Pass-through taxation

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Pass-through taxation refers to businesses that do not pay taxes on the entity level. Instead, the income passes to the owners of the business who pays personal income taxes for their share of the business. Pass-through taxation typically applies to sole proprietorships, partnerships, and S-corporations as long as no exception applies. This is opposed to either traditional corporations or C-corporations, in which the company itself pays corporate taxes on income the corporation earns and later gets taxed on the owner level whether through sale of stock or distributions. States often have similar pass-through taxation regulations as the federal government, but some states may require documentation or taxation from the entity-level where the federal government would not. In some circumstances, an entity eligible for pass-through taxation may be able to be taxed as a corporation should the owners choose. Also, the Tax Cuts and Jobs Act created an important Qualified Business Income Tax Deduction which reduces the income an owner of a pass-through business must report on their personal income taxes up to 20% if they qualify. 

For more on pass-through taxation, see this National Law Review article: Impact on Individuals Operating a Business Directly or Indirectly through a Pass-Through Entity (McGinley and Lorch), this Southern Methodist University Law Review article: The Taxation of Private Business Enterprises (Yin), and this National Law Review article (Ashraf and Wallwork)

[Last updated in April of 2022 by the Wex Definitions Team]