173T Tax Code: California PTE Election, Prepayment, and Credit

The California pass-through entity elective tax lets a qualifying partnership, S corporation, or LLC taxed as a partnership pay California income tax at the entity level at a flat 9.3% of its qualified net income, and each consenting owner then claims a matching 9.3% credit on their personal California return.¹ The election was designed as a workaround for the federal cap on state and local tax deductions, but federal changes taking effect in 2026 have weakened that benefit and mean the election is no longer an automatic win for high-income owners.

Which Businesses Can Make the Election

The election is open to entities taxed as partnerships or S corporations, including limited liability companies taxed as partnerships. The entity has to do business in California and be required to file a California return.¹

Two categories of entities are shut out. Publicly traded partnerships cannot elect, regardless of structure or income. Neither can an entity that is permitted or required to file as part of a combined report with a corporation.² The program is aimed at closely held businesses whose income flows to individual taxpayers.

Which Owners Can Be Included

Only “qualified taxpayers” can consent to the election and receive the credit. A qualified taxpayer must be an individual, fiduciary, estate, or trust subject to California personal income tax. Partnerships and corporations cannot be qualified taxpayers. A disregarded single-member LLC can qualify, but only if its owner is an individual, fiduciary, estate, or trust that meets the requirements.³

This matters when ownership is tiered. If a partnership holds a stake in an electing entity, that partnership is not a qualified taxpayer, and its share of income cannot go into the elective tax calculation. Only the income of consenting qualified taxpayers is included. An owner who does not consent stays out, and the entity can still proceed with the election for the rest.¹

Nonresident owners with California-source income through the entity can participate. Their pro rata or distributive share of California-source income is included in qualified net income for purposes of the elective tax.⁴

How the Tax Is Calculated

The rate is a flat 9.3% of the entity’s qualified net income. Qualified net income is the combined pro rata or distributive share of each consenting qualified taxpayer, plus any guaranteed payments to partners as described by Internal Revenue Code Section 707(c).¹ Only income subject to California personal income tax counts.

The guaranteed payments piece catches people out. Those payments are included in qualified net income, which raises the elective tax the entity pays and also raises the credit each partner receives on the personal return.² Leaving them out is a common source of filing discrepancies.

The rate does not scale with income. Qualified net income of $50,000 or $5 million is taxed at the same 9.3%.

The June 15 Prepayment

Before the entity can make the election on its return, it must submit a prepayment by June 15 of the taxable year. The required amount is $1,000 or 50% of the PTE elective tax paid for the prior year, whichever is greater.²

For taxable years beginning in 2026 and later, the consequence of missing that deadline has changed. Under the original rules, a missed or short June 15 payment killed the election for the year. Starting with the 2026 tax year, an entity that misses the payment or pays less than required can still make a valid election. Each qualified taxpayer’s credit is reduced, however, by 12.5% of their pro rata share of the unpaid amount that was due on June 15.⁵ A late or short payment no longer destroys the election, but it does shrink the credit for every participating owner.

Payments can go through the Franchise Tax Board’s Web Pay system or by using the Pass-Through Entity Elective Tax Payment Voucher.²

Making the Election on the Return

The election is made when the entity files its annual California return. The entity completes Form FTB 3804 and attaches it to the appropriate return: Form 100S for S corporations, Form 565 for partnerships, or Form 568 for LLCs.⁵

Two rules trip people up. First, the election must be made on a timely-filed original return. You cannot make it on an amended return. Second, once made, the election is irrevocable for that tax year, and it binds every partner, shareholder, or member of the entity whether they consented to be included or not.¹ Non-consenting owners are still bound by the election itself, though their income is not folded into qualified net income.

How Owners Claim the Credit

After the entity pays the 9.3% tax, each consenting owner claims the credit on their personal California return using Form FTB 3804-CR. The credit equals 9.3% of that owner’s share of qualified net income, including guaranteed payments.⁶

The credit is nonrefundable. It can reduce California tax liability to zero but will not generate a refund on its own. Any unused portion carries forward for up to five years.³ That carryforward matters for owners whose California income fluctuates or who have other credits reducing liability.

Form 3804-CR attaches to the owner’s personal return: Form 540 for residents, Form 540NR for nonresidents or part-year residents, or Form 541 for fiduciary returns.⁶

What Changed at the Federal Level for 2026

The whole point of the election is to convert a personal state tax payment into a deductible business expense at the federal level, sidestepping the SALT cap. The IRS approved that approach in Notice 2020-75. Two federal changes now affect that math.

First, the SALT deduction cap has been raised from $10,000 to $40,400 for most filers, with half that amount for married individuals filing separately, and 1% annual increases through 2029.⁷ The higher cap phases down for taxpayers with modified adjusted gross income above $500,000, eventually reaching $10,000 for the highest earners. After 2029, the cap reverts to $10,000. Owners whose state tax bill fits under the new ceiling may no longer need the workaround.

Second, the same federal legislation targeted entity-level SALT workarounds. The Joint Committee on Taxation’s description of the law states it abrogates Notice 2020-75, meaning entity-level state tax payments may no longer be freely deductible as business expenses outside the SALT cap. How that plays out depends on IRS implementation, and the area is evolving.

At the California level, the election still works the same way for 2026: the entity pays 9.3%, and consenting owners get a 9.3% credit. The federal deduction benefit that drove the election is what has weakened. Model the numbers with a tax advisor before electing in for 2026.

How Long the Program Lasts

Senate Bill 132 extended the elective tax for taxable years beginning on or after January 1, 2026, and before January 1, 2031, so qualifying entities can elect through the 2030 tax year.² The extension also brought the more forgiving June 15 prepayment rule described above. Unless further legislation extends it, the election will not be available for taxable years beginning on or after January 1, 2031.

1
California Legislative Information. California Revenue and Taxation Code 19900
2
Franchise Tax Board. Pass-Through Entity Elective Tax
3
California Legislative Information. California Revenue and Taxation Code RTC 17052.10
4
State of California Franchise Tax Board. Help With Pass-Through Entity Elective Tax
5
Franchise Tax Board. 2025 Instructions for Form FTB 3804 Pass-Through Entity Elective Tax Calculation
6
Franchise Tax Board. Instructions for Form FTB 3804-CR Pass-Through Entity Elective Tax Credit
7
Office of the Law Revision Counsel. 26 USC 164