As Maine considers adopting a pass-through entity tax (PTET), business owners are watching closely for how it might affect operations. While PTET deals primarily with income tax, it could also ripple through payroll systems, owner compensation, and cash flow management. Understanding these links now can help Maine employers prepare for possible changes in 2025 and beyond.
What PTET Is . . . and Why It Matters
PTET allows certain businesses—S corporations, partnerships, and LLCs—to elect to pay state income tax at the entity level instead of the individual level. In states that already offer PTET, the business pays the tax directly, and owners claim a credit or deduction on their personal returns.
The PTET concept was created in response to the federal $10,000 cap on state and local tax (SALT) deductions. By paying the tax through the business, owners can bypass that cap and deduct the full amount on their federal returns.
Maine has studied this approach and considered legislation to implement it. Though it’s not yet enacted, employers should understand how PTET could influence payroll and owner payment strategies if adopted.
How PTET Affects Owner Compensation
For S corporations and other pass-throughs, owner compensation typically includes both a salary (reported on Form W-2) and profit distributions (reported on Schedule K-1). If Maine adopts a PTET, the balance between wages and distributions could shift.
Because the entity, not the individual, would pay the state income tax, some owners may choose to adjust the mix of W-2 wages and K-1 income to maximize the deduction at the entity level. Payroll administrators and accountants will need to coordinate these decisions carefully to ensure:
- Owner salaries remain “reasonable” for IRS purposes
- Payroll taxes (Social Security, Medicare, unemployment) are correctly applied
- Benefits and retirement plan contributions stay compliant with existing structures
Even minor changes to compensation strategy can affect payroll reporting and tax filings, so planning ahead will be key.
Withholding and Estimated Payments
Maine currently requires pass-through entities to withhold tax for nonresident owners who earn Maine-source income. If the state introduces a PTET, that withholding framework may change. Entities electing PTET might be able to offset or replace existing nonresident withholding requirements. Until the rules are finalized, businesses should prepare for either scenario.
Likewise, PTET could affect estimated tax payments. Currently, owners of pass-through entities often make quarterly estimated payments individually. If the entity begins paying tax on their behalf, those personal payments may need to be reduced or eliminated to avoid overpayment.
Payroll and finance teams can prepare by:
- Reviewing owners’ current withholding and estimated tax schedules
- Identifying how PTET payments might replace or modify existing processes
- Setting up systems to track and reconcile any overlapping payments
Cash Flow and Payroll Timing
Entity-level taxation can also change when cash leaves the business. Under the current model, owners pay state taxes individually at various points during the year. Under PTET, the entity would make those payments directly—possibly earlier or in larger installments.
That shift can affect liquidity and payroll scheduling, especially for small and mid-sized businesses. To maintain smooth operations, consider:
- Coordinating PTET payments and payroll cycles. Large tax payments could coincide with bonus or distribution periods.
- Building reserves. Anticipate potential cash flow dips around filing and payment dates.
- Communicating early. Payroll teams and ownership should align on when funds will be needed for both payroll and tax obligations.
By anticipating timing changes, employers can avoid the stress of last-minute cash shortages.
Reporting and System Adjustments
If Maine implements PTET, payroll and accounting systems will need updates. Most software currently records income tax payments at the individual level, not the entity level. Businesses may need to create new accounts or modify classifications to ensure PTET payments are recorded correctly.
Areas to review include:
- Chart of accounts setup for PTET payments
- Payroll coding for owner compensation and draws
- Integration between payroll software and the general ledger
- Communication with payroll providers about new reporting requirements
Misclassifying PTET payments could lead to reconciliation issues or duplicate payments. Updating processes and documentation in advance can help maintain accuracy once rules take effect.
Steps to Take Now
Even before Maine’s PTET is enacted, businesses can prepare by reviewing their systems and policies. Key steps include:
- Evaluate structure and compensation policies. Determine how PTET might change the balance between wages, distributions, and cash reserves.
- Model different tax outcomes. Run projections for 2025 to see how PTET could affect total tax payments and take-home income.
- Coordinate payroll and finance teams. Make sure everyone understands how PTET payments could overlap with existing obligations.
- Stay informed. Monitor updates from Maine Revenue Services and your accounting advisor as the legislation develops.
Proactive planning will make it easier to adapt quickly once final rules are issued.
Looking Ahead
If Maine adopts a PTET, the change will primarily target income tax, but payroll and cash management practices will play a big role in its success. Businesses that coordinate payroll and tax planning early will be better positioned to take advantage of any new deductions or credits available under PTET.
For Maine employers, now is the time to review compensation structures, update systems, and open conversations with accounting advisors. Preparing today could prevent confusion—and potentially save money—once PTET becomes part of Maine’s tax landscape.
John Hadwen is a Principal at ARB. He specializes in providing individuals and businesses with comprehensive
tax compliance and consulting services related to closely-held business, manufacturing, construction & real estate, and professional services firm taxation. Prior to joining ARB, John was a Tax Principal at a large, regional CPA firm.
