The Ohio Ways and Means Committee held a hearing today on Senate Bill 186 which contains a proposed legislative clarification of the eligibility requirements for taking the Ohio small business deduction (“SBD”). At issue, was whether small businesses which engage a professional employer organization to handle their payroll should be treated differently for purposes of the SBD from those that do not. Testifying at this hearing were representatives of the PEO industry, Cynthia Clay Thomas, owner of Carlisle Plastics Company, a CPA and Jeff Senney, an attorney with Pickrel, Scheaffer & Ebeling Co LPA. Below is an excerpt from Jeff Senney’s testimony:
Thank you for the opportunity to speak before the Committee on Senate Bill 186. My name is Jeffrey S. Senney. I am an attorney with Pickrel, Schaeffer & Ebeling Co LPA. We represent hundreds of small businesses that operate pass-thru entities sole proprietorships, LLCs, partnerships and “S” corporations. Some of these small businesses engage a professional employer organization (“PEO”) to handle their payroll, employee benefits and other administrative burdens. Others do not. The primary question we face here today is whether taxpayers who engage a PEO to handle payroll, employee benefits and other administrative burdens of their small business should be treated differently than those taxpayers who do not.
Under ORC section 5747.01(A)(31), each 20% owner of a qualifying pass-thru entity (“QPE”) is entitled to deduct the Ohio small business deduction (“SBD”) from his or her Ohio taxable income. The amount of the SBD is limited to the lesser of a percentage of the owner’s distributive share of income from the QPE or a specified dollar amount.
Under ORC section 5733.40(A)(7), in calculating the SBD amount, the amount of “guaranteed payments or compensation paid to investors by a qualifying entity” are treated as part of the distributive share of income from the QPE. This provision was necessary, if the SBD amount was to be calculated based on an owner’s total income from the QPE since the owners of “S” corporations, LLCs and partnerships take part of their income in the form of a distributive share and part in the form of W-2 compensation or guaranteed payments.
The Ohio Tax Department (“OTD”) has taken the position that owners of QPEs who engage a PEO to handle payroll and administrative services for the QPE’s employees and owners should be treated differently than those who do not. The OTD thinks it relevant for some reason that the money to pay the owner’s W-2 wages or guaranteed payment went thru the conduit of the PEO. That is, under the PEO contract, the QPE paid money to the PEO, and the PEO in turn wrote a check to pay the owner his wages or guaranteed payment.
OTD has set forth no rationale for treating QPEs that use a PEO for payroll any differently from those that do not. The fact is there is NO reason to treat QPEs that use a PEO differently from those that do not.
In fact, ORC section 4125.042(A)(1) clearly states that a client employer who has engaged a PEO is be entitled to the benefit of any tax credit, economic incentive and similar benefit arising as the result of the client employer’s employment of employees it shares with a PEO.
There is nothing in the ORC or the Ohio Administrative Code or case law that requires the interpretation of ORC section 5733.40(A)(7) that ODT is taking. In my opinion, the ODT position is contrary to legislative intent, contrary to the express language of ORC section 4125.042 and contrary to common sense.
The legislature is to be commended for its actions in quickly addressing this problem. SB 186 include language that makes it clear that for purposes of calculating the Ohio SBD, QPEs that engage a PEO to handle payroll for owners and employees will not be treated differently than those that do not.
Please note that all or most affected taxpayers claimed the maximum Ohio SBD starting in 2013. It is therefore critically important for this legislative fix to be retroactive to January 1, 2013 and all years starting thereafter. A fix that does not go back to 2013 is really no fix at all.
Thank you for your time and attention.
If you would like to know more about the status of Senate Bill 186 or have any questions about the Ohio small business deduction, please contact Jeff Senney at 937-223-1130 or Jsenney@pselaw.com