Some Businesses are Eligible for a Major Tax Deduction

In late 2017  and early 2018, I wrote a series of blogs about the Tax Cuts and Jobs Act (TCJA) in which I explained the potential impact this new law could have on a broad range of taxpayers. Since then, the Treasury Department and the IRS have continued to issue updated guidelines about certain provisions of the law and so, as necessary, I feel compelled to share that information with you.

In this blog, my focus is a bit more narrow. It specifically pertains to business owners,  so individual taxpayers who are non-business owners need not be concerned about this topic. But because business owners are such a vital part of the clientele we serve, I wanted to make sure they were aware of this information and to encourage them to reach out to their financial adviser for help, as needed.

Section 199A

Section 199A of the Internal Revenue Code is also known as the Qualified Business Income (QBI) deduction because it provides eligible taxpayers with a deduction for qualified business income from a qualified trade or business.

Eligible taxpayers may be able to claim a maximum deduction of 20 percent of QBI derived from pass-through businesses. For those who qualify, this can potentially be a very significant tax break.

However, as you might imagine, the deduction is subject to numerous stipulations, such as:

• the type of business or trade
• the taxpayer’s taxable income
• the total of W-2 wages paid by the business or trade
• the Unadjusted Basis Immediately after Acquisition (UBIA) of qualified property held by the business or trade

In addition, Section 199A also allows eligible taxpayers to claim a deduction of up to 20 percent of their combined qualified Real Estate Investment Trust (REIT) dividends and qualified Publicly Traded Partnership (PTP) income.

The sum of these two amounts constitutes what is known as the Combined Qualified Business Income amount. The allowable deduction is typically an amount equal to 20 percent of the taxable income, minus the taxpayer’s net capital gain.

Most taxpayers will be able to claim this deduction for the first time when they file their 2018 federal income tax return this year. For those who are eligible, the deduction can be applied, whether an individual itemizes their deductions on Schedule A or takes the standard deduction.

Qualified Trade or Business

According to the IRS, “a pass-through entity is a special business structure that is used to reduce the effects of double taxation. Pass-through entities don't pay income taxes at the corporate level. Instead, corporate income is allocated among the owners, and income taxes are only levied at the individual owners' level.”

Section 199A is an allowable deduction that is derived from income from pass-through entities which flows to the individual owners. Designated pass-through entities include:

• Sole proprietorships
• Real estate investors
• Trusts and estates, REITs and qualified cooperatives
• Multi-member LLCs
• Any entity taxed as an S corporation

In addition, Section 199A  applies to all kinds of trades or businesses. However, there are some businesses and trades that are excluded from receiving the deduction if they exceed the income threshold limitations. These are known as Specified Service Trade or Business (SSTB), and they include the following professions:

• Traditional service professions such as doctors, attorneys, accountants, actuaries and consultants
• Performing artists who perform on stage or in a studio
• Paid athletes
• Anyone who works in the financial services or brokerage industry
• Any trade or business where the principal asset is the reputation or skill of the owner

Tax Planning Opportunity

For the purposes of this blog, I thought it would be helpful to provide a brief overview about Section 199A, but I’m not prepared to venture beyond that. This is very complex and complicated legislation – one tax expert claimed it’s the most significant change to the tax code in the last 15 years. Consequently, I strongly suggest that any business owner who believes they might qualify for this deduction contact their tax professional for assistance. 

They will sort out all the details and determine to what extent you may be able to benefit from this deduction.

Also, Section 199A is scheduled to sunset in 2026. So as we work with our clients to help them plan their futures, we should certainly examine how we can take advantage of current tax laws, planning in such a way that can be sufficiently nimble to adapt as things change going forward.

The one thing that’s certain about tax reform is that there will be more tax reform in the future.

United Capital does not provide tax advice. Investors should consult their tax professional with questions about their particular circumstances. Investing involves risk and clients should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions. The information contained herein is intended for information only, is not a recommendation to buy or sell any securities, and should not be considered tax or investment advice.