On December 22, 2017, the president signed into law the tax reform act of 2017 (the Act) — the most significant change to the tax code in 31 years. Among the more significant changes is the creation of a new 20% deduction generally for “qualified business income” received by certain pass-through entities. Under this business-friendly provision, eligible individuals could see their maximum rate of tax on qualifying income reduced from 37% to 29.6%.
Very broadly, the deduction is available to eligible owners of sole proprietorships, S corporations and partnerships (including LLCs and other entities taxed as partnerships) that are qualified trades or businesses with qualified business income. The deduction only applies to certain qualified businesses conducted within the United States and specifically excludes service professions such as doctors, dentists, accountants, financial and investment consultants and brokerage providers, attorneys, artists, athletes and any business where the principal asset is the reputation or skill of one or more employees or owners if certain income limits are exceeded. These eligibility restrictions are complex and require application of a set of tests and analysis more fully addressed in a detailed explanation available below. The deduction is also limited in several ways through a series of income limitations based on the taxpayer’s “combined qualified business income,” “qualified property” and W-2 wages. Adding to the provision’s complexity, there is an exclusion to these various limitations for eligible owners of pass-through entities if the owner’s non-wage, taxable income is below $157,000 for single filing taxpayers or $315,000 for taxpayers filing joint returns. For more detail on these income limitations, click the link at the end of this article.
If wading through the new tax regulations leaves you feeling overwhelmed, you are not alone. To assist owners of pass-through entities in determining whether they qualify for the new deduction, the Hirschler Fleischer Tax Team has prepared a detailed explanationon eligibility and application of the deduction which is available at the link below. Through illustrative examples, the primer breaks down the requirements of the provision into a series of tests, highlighting, in particular:
- What constitutes qualified trades or businesses and qualified business income
- The application of income limitations and its complications
- Key exclusions to the deduction
To see more detailed explanations, click here. To learn more about this new Section 199A deduction, contact a member of the Hirschler Fleischer Tax Team.
FAQs
For 2023, the threshold is taxable income up to $364,200 if married filing jointly, or up to $182,100 if single. If your income is within this threshold, your pass-through deduction is equal to 20% of your qualified business income (QBI).
How do you know if you qualify for business income deduction? ›
The QBI deduction in 2023
For tax year 2023 (filed in 2024), you qualify for the QBI deduction if you are self-employed and your taxable income falls below $182,100 for individuals, or $364,200 for joint returns, as well as certain taxpayers with higher business income.
Which businesses would be ineligible for the pass-through deduction? ›
Those generally not falling into the SSTB designation are: rideshare services, sales, engineering, architecture, real estate and property management, contracting, landscaping, childcare and eldercare, grooming (even of pets), notary services, and restaurants and food trucks.
Who is ineligible for a pass-through deduction? ›
The deduction only applies to certain qualified businesses conducted within the United States and specifically excludes service professions such as doctors, dentists, accountants, financial and investment consultants and brokerage providers, attorneys, artists, athletes and any business where the principal asset is the ...
Which of the following businesses would be eligible for the pass through deduction? ›
Some common examples include sole proprietorships, partnerships, LLCs, LLPs, and S corporations. “Pass-through” means that any profits or losses from operating the business are passed to the individual owners, who pay taxes on their returns.
What does it mean to qualify for a deduction? ›
A tax deduction is a provision that reduces taxable income. A standard deduction is a single deduction at a fixed amount. Itemized deductions are popular among higher-income taxpayers who often have significant deductible expenses, such as state and local taxes paid, mortgage interest, and charitable contributions.
What is an example of a pass-through deduction? ›
If someone owned a pass-through business and had $100,000 of qualified business income as a single filer, they would first take the standard deduction of $13,850. After that deduction, their qualified income for the Qualified Business Income Deduction would be reduced to $86,150.
What does it mean to say that a business has pass-through taxation? ›
A pass-through business is a sole proprietorship, partnership, or S corporation that is not subject to the corporate income tax; instead, this business reports its income on the individual income tax returns of the owners and is taxed at individual income tax rates.
Does the IRS allow a deduction for pass-through entity tax? ›
PTEs that pay state income taxes at the entity level can then deduct the amounts paid when determining federal ordinary income, in effect creating a deduction for state income taxes that's not subject to the $10,000 limitation.
What business does not qualify for QBI deduction? ›
Income earned through a C corporation or by providing services as an employee is not eligible for the deduction.
In contrast to pass-through entities being taxed on the individual level, C corps and LLCs that elect to be taxed as a corporation are not treated as pass-through entities.
What is an ineligible pass? ›
A player who cannot legally catch a forward pass. This includes offensive players who do not line up for a play on either end of the offensive line or at least one yard behind it when the ball is snapped.
What is the deduction for pass-through income? ›
199A Deduction) The Tax Cuts and Jobs Act (TCJA) created a deduction for households with income from sole proprietorships, partnerships, and S corporations, which allows taxpayers to exclude up to 20 percent of their pass-through business income from federal income tax.
What is a qualified pass-through entity? ›
A qualifying PTE is an entity taxed as a partnership or S corporation.
What is a pass-through for tax purposes? ›
Pass-through entities are businesses that pass their income directly to their owners, shareholders, or investors. Revenues are taxed only on individuals, not on the entity itself.
