Deduction for Previously Taxed Income Received from a Pass-Through Entity

Tax Administration Policy – Deduction for Previously Taxed Income Received from a Pass-Through Entity

Multnomah County (County) [MCC §11.524] and Metro [MC §7.06.090] allow individuals a deduction for pass-through income subject to tax under their respective business income taxes. The amount is the owner’s share of taxable income on a pass-through entity’s (PTE) business income tax return. The intent of the deduction on the individual tax return is to avoid double taxation. It should not result in a double deduction. Adjustments may be needed based on differences between deductions allowed on the PTE’s business income tax return and income from the PTE reported on individual owners’ personal income tax returns. Any portion of a deduction taken on the PTE’s business income tax return that is effectively taken on an individual owner’s personal income tax return through use of the following deduction will be disallowed. The intent of this policy is to provide guidance for calculating the deduction according to the County’s and Metro’s codes and identify the information needed for that purpose. This deduction will be referred to as the Previously Taxed Income (PTI) modification.

It is a taxpayer’s responsibility to calculate, claim, and support the PTI modification claimed. The Revenue Division is not required to perform this calculation on the taxpayer’s behalf. An individual may only take a PTI modification if they have documentation from the PTE supporting the amount of income on which tax was paid and that the PTE paid the tax. Failure to provide this information in response to a request from the Revenue Division may result in the deduction being disallowed.

Pass-through entities subject to the County and/or Metro business income tax laws must provide their owners or partners the following information with the Schedule K-1 in a statement:

• A statement that the business is subject to the County and/or Metro business income tax,
• that it has filed the business income tax return(s) for the tax year of the Schedule K-1, 
• the owner’s share of “income subject to tax” on the business income tax return(s),
• the owner’s PTI modification amount if using the actual method (described below) or an alternative allocation,
• the name and employer identification number of all lower tier PTEs the PTE owns from which distributions are reported and included in the distribution to the PTE’s owner(s),
• information from the lower tier PTEs the PTE owns equivalent to the first three bullet points which may include tiered PTE K-1s, and
• the County and/or Metro apportionment percentage(s). If the business does not apportion income, the percentage is 100%. If the business does apportion income, this percentage is determined pursuant to the County or Metro business income tax code and rules.
• Any additional information an owner may need to support the amount of the PTI modification claimed. For example, the full business income tax return filed for the County and/or Metro.

The County’s and Metro’s personal income tax returns begin with Oregon Taxable Income.  Oregon Taxable Income includes an individual’s distributive share of income from a fiscal year PTE in the individual’s tax year for which the PTE’s fiscal year ends. The distributive share of PTE income included in the Oregon return may be different from the share of income subject to tax on a PTE’s County or Metro business income tax return. Differences between the County and Metro business income tax law may result in a different PTI modification amount for each jurisdiction. Examples include differences in the owner’s compensation deduction allowed on the business income tax return, apportionment, residency, etc. 

The PTI modification amount allowed on an individual’s personal income tax return is generally the “simplified” method. There is also an “actual” method that addresses owner’s compensation and similar issues. All owners of a PTE must agree in order to the use of the actual method. If they agree, an election must be made on the PTE’s business income tax return. If this election is made, the PTE will compute and provide owners with the PTI modification amount to use on the personal income tax return.

If the PTE elects to use the actual method or an alternative calculation, it will check the box on its business income tax return indicating that the election was made. If the business income tax return from an earlier year does not have the checkbox, the PTE will include a statement with its return that an election has been made. Personal income tax returns will also indicate an election has been made by the PTE using a checkbox on Schedule PTI of the personal income tax return. If the personal income tax return from an earlier year does not have the checkbox, the individual will include a statement with the return that an election has been made.

The “simplified” PTI modification amount is the individual owner’s or partner’s share of income subject to tax on the business income tax return. Income subject to tax is the amount on the business income tax return after apportionment and application of net operating loss carryovers. The PTI modification is limited by the individual’s distributive share of income from the PTE included in a resident individual’s federal and Oregon personal income tax return. For a nonresident, the PTI modification is limited by the individual’s distributive share of income from the PTE from County/Metro sources included in the nonresident individual’s federal and Oregon personal income tax return. The cumulative PTI modifications of all owners will not exceed the total income subject to tax on the business income tax return.

