation shareholders in entities that can make a state PTET election. The election is made by the entity, and eligibility, deadlines and the tax base vary by state.
• Not W-2 employees. Wages are not income of a pass-through entity, so a PTET cannot be elected on salary.
• Passive investors in a pass-through can be affected through their share, but the entity decides whether to elect, and an election can affect every owner. RSM lists questions that include whether all members must agree and whether every owner benefits.³

RSM also reported that 36 states and New York City offered a PTET election through the end of 2025, and that a few state elections (Illinois, Oregon and Utah) were set to expire at the end of 2025 and were generally expected to be re-enacted.³ Because those programs move, check each state's current rules and deadlines before relying on a past year's description.

Points that vary by state

RSM's list of considerations is a useful map of where PTETs differ:³

• how the taxable base is calculated and how sourcing works for the entity versus an individual owner;
• how net operating losses and depreciation adjustments are treated at the entity level;
• whether the owner gets a full credit or exclusion for the tax the entity paid. As one example, RSM notes that the Massachusetts elective tax provides a 90% credit;
• administrative complexity that can outweigh the savings.

State pages for New York, California, New Jersey, Illinois, Massachusetts, Connecticut and Georgia list sourced state credits and incentives. The SALT planning entry in the strategy library summarizes the cap and PTET rules, with scrutiny and source notes.

How a PTET relates to other topics on this site

A PTET changes where a state tax is paid and deducted. It is not a credit against federal tax and does not turn passive income into active income. For the passive loss limits that apply to depreciation and credits, see how to reduce taxes on passive income, and for professionals who can model an election, see how to find and vet a tax advisor.

Common questions

What is the SALT deduction cap for 2026?

$40,400 for taxable years beginning in 2026, reduced by 30% of modified adjusted gross income above $505,000, and never below $10,000. Married individuals filing separately get half of each amount.

Is the SALT cap going back to $10,000?

Under current law the cap is $10,000 for taxable years after 2029. For 2025 it is $40,000, for 2026 it is $40,400, and for 2027 through 2029 it rises 1% a year, with the income phase-down applying through 2029.

What is a pass-through entity tax?

A state tax that a partnership or S corporation pays at the entity level, often by election. Under IRS Notice 2020-75, the entity can deduct the payment in computing its income, and the payment is not counted toward its owners' individual SALT limit.

Did the 2025 tax law end the pass-through entity tax workaround?

No. Commentary from RSM and The Tax Adviser says the law left the entity-level deduction and the state PTET elections in place. Each state's rules, deadlines and owner credits still differ.

Can a W-2 employee use a pass-through entity tax?

No. A PTET is paid by a partnership or S corporation on its own income, so it does not apply to wages.

Education only; not tax, legal or investment advice. State elections and deadlines change; confirm with the state agency and a qualified professional.

Sources

1. 26 U.S.C. §164(b)(6)-(7), as amended by Pub. L. 119-21 §70120, https://www.law.cornell.edu/uscode/text/26/164
2. IRS Notice 2020-75, https://www.irs.gov/pub/irs-drop/n-20-75.pdf
3. RSM, SALT cap receives modest and temporary update in the One Big Beautiful Bill Act, https://www.rsmus.com/insights/services/business-tax/obbba-tax-salt-ptet
4. The Tax Adviser, Cap raised, strings attached: The 2025 SALT shake-up (March 2026), https://www.thetaxadviser.com/issues/2026/mar/cap-raised-strings-attached-the-2025-salt-shake-up/