The Tax Cuts and Jobs Act (TCJA) effective for Tax Years beginning 2018 includes a new code section 199A.
A business that utilizes proactive, strategic tax planning should realize a windfall of additional tax savings in 2018 and future years, if and only if, YOU make these new tax laws work for you and your business!
The new pass-through deduction is designed to benefit pass-through businesses including partnerships, S-Corporations, sole proprietorships, and LLCs that elect to be taxed as one of these three.
Most of the calculations take place at the business level and are then passed on a pro-rata basis (ie 50% owner is allocated 50% of calculated amounts) to the business owner.
Qualified Business Income (QBI)
A new term of art – Qualified Business Income – or QBI was created under the new law and it’s very important that a business owner has a working knowledge of how the calculation works. Understanding the QBI calculation is critical because it will help you maximize the 20% deduction that will carry through to your personal tax return. With the new tax law’s elimination of certain business deductions and credits – you can’t afford to not maximize this benefit. Strategic tax planning and knowledge of your business financial numbers will be critical.
Calculating Your QBI
QBI does not include any amount paid by an S-Corporation that is treated as reasonable compensation of the individual business owner taxpayer. For a business set up as or taxed as a Partnership, QBI does not include any amount that is a guaranteed payment for services rendered and also does not include any amount paid to a partner who is acting other than in his or her capacity as a partner for services rendered. The business owner will calculate the deduction separately for each trade or business, and then combine the deductions from each trade or business.
Wage and Basis Limitation
Once the 20% of the QBI is determined, further potential limitations arise. The QBI deduction cannot exceed the Greater of:
a) 50% of the total W-2 wages from the trade or business b) 25% of the total W-2 wages from the trade or business, plus 2.5% of the unadjusted basis of depreciable assets from the trade or business.
Note: Each business owner will use their allocable share (based on ownership percentage) of total company W-2 wages and basis of depreciable assets from the business to calculate the above limitations. The W-2 limitation calculation will limit the deduction for a business that has a limited number of employees
Service Businesses – Limitations to the 20% Pass-Through Deduction
The new tax laws specifically excluded certain “specified service trade or business” income from qualifying for the deduction. For the purposes of the 20% deduction, service businesses are defined as those that involve the performance of services in the fields of health, law, accounting, consulting, actuarial science, athletics, arts, financial services, brokerage services, investment trading and management services, and any business where the principal asset is the reputation or skill of one or more of its employees or owners. Specifically excluded from the definition of service business is ENGINEERING and ARCHITECTURE.
Specified Service Businesses do not generally qualify for the 20% pass through deduction UNLESS the owners’ taxable income is below $315,000 (for joint filers) or $157,500 (for single filers). If the business owners’ taxable income is between $315,000 and $415,000 (joint) or $157,500 and $207,000 (single) only a percentage of the 20% deduction is available.
The above information is designed to create awareness and to generate further discussion only. Please don’t wait until the end of the year to start your planning!!
