Published Aug. 08, 2025 01:24AM EDT
Tax Implications of Becoming a Partner
If you’ve made partner, or are about to, congratulations! It is a huge accomplishment that comes with many great opportunities. One of the perhaps less celebratory of these is the tax implications of becoming a partner. It is one of the common reasons we see people hire tax preparers in the DC and NYC areas. This article outlines the general tax implications to be aware of and better prepare you for this development.
No Changes in the Year You Make Partner
For the year you make partner, the next tax season will have few changes from the one prior. For example, if you were promoted in 2024, then your return for 2024 is going to reflect your life as a non-partner. The changes will not happen until the first full year you have been partner. This is true even for most firms whose fiscal year is something other than the calendar year.
The way to confirm this is simply based on what form you receive. You should receive a W-2 for the year of your promotion, as you have in the past.
The one issue you should plan ahead for is paying estimated taxes. If you will no longer be an employee of the firm (discussed below), then the firm will no longer pay your taxes for you throughout the year. Thus, to avoid penalties and interest, you need to make estimated tax payments throughout your first year of being a partner. We can help you estimate this. The rule is to pay the lesser of 90 percent of taxes you will owe for your year as partner or 110 percent of the taxes paid for the previous year.
Non-Equity Partners Can Have Differing Tax Implications
If your firm has two tiers of partners, equity partners and non-equity partners (sometimes called income partners), the tax implications of becoming partner may be few if you are in the latter category. Firms treat their non-equity partners in different manners. Some continue to see these partners as employees and thus provide them a salary and bonus as W-2 wages. Others, however, treat their non-equity partners as general partners in the firm. This means the “non-equity partner” has to make equity contributions to the firm and will no longer receive employment wages. Instead, they will receive a K-1 reporting self-employment income.
If you receive a K-1, for tax purposes, your return is going to be essentially the same as that of an equity partner discussed below. It is probably time to get help with preparing your return if you do not already do so.
For W-2 partners, however, your taxes will largely remain the same. Consequently, the promotion will not require you to change how you prepare returns or manage your taxes.
The Tax Implications of Becoming an Equity Partner
If you are becoming an equity partner or a non-equity partner receiving a K-1, then your taxes will change materially for your first full year as a partner. For a partner promoted in 2024, for example, you will first need to manage this different type of return for your 2025 taxes that are to be filed in 2026.
The major change is that your income is now self-employment income. You will receive a K-1 rather than a W-2. This comes with several new elements to track:
- Business Expense Deductions. Your opportunity for deductions increases, as many non-reimbursed expenses that are ordinary and necessary to your work can be deductible.
- Filing In Multiple States. You likely will need to prepare and file tax returns in most states in which your firm engages in business. This is a result of being a partial owner of the firm such that income generated in other states is now passed through to you personally as if you made the income in that state.
- PTE Credits and Exclusions. You may be able to avoid the $10,000 cap on the deduction for state and local taxes (SALT) paid. This is done through pass through entity (PTE) credits or exclusions, which I discuss in this blog post (link). The short version is that you might be able to pay SALT taxes at the entity level as a way to deduct them as an expense on your federal return.
- Estimated Taxes. As a self-employed person, you now need to pay your taxes as the year goes on. You must pay at least 90 percent of the taxes you will owe for the year or 110 percent of taxes paid for the year prior.
- Health Insurance Deduction. You can typically deduct the cost of your health insurance now. Though, if your spouse works, it may be more cost effective to be covered by your spouse’s employer-sponsored plan.
- Retirement Plan Contributions. You can now take advantage of certain self-employment plans that allow you to reduce your taxable income. Some firms will dictate this through the partnership agreement but others leave it to the partners to manage for themselves.
The most important of these for avoiding penalties and fees are the state-filing requirements and the need to pay estimated taxes throughout the year. Failing to manage your PTE credits and exclusions rarely will result in penalties. But this can result in leaving substantial money on the table with one or more states.
Mid-Atlantic Law & Tax is happy to help anyone through the exciting milestone that is being promoted to partner. Please reach out for a consultation so that we can help you manage the tax implications of becoming a partner!
