From Boston.com:
During 2008, the Massachusetts Department of Revenue (DOR) issued a directive which disallows partners and other self employed individuals a deduction for contributions made to their 401(k) plans. This directive is a clarification of an existing Massachusetts law that had not been enforced by the DOR for years. This directive does not apply to the employees of said businesses, just the owners. This will effectively increase the taxes of an individual contributing $15,500 to their 401(k) plan by $820.
View Directive 08-3 here (which indicates matching contributions are also taxed?). Excerpt:
For taxable years beginning on or after January 1, 2008, this Directive clarifies and prescribes the Massachusetts personal income tax treatment of contributions made on behalf of partners and other self-employed individuals under a so-called 401(k) plan. As explained in this Directive, under G.L. c. 62, § 2(d)(1)(D), partners and other self-employed individuals are denied any deduction for contributions to their 401(k) plans, irrespective of whether the contributions are elective contributions or matching contributions made on their behalf. This Directive supersedes or modifies all other DOR public written statements to the extent that they may appear to be inconsistent with it.