Global Tax Insights
The QBI Deduction Is as “Easy” as 1, 2, 3November 15, 2018
Changes to the qualified business income (QBI) deduction are a widely anticipated, yet misunderstood, aspect of the Tax Cuts and Jobs Act (TCJA). Find out how you can benefit under