What is Pass-Through Entity?

How pass-through works

The entity files an information return (1065 or 1120-S) but pays no federal income tax itself. Profit passes to owners via K-1 (or directly, for disregarded LLCs) and is taxed at their personal rates — whether or not cash was distributed.

Why most small businesses are PTEs

• One layer of tax instead of the C-corp's two
• The 20% QBI deduction (Section 199A) applies to much pass-through income
• Losses can offset the owner's other income, within basis limits

The trade-off

Owners pay tax on profits they may not have received in cash, and self-employment tax applies to much of it — which is exactly the problem the S-corp election exists to manage.