The IRS has issued temporary regulations regarding IRC §199A deduction, a temporary regulation but who knows when or if they will become permanent.
IRS explains that under Code Sec. 199A, eligible taxpayers may be entitled to a deduction of up to 20 percent of qualified business income (QBI) from a domestic business operated as a sole proprietorship or through a partnership, S corporation, trust or estate.
For taxpayers with taxable income that exceeds $315,000 for a married couple filing a joint return, or $157,500 for all other taxpayers, the deduction is subject to limitations which are based on the type of trade or business, the taxpayer's taxable income, the amount of W-2 wages paid by the qualified trade or business and the unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business. Income earned through a C Corporation or by providing services as an employee is not eligible for the deduction.
This isn’t to say that some businesses will benefit from these deductions, however the deduction excludes licensed professionals, so we are out. Not to mention the deduction is below the line, meaning it’s not factored into AGI.
Eligible taxpayers may also be entitled to a deduction of up to 20 percent of their combined qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income. This component of the Code Sec. 199A deduction is not limited by W-2 wages or the UBIA of qualified property. The sum of these amounts and the above amount based on QBI is referred to as the "combined qualified business income amount."
Generally, the deduction is the lesser of the combined qualified business income amount and an amount equal to 20 percent of the taxable income minus the taxpayer's net capital gain. The deduction is available for tax years beginning after Dec. 31, 2017, regardless of whether an individual itemizes their deductions on Schedule A (Itemized Deductions) or takes the standard deduction on Form 1040. Most eligible taxpayers will be able to claim it for the first time when they file their 2018 federal income tax return in 2019.
Individuals, trusts and estates with QBI, qualified REIT dividends or qualified PTP income may qualify for the deduction. In some cases, patrons of horticultural or agricultural cooperatives may be required to reduce their deduction.
S corporations and partnerships are generally not taxpayers and cannot take the deduction themselves. However, all S corporations and partnerships report each shareholder's or partner's share of QBI, W-2 wages, UBIA of qualified property, qualified REIT dividends and qualified PTP income on Schedule K-1, so the shareholders or partners may determine their deduction.
Qualified business income is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business. Only items included in taxable income are counted. In addition, the items must be effectively connected with a U.S. trade or business. Items such as capital gains and losses, certain dividends and interest income are excluded.
A qualified trade or business is any trade or business, with two exceptions:
1. Specified service trade or business (SSTB). This includes a trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, investing and investment management, trading, dealing in certain assets or any trade or business where the principal asset is the reputation or skill of one or more of its employees. This exception only applies if a taxpayer's taxable income exceeds $315,000 for a married couple filing a joint return, or $157,500 for all other taxpayers.
2. Performing services as an employee. The computation of this deductions works like this. The SSTB limitation does not apply if a taxpayer's taxable income is below $315,000 for a married couple filing a joint return and $157,500 for all other taxpayers. The deduction is the lesser of:
- 20 percent of the taxpayer's QBI, plus 20 percent of the taxpayer's qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income
- 20 perent of the taxpayer's taxable income minus net capital gains.
- If the taxpayer's taxable income is above the $315,000/$157,500 thresholds, the deduction may be limited based on whether the business is an SSTB, the W-2 wages paid by the business and the unadjusted basis of certain property used by the business. These limitations are phased in for joint filers with taxable income between $315,000 and $415,000, and all other taxpayers with taxable income between $157,500 and $207,500.
These threshold amounts and phase-in range are for tax year 2018 and will be adjusted for inflation in subsequent years. Every time I read these I get a headache.
Again for some clients this will work but for others it is just easier to be a C corporation.
About Craig W. Smalley, EA
Craig W. Smalley, MST, EA, has been in practice since 1994. He has been admitted to practice before the IRS as an enrolled agent and has a master's in taxation. He is well-versed in US tax law and US Tax Court cases. He specializes in taxation, entity structuring and restructuring, corporations, partnerships, and individual taxation, as well as representation before the IRS regarding negotiations, audits, and appeals. In his many years of practice, he has been exposed to a variety of businesses and has an excellent knowledge of most industries. He is the CEO and co-founder of CWSEAPA PLLC and Tax Crisis Center LLC; both business have locations in Florida, Delaware, and Nevada. Craig is the current Google small business accounting advisor for the Google Small Business Community. He is a contributor to AccountingWEB and Accounting Today, and has had 12 books published on various topics in taxation. His articles have also been featured in the Chicago Tribune, New York Times, Yahoo Finance, Nasdaq, and several other newspapers, periodicals, and magazines. He has been interviewed and been a featured guest on many radio shows and podcasts. Finally, he is the co-host of Tax Avoidance is Legal, which is a nationally broadcast weekly Internet radio show.