Legal Definitions - Pass-through taxation

Pass-through taxation is a way of taxing businesses where the income earned by the business is not taxed at the entity level. Instead, the income is passed through to the owners of the business who pay personal income taxes on their share of the business. This type of taxation is usually applied to sole proprietorships, partnerships, and S-corporations.

For example, let's say you and your friend start a small business together. If your business is eligible for pass-through taxation, the income earned by the business will be passed through to you and your friend. You will both pay personal income taxes on your share of the income earned by the business.

Pass-through taxation is different from traditional corporations or C-corporations, where the company itself pays corporate taxes on the income earned by the corporation. The owners of the corporation are then taxed on the income they receive from the corporation, either through the sale of stock or distributions.

It's important to note that some states may have different regulations for pass-through taxation. In some cases, an entity that is eligible for pass-through taxation may choose to be taxed as a corporation instead.

One benefit of pass-through taxation is the Qualified Business Income Tax Deduction, which reduces the income that owners of a pass-through business must report on their personal income taxes by up to 20% if they qualify.