“New” Kansas Law: No State Income Tax to Pass-Through Entities
From the MO Business and Estate Planning Blog by Steve Bahr
Ok, so maybe it’s not that new anymore (the law was signed on May 22, 2012, and effective as of January 1, 2013), but we think some of the effects are just now starting to be realized. The law eliminates Kansas individual income tax on business income earned in pass-through entities. This includes sole proprietorships, partnerships, LLC’s taxed as partnerships, and S-corps. So what are we seeing as recent effects of this law, and how can this benefit our clients?
For starters, we should first understand the change and why it’s relevant. Pass-through entities (see above) are generally not taxed at the entity/corporate level, as the non-wage income from the entity instead “passes through” to the individual tax return of the business owner. Because of that, the tax is reported and taxed under the individuals’ income tax return of the owner. The new law means that this Kansas income for these entities is no longer taxed, not even by the individual business owner. Keep in mind that even with this new favorable tax treatment, the exemption applies only to “non-wage” income, meaning any reasonable salary/wage business owners pay themselves is still subject to income tax.
There were some pretty bold statements as to the effect of the new law made by the Governor’s office shortly after the new law was passed (predictions of 22,900 new jobs, $2 billion in additional disposable income in Kansas, and population growth by 35,740 people). Additionally, there has been heavy criticism by some as to the tax policy behind the new law.
The potential benefits for clients, especially in the Kansas City area, are significant. For starters, many small businesses in Kansas City end up doing a fair amount of business on both sides of the state line. The new Kansas tax exemption may provide incentive for a new pass-through entity (or an existing entity considering a move) to locate themselves in Kansas, instead of Missouri, so as to maximize the income tax savings provided by Kansas. Additionally, existing entities in Kansas that are currently not organized as a pass-through entity (traditional C-corporations, for instance) should weigh the current reasons they have for not being a pass-through entity against the potential tax savings of reorganizing as one.
However, a reorganization or move of a business to Kansas is not for everyone. As the Kansas City Star pointed out:
“States tax business income where it’s earned. So a Missouri resident who owns a Kansas pass-through company owes Kansas taxes on its profits. Missouri taxes the profits too, but it gives the owner credit for what Kansas has collected. With no more Kansas tax bill, Missouri stands to collect all the taxes.”
This means it very well may not make sense for a Missouri resident to even take into consideration the Kansas pass-through exemption, given that they would likely be taxed on any profits by Missouri. A careful analysis should be done by business owners to determine what is right for them and their business. The attorneys at Dysart Taylor excel in helping small business owners work through considerations such as the “new” Kansas pass-through tax treatment.
Contact Steve Bahr at firstname.lastname@example.org or 816-714-3063.