Experienced Small Business Tax Accountant - Significant
new tax deduction taking effect in 2018 under the new tax law. It should
provide a substantial tax benefit to individuals with “qualified business
income” from a partnership, S corporation, LLC, or sole proprietorship. This
income is sometimes referred to as “pass-through” income.
The deduction is 20% of your “qualified business income (QBI)”
from a partnership, S corporation, or sole proprietorship, defined as the net
amount of items of income, gain, deduction, and loss with respect to your trade
or business. The business must be conducted within the U.S. to qualify, and
specified investment-related items are not included, e.g., capital gains or
losses, dividends, and interest income (unless the interest is properly
allocable to the business). The trade or business of being an employee does not
qualify. Also, QBI does not include reasonable compensation received from an S
corporation, or a guaranteed payment received from a partnership for services
provided to a partnership's business.
The deduction is taken “below the line,” i.e., it reduces your
taxable income but not your adjusted gross income. But it is available
regardless of whether you itemize deductions or take the standard deduction. In
general, the deduction cannot exceed 20% of the excess of your taxable income
over net capital gain. If QBI is less than zero it is treated as a loss from a
qualified business in the following year.
Rules are in place (discussed below) to deter high-income
taxpayers from attempting to convert wages or other compensation for personal
services into income eligible for the deduction.
For taxpayers with taxable income above $157,500 ($315,000 for
joint filers), an exclusion from QBI of income from “specified service” trades
or businesses is phased in. These are trades or businesses involving the
performance of services in the fields of health, law, consulting, athletics,
financial or brokerage services, or where the principal asset is the reputation
or skill of one or more employees or owners. Here's how the phase-in works: If
your taxable income is at least $50,000 above the threshold, i.e., $207,500
($157,500 + $50,000), all of the net income from the specified service trade or
business is excluded from QBI. (Joint filers would use an amount $100,000 above
the $315,000 threshold, viz., $415,000.) If your taxable income is between
$157,500 and $207,500, you would exclude only that percentage of income derived
from a fraction the numerator of which is the excess of taxable income over
$157,500 and the denominator of which is $50,000. So, e.g., if taxable income
is $167,500 ($10,000 above $157,500), only 20% of the specified service income
would be excluded from QBI ($10,000/$50,000). (For joint filers, the same
operation would apply using the $315,000 threshold, and a $100,000 phase-out
range.)
Additionally, for taxpayers with taxable income more than the
above thresholds, a limitation on the amount of the deduction is phased in
based either on wages paid or wages paid plus a capital element. Here's how it
works: If your taxable income is at least $50,000 above the threshold, i.e.,
$207,500 ($157,500 + $50,000), your deduction for QBI cannot exceed the greater
of (1) 50% of taxpayer's allocable share of the W-2 wages paid with respect to
the qualified trade or business, or (2) the sum of 25% of such wages plus 2.5%
of the unadjusted basis immediately after acquisition of tangible depreciable
property used in the business (including real estate). So if your QBI were
$100,000, leading to a deduction of $20,000 (20% of $100,000), but the greater
of (1) or (2) above were only $16,000, your deduction would be limited to
$16,000, i.e., it would be reduced by $4,000. And if your taxable income were
between $157,500 and $207,500, you would only incur a percentage of the $4,000
reduction, with the percentage worked out via the fraction discussed in the
preceding paragraph. (For joint filers, the same operations would apply using
the $315,000 threshold, and a $100,000 phase-out range.)
Other limitations may apply in certain circumstances, e.g., for
taxpayers with qualified cooperative dividends, qualified real estate
investment trust (REIT) dividends, or income from publicly traded partnerships.
Obviously, the complexities surrounding this substantial new
deduction can be formidable, especially if your taxable income exceeds the
threshold discussed above. If you wish to work through the mechanics of the
deduction with me, with particular attention to the impact it can have on your
specific situation, please give me a call.
We're here to help! For no obligation free consultation
contact us today!
Amare
Berhie, Senior Accountant
(651) 300-4777
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