Business taxes
South Carolina's 3% Rate on Active Trade or Business Income: Where It Stands for 2026
South Carolina lets owners of sole proprietorships, partnerships, S corporations and LLCs taxed as one of those choose a 3% rate on active trade or business income instead of the regular individual rates. Individuals elect it each year on Form I-335; a qualifying partnership or S corporation can instead elect to pay the 3% tax itself, computed on Form I-435. H.4216 did not amend the statute, but SCDOR has not yet said how the election fits the new 2026 rate structure.
- S.C. Code 12-6-545 caps the rate on qualifying pass-through income at 3% for tax years after 2013. H.4216 (Act 110) did not amend that section.
- Qualifying income excludes wages, guaranteed payments for services, other amounts reasonably related to personal services, passive investment income and capital gains.
- Individuals choose the 3% computation annually on the I-335. On a joint return the choice covers both spouses.
- A qualified partnership or S corporation may elect each year to pay the 3% tax at the entity level on the I-435. Owners then exclude that income.
- The 2026 I-335 and I-435 had not been published when we checked, and the interaction with the new 1.99%/5.21% structure and the SCIAD is unsettled.
Who this applies to
- Sole proprietors and single-member LLC owners with South Carolina business profit on Schedule C or F
- Partners, S corporation shareholders and LLC members receiving SC K-1s
- Owners deciding whether their partnership or S corporation should make the entity-level election
- Nonresident owners whose South Carolina K-1 income could be taxed at the entity level
Who this may not apply to
- W-2 wages, including wages an S corporation pays its owner
- C corporation shareholders (dividends are not pass-through income)
- Owners whose only pass-through income is passive investment income or capital gains
What the 3% rate is
Since 2006 South Carolina has offered a reduced rate on income from an active trade or business that flows through to its owners. S.C. Code 12-6-545(B) says that, notwithstanding the regular individual rate section, a taxpayer may elect each year to have active trade or business income taxed at a special pass-through rate. That rate stepped down from 6.5% in 2006 and has been 3% for tax years beginning after 2013. Income taxed this way is not taxed again under the regular rates.
A pass-through business, for this purpose, is a sole proprietorship, partnership, S corporation, or LLC taxed as one of those. The question is never just whether you own one. It is how much of what you take out of it counts as active trade or business income.
What counts, and what does not
The statute and the I-335 instructions exclude four categories from active trade or business income:
- Passive investment income and the expenses related to it. Interest, dividends and most royalties fall here unless they arise in the ordinary course of the business, such as interest on customer receivables.
- Capital gains and losses.
- Guaranteed payments for personal services. Guaranteed payments for the use of capital can qualify.
- Amounts reasonably related to the personal services of you, your spouse or your dependents. W-2 wages are excluded by definition.
Rental income usually does not qualify. The SCDOR instructions allow rents only from an active rental business that provides significant services or has substantial expenses other than depreciation, and give a hotel or a short-term car rental business as examples. A portfolio of long-term residential leases generally does not meet that test.
The personal services problem
This is where most of the work is. S.C. Code 12-6-545(A) presumes that if an owner who performs services is not paid a reasonable amount for them, all of that owner's income from the entity relates to personal services and none qualifies. Practically, an S corporation owner who takes little or no salary loses the 3% rate on the profits, not just on a notional wage.
There is a safe harbor. If your total South Carolina taxable income from pass-through entities where you perform personal services is $100,000 or less, excluding capital gains and losses, you may treat 50% of that income as not related to personal services instead of proving the actual split. Married couples filing jointly test the $100,000 on combined income. Above that level, the split has to be supported on its facts, and SCDOR points to Revenue Ruling 08-2 for how.
Two ways to use the rate
| Individual election (I-335) | Entity-level election (I-435) | |
|---|---|---|
| Who decides | Each owner, on their own return | The partnership or S corporation, for all owners |
| When | Each year, with the SC1040 or SC1041 | Each year, on page 1 of the SC1065 or SC1120S, by the return due date including extensions |
| Who pays the 3% | The owner | The entity |
| Who qualifies | Any individual, estate or trust with pass-through income | A qualified entity: every owner must be a qualified owner (an individual, estate, trust or other qualifying entity) or a partnership owned by qualified owners |
| How owners report | Compute qualifying income on the I-335 and its worksheets | Exclude the entity-taxed income from SC taxable income; the SC K-1 shows the amount |
| Estimated payments | Through the owner's SC1040ES | The entity pays estimates if it expects to owe $100 or more |
The entity-level election has side effects beyond the rate. Income the entity pays tax on is not subject to South Carolina's 5% nonresident owner withholding, which can simplify life for an S corporation with an out-of-state shareholder. A partnership's nonrefundable credits can offset its entity-level tax. And S.C. Code 12-6-545(G) makes the entity liable for the tax, while leaving owners' basis rules unchanged.
What H.4216 changed, and what it left open
We checked the enacted text of H.4216 (Act 110 of 2026) and SCDOR Information Letter 26-23, which summarizes the 2026 legislation. The act rewrites the individual rate section, 12-6-510, to 1.99% of taxable income under $30,000 and 5.21% of taxable income minus $966 at $30,000 and above, starts the SC return from federal AGI, and adds the SC Income Adjusted Deduction. It does not mention section 12-6-545 or active trade or business income. The 3% rate remains law for 2026.
What is not settled is how the pieces fit together on a 2026 return. The 2025 I-335 still describes graduated rates from 0% to 6% and a 2025 breakpoint below which the 3% rate cannot help. The two-tier formula, with its $966 subtraction and a SCIAD that phases out with federal AGI, raises questions the old form did not have to answer: how the $30,000 threshold applies when part of income is carved out at 3%, and how the SCIAD interacts with the carve-out. The statute does not answer them, and SCDOR, which has said more H.4216 guidance is coming, has not published 2026 versions of the I-335 or I-435.
