One of the most important changes in the Tax Cuts and Jobs Act relates to the Section 199A deduction for Qualified Business Income (QBI) which allows a new 20% deduction for pass-through income received. QBI includes taxable income, gain, deduction, and loss from a qualified business conducted in the United States. However, investment related items like capital gains and losses, dividends, and interest income generally do not count as QBI.
Due to the new tax law there is great potential for tax savings this year. The following table demonstrates the tax savings for 2018 as compared to 2017. The highest personal income tax rate on ordinary income is used in this example.
| 2018 | 2017 | |
| LLC/S Corp with QBI Deduction | LLC/S Corp | |
| Taxable Income of Qualified Business | $1,000,000 | $1,000,000 |
| Qualified Business Income Deduction | ($200,000) | |
| Taxable Income | $800,000 | $1,000,000 |
| Ordinary Income Tax (37% for 2018 & 39.6% for 2017) | $296,000 | $396,000 |
| Net After Tax | $704,000 | $604,000 |
This deduction applies to sole proprietors who report their income on Schedule C, single and multi-member LLCs, partnerships, and S corporations and should increase tax savings for many business owners and investors. However, it is quite complex with many different rules and limitations. In general, you will receive a deduction on your 2018 tax return equal to 20% of the income from the pass-through entity.
If your pass-through income is from a specified service trade or business including health, law, accounting, financial services, brokerage services, consulting, performing arts and athletics, you do not qualify for the deduction if your income exceeds the limits discussed below.
Regardless of the type of income, the deduction cannot exceed 50% of W-2 wages paid with respect to the QBI or the sum of 25% of W-2 wages plus 2.5% of the cost of qualified property. The second limitation allows capital-intensive businesses to benefit from the QBI deduction.
Keep in mind that the QBI deduction is applied on your individual return and not the return of the QBI that generates the income. The limitations discussed above do not apply to taxpayers with taxable income under $315,000 for married filing jointly taxpayers and $157,000 for all others.
There are many complexities involved with the new Section 199A deduction for QBI, so it is advised that you speak with us to help maximize your tax savings. Please contact Jamie Downey at JMDowney@DowneyCoCPA.com or at 800-849-6022.
