A new law signed by President Bush on August 3, 2006, and supported by the American Institute of Certified Public Accountants (AICPA), as well as others in the accounting profession, prohibits states from taxing the retirement income of partners who are not residents of that state.

The law amends Title 4 of the Untied States Code to clarify the treatment of self-employment for purposes of the limitation of State taxation of retirement income. Specifically, the law clarifies that U.S.C. Section 114(a) covers nonresident retired partners.

“The new law ensures that states’ tax rules for retirees are uniform, whether the retiree was an employee or partner,” Tom Ochsenschlager, AICPA Vice President – Taxation, said in a prepared statement. “It guarantees equity.”

The passage and enactment into law of H.R. 4019 clarifies the original intent of a 1996 law that prohibits states from taxing nonresident employees’ retirement income. The new law applies to amounts received after December 31, 1995. Under the law, "States could not impose an income tax on nonresident retirement income received under certain nonqualified deferred compensation plans, including written plans, in effect at the time of retirement, providing for payments to a retired partner in recognition of prior service," according to CCH, a Wolters Kluwer company. Further, the law clarifies the definition of "substantially equal periodic payments" to permit plan caps on retiree payments and cost of living adjustments.

Ochsenschlager said enactment of the bill is important to many CPAs who are, or were, partners of accounting and consulting firms. “On behalf of our members, we thank the Congress and President for moving expeditiously to correct this unintended consequence of the tax law when it was exposed,” he said.