Our position until SCDOR speaks: we do not estimate 2026 savings from the 3% rate with a formula SCDOR has not adopted. For planning, we identify how much of your income would qualify, which does not depend on the rate structure, and model the election both ways once the 2026 forms are out. Entities considering the entity-level election for 2026 have until the return due date, including extensions, to decide, so there is usually no reason to commit early.
How we handle it
Haigler CPA Group reviews owner compensation against the personal services rules, separates qualifying income from passive and capital items line by line on each SC K-1, and prepares the I-335 or the entity-level I-435 with the SC1065 or SC1120S. Reasonable compensation is also a federal issue for S corporations; our S corporation election page covers that side.
Want this worked out for your situation?
The rules above are general. Bring your numbers to a free consultation, in person on James Island or by video, and we will tell you how they apply to you.
S corporation election — We work out whether an S corporation election pays for itself on your numbers, file Form 2553 inside the window, and set up the salary, payroll and returns that come with it.
Sources
- S.C. Code Title 12, Chapter 6 (Section 12-6-545, pass-through trade or business income)
- SCDOR — I-335 Active Trade or Business Income Reduced Rate Computation (2025, Rev. 6/17/25)
- SCDOR — S Corporation (entity-level election, I-435)
- SCDOR — Partnership (entity-level election, nonresident withholding)
- SCDOR — Information about H.4216
- SCDOR — SC Information Letter #26-23, Tax Legislative Update for 2026
- SC Legislature — H.4216 (Act No. 110 of 2026)
South Carolina publishes new guidance and local governments change their rates, so check the source pages for anything that has moved since the date above. The information on this site is general in nature and is not tax, legal, or accounting advice for your situation. Tax law changes and the right answer depends on facts we would need to review with you. Please speak with a qualified professional before acting on anything you read here.
Questions people ask about this
Did H.4216 repeal the 3% active trade or business rate?
No. H.4216 amended the regular individual rates in section 12-6-510 but did not touch section 12-6-545, so the 3% rate is still law for 2026. SCDOR has not yet published 2026 forms or guidance explaining how it interacts with the new rate structure.
Can my S corporation salary qualify for the 3% rate?
No. W-2 wages and other amounts reasonably related to your personal services are excluded. If you take no reasonable salary at all, the statute presumes all of your income from the entity relates to personal services, which can disqualify the profits too.
Does rental income qualify?
Usually not. Rents qualify only from an active rental business that provides significant services or has substantial expenses other than depreciation, such as a hotel. Ordinary long-term leasing generally does not.
What is the $100,000 safe harbor?
If your South Carolina taxable income from pass-through entities where you perform services is $100,000 or less, excluding capital gains and losses, you can treat 50% of it as unrelated to personal services instead of proving the split. Joint filers use combined income.
Should our S corporation make the entity-level election for 2026?
It depends on the owners, nonresident withholding and how SCDOR resolves the 2026 interaction with the new rates. The election is made on the return, by its due date including extensions, so it can be decided once the 2026 forms are available.
Keep reading
- SC income tax in 2026For tax year 2026, South Carolina taxes income under $30,000 at 1.99% and income of $30,000 or more at 5.21% minus $966. The state return now starts from federal adjusted gross income, ignores the federal standard and itemized deductions, and gives its own South Carolina Income Adjusted Deduction (SCIAD) instead. The state's own subtractions, such as the retirement, age 65, military retirement and 44% capital gains deductions, were not amended by the act.
- Nonresident owner withholdingA partnership or S corporation with South Carolina income must withhold 5% of each nonresident owner's share of South Carolina taxable income, whether or not it distributed any cash, and pay it by the 15th day of the third month after year end. No withholding is required for an owner who files an I-309 affidavit, joins a composite return or is tax-exempt, or on income the entity already paid tax on under the 3% entity-level election.
- LLC vs. S Corporation Taxes in South CarolinaAn LLC and an S corporation are not two competing entities — one is a state-law structure, the other a federal tax election, and most South Carolina owners can have both. What changes is how much of your profit is exposed to self-employment tax.
- S corporation electionWe work out whether an S corporation election pays for itself on your numbers, file Form 2553 inside the window, and set up the salary, payroll and returns that come with it.
- SC bonus depreciation addbackSouth Carolina does not allow federal bonus depreciation under IRC Section 168(k). In the year an asset is placed in service, you add back the difference between your federal depreciation and the depreciation you would have claimed without bonus, then take extra South Carolina depreciation in the later years of the same recovery period. The asset carries a higher South Carolina basis until it is fully depreciated or sold.
- SC business license taxSouth Carolina has no statewide business license. Cities and counties that choose to levy one charge a business license tax, an excise on the privilege of doing business that is measured by gross income, not profit. Since Act 176 standardized the rules, every jurisdiction that levies it uses a May 1 to April 30 license year, an April 30 renewal date, a standard application and a common class schedule, but each sets its own rates.
- SC business tax creditsSouth Carolina has dozens of income tax credits for businesses, each with its own statute, schedule and limits. Most are nonrefundable: you claim them on a TC schedule summarized on the SC1120TC or SC1040TC, they cannot reduce tax below zero, and many are capped at a share of the tax owed, with unused amounts carried forward. For most Charleston-area small businesses, the credits worth checking first are the jobs credit, the research credit and the apprenticeship credit.
- South Carolina tax guideHow South Carolina taxes income, businesses and property, and what the Charleston area adds on top, with the state or local source beside every rule.
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