The “actual” PTI modification calculation begins with the individual owner’s or partner’s distributive share of income (DSI) from the PTE. DSI is first adjusted for the individual owner’s or partner’s share of any differences between deductions specific to that individual that is allowed on the PTE’s business income tax return and income from the PTE reported on individual owners’ personal income tax returns. An example would be Multnomah County’s business income tax limitation on owners compensation.

Then it is multiplied by the PTE’s apportionment percentage. Finally, it is reduced by the individual owner’s or partner’s share of any net operating loss deduction (i. e. – a net operating loss carryover applied) on the PTE’s business income tax return. In the owners compensation example, if the PTE wasn’t allowed a full deduction for compensation paid, the difference will increase the PTI modification. If the PTE’s compensation deduction exceeded compensation paid, the difference will decrease the PTI modification. For a nonresident, this amount is limited by the individual’s distributive share of income and compensation adjustment from the PTE which is from County/Metro sources included in the nonresident individual’s federal and Oregon personal income tax return. The cumulative PTI modifications of all owners will not exceed the total income subject to tax on the business income tax return as adjusted for owner’s compensation differences.

If a PTE’s County and/or Metro business income tax is zero, there is no PTI modification. The PTI modification can’t be less than zero.

Calculation for the simple PTI modification

Step 1: Begin with the individual owner’s share of the PTE’s income subject to tax.

Step 2: Determine the individual owner’s distributive share of income included in the individual’s federal and Oregon personal income tax returns for the same tax year.

Step 3:  The PTI modification is the lesser of the amounts in step 1 and 2.

Calculation for the actual PTI modification

Step 1: Begin with the individual owner’s DSI from the PTE.

Step 2.: Determine whether an expense claimed by the PTE that will be reported either as income by the individual owner or at a different amount in the individual owner’s distributive share of income is greater or less than what is reflected federal/Oregon income tax return of the individual owner. Adjust the amount in step 1 for any difference.

• If the PTE did not receive a full deduction for the expense on its business income tax return, the difference will increase the amount in step 1.
• If the PTE received a deduction for an expense it did not pay, the difference will decrease the amount in step 1.
• If the PTE received a deduction for an expense that will not be included in an individual owner’s income on the owner’s personal income tax return, the difference will decrease the amount in step 1.

Step 3: Multiply the amount arrived at after applying step 2 by the PTE’s apportionment percentage.

Step 4: Decrease the preceding amount by the individual owner’s share of any net operating loss deduction claimed on the business income tax return for the same year to determine the amount that is the actual PTI modification allowed.

Example 1 (actual PTI modification):

Danco, Inc, an S corporation, derives 100% of its business income within Multnomah County and Metro. It files the following Business Income Tax returns for each jurisdiction.

¹ - The Metro business income tax allows the compensation deduction in full. There is no difference between the compensation paid and compensation deduction allowed, therefore there is no adjustment to the distributive share of income for the PTI modification for the Metro personal income tax. Jimmy’s PTI modification is the same under the simple method and actual method.
² - In this example, Jimmy’s distributive share of income in OTI ($442,000) is increased by the amount of compensation that was not allowed ($653,000) as a deduction on the MCBIT return. That amount ($1,095,000) was multiplied by the PTE’s apportionment percentage (100%) for the PTI modification.

If the preceding methods of allocating a PTI modification from a PTE result in an unfair allocation of the cumulative PTI modification of all the owners, the owners may agree to an alternative allocation. All owners of a PTE must agree to the use of the proposed allocation method. If they agree, an election must be made on the PTE’s business income tax return. If this election is made, the PTE will compute and provide owners with the PTI modification amount to use on the personal income tax return.

Example 2: Where compensation is paid to owners exceeding the owner’s compensation allowed on a Multnomah County business income tax return and compensation paid to each owner is materially disproportionate compared to each owner’s distributive share of income subject to tax.   

Note 1: For purposes of this policy, owner’s compensation includes consideration of guaranteed payments from a partnership to one of its partners.

Note 2: The calculations for the County and Metro shown above are for a resident. The amounts related to distributive share of income and compensation included in federal and Oregon personal income tax returns is limited to County or Metro sources as applicable.

08/15/2023                                           ______Tyler Wallace________
Date                                                      Revenue Division Director

Adopted: 03/09/2022
Amended: 06/06/2023, 08/15/2023