On June 24, 2022, Ohio Gov. Mike DeWine signed House Bill 515, broadening the eligibility for favorable treatment of sales of an equity or ownership interest in a pass-through entity (PTE). The measure was passed unanimously by both chambers of the legislature.
Under previously enacted Ohio law, individual taxpayers filing either ‘single’ or ‘married filing jointly’ are allowed a deduction for the first $250,000 of ‘business income’ earned. Business income in excess of this threshold is taxed at a flat 3% rate (Ohio Rev. Code Ann. section 5747.01(A)(28)). Nonbusiness income is taxable for individuals at ordinary rates, up to a maximum of 3.99% (for tax year 2021). Historically, income from the sale of an equity or ownership interest in a business has been classified as nonbusiness income for Ohio individual tax purposes.
House Bill 515 expands the ‘business income’ definition to include income associated with the sale of an equity or ownership interest in a business. To qualify, the transaction must be treated as an asset sale for federal income tax purposes, or the seller must have materially participated in business activities during the taxable year in which the sale occurs or the five preceding tax years. The bill’s changes apply to any refund applications, petitions for reassessments and appeals pending on or after the bill’s 90-day effective date, and any transaction subject to an audit on or after the effective date of the bill.
Previously, income from the sale of an interest in a PTE was typically taxable for Ohio residents at ordinary rates and nontaxable in Ohio for non-residents—for non-residents, nonbusiness income from the sale of their intangible property would generally be allocable to their domicile or home state. If an Ohio seller of an ownership interest meets the criteria of the new law, the seller is eligible to exclude the first $250,000 of income from taxation and pay tax on the excess at a preferential rate, mitigating the previous disparity in tax treatment for in-state and out-of-state investors.
Planning opportunities related to the new law exist for both Ohio resident and non-resident PTE owners. Investors in PTEs doing business in Ohio should carefully consider the potential tax implications of an exit transaction under the new provisions and proactively work to ensure that the active participation or asset sale treatment requirements are either satisfied or not, depending on desired outcomes. Taxpayers with questions about House Bill 515 should consult with their state and local tax advisers.