Michigan introduces optional tax on flow-through entities

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Michigan Governor Gretchen Whitmer signed legislation on December 20, 2021 providing for an optional tax on flow-through entities (ETPs).1 As a result, Michigan is the latest state to enact an entity-level tax regime as a workaround to the federal $10,000 limit on state and local tax (SALT) deduction enacted under the Tax Cuts and Jobs Act (TCJA) of 2017.2 On the same day, Governor Whitmer also approved the Strategic Outreach and Attraction Reserve Legislative Package that will fund $1 billion for economic development in the state.3 The fund is intended to attract large employers looking to invest in the state for the long term.4

Tax on flow-through entities
For tax years beginning on and after January 1, 2021, subject to the existence of the TCJA SALT deduction limit, the legislation creates an optional tax on FTEs carrying on business in Michigan.5 Generally, an ETP can elect to pay tax on certain income at the personal income tax rate.6 Members of the electing entity are eligible for a refundable tax credit equal to the income tax previously paid by the ETP.seven For election purposes, an ETP is defined as “an S corporation or partnership under the internal revenue code for federal income tax purposes.”8

The FTE Tax Election is made by submitting an electronic payment through Michigan Treasury Online (MTO). The election, once made, is irrevocable and remains in effect for a total of three taxation years (the taxation year for which the election is made and the following two years).9

The election due date depends on whether an election is made for a tax year beginning in 2021, or for a tax year beginning in 2022 or later. For FTEs whose calendar or tax years begin in 2021, the election can be made until April 15, 2022, so this election is irrevocable for the 2021, 2022 and 2023 tax years.ten ETPs can generally make the election for the 2021 tax year by specifying a payment for the 2021 tax year that includes the combined amount of all estimated unpaid quarterly payments due for the 2021 tax year.11 For ETPs whose calendar or tax years begin in 2022 or later, the election must be made no later than the 15th day of the third month of the ETP’s tax year, so that this election is revocable for tax years 2022, 2023 and 2024.12 The election is activated by payment through MTO, which must be designated as applicable to the 2022 tax year.13

Since the ETP tax is levied at the individual tax rate for the same tax year, the ETP tax rate is 4.25% for the 2021 tax year.14 Tax is only imposed on Michigan’s portion of the post-distribution/post-distribution positive “corporate income tax base” that is allocated to direct members of the elective ETP who are individuals, trustees such as estates or trusts, or other FTEs.15 Any portion of the corporate income tax base allocated to direct members that are insurance companies, financial institutions or C corporations is not subject to the ETP tax. The starting point for ETP tax is generally the amount determined and reported by the entity for federal income tax purposes.16 After making certain statutory adjustments, the ETP’s business income tax base is subject to apportionment and apportionment.17

The annual ETP tax return must be filed no later than the last day of the third month after the end of the taxpayer’s tax year (March 31, 2022 for taxpayers in calendar year 2021), and although this declaration may be extended for an additional six months, the time limit for payment of the ETP fee is not extended.18 ETPs who elect to pay the ETP are required to make estimated quarterly payments each year that their annual tax liability is reasonably expected to exceed $800.19

Incentive packages
The incentive legislative package amends the Michigan Strategic Fund Act (MSF) to add two new funds to attract businesses to the state. The MSF has broad authority to promote economic development and create jobs in the state, primarily by providing commercial enterprises with sources of funding.20

House Bill 5603

HB 5603 was enacted to create the Michigan Site Readiness Program (MSRP).21 The MSRP will provide grants, loans, or other economic assistance to eligible applicants to establish investment-ready sites to attract and promote investment in the state based on various eligibility factors. These factors include the importance of the project to the community, the local community and financial support for the project, the financial needs of the applicant and the creation or maintenance of skilled jobs.22

Senate Bill 771

SB 771 creates the Critical Industry Program (CIP) to provide a $500 million fund to businesses for closing deals, gap financing, and other economic assistance that creates new skilled jobs or makes investments in capital.23 To be eligible for CIP funds, the fund will consider a variety of criteria and provide a detailed application, approval and compliance process which will be published and available on the fund’s website.24

Senate Bill 769 and Senate Bill 85

SB 769 creates the Strategic Outreach and Attraction Reserve (SOAR) fund which will be the funding mechanism for HB 5603, SB 771 and SB 85.25 Funds will be transferred to CIP or MSRP for disbursement to companies.26 SB 85 provides a supplementary state budget for the fiscal year ending September 30, 2022 and allocates $1 billion to the SOAR fund.27

Remark
For tax years beginning 2018 through 2025, the TCJA amended IRC Sec. 164 to limit state tax deductibility to $10,000 for individuals, but imposed no similar limitation on commercial entities. With the enactment of HB 5376, Michigan has joined a growing number of states that have adopted entity-level taxes as a mechanism to circumvent the $10,000 federal SALT deduction limit for individuals in the TCJA. This type of tax has become very popular and has been enacted by 15 states in 2021.28 In fact, a total of 22 states have now adopted a similar type of entity-level tax.29

While many expected Michigan to enact its FTE legislation in mid-2021, Governor Whitmer vetoed the legislation when it was initially introduced, in part due to lack of funding allocated to the US Treasury Department. Michigan to implement GTF. Despite significant delays, the state successfully resolved the funding issue and enacted the ETP, with the legislation remaining in effect for tax years beginning January 1, 2021 and beyond. The Ministry went to great lengths to develop the MTO, an online portal, to accept elections and payments before the end of 2021, and provided detailed guidance shortly thereafter.30 Following enactment so late in 2021, the legislation includes some temporary provisions that apply to elections made for the 2021 tax year. Taxpayers considering the election should keep the timelines in mind. In addition, taxpayers are urged to carefully consider the federal and state tax effects of the election, particularly because, unlike most entity-level elective tax regimes, the ETP election lasts a total of three tax years. and is irrevocable.

The expansion of the Michigan Strategic Fund Act provides a wider range of rewards opportunities while increasing the incentive value of projects choosing to locate in Michigan, especially for large employers looking to invest in the long term. the state.31 Although HB 5603 and SB 771 provide a list of qualifications for funds, they also provide for funds to define their own application, approval and compliance processes.32 However, the funds have not yet established these processes, so interested applicants should rely on the eligibility factors set out in the law at this time.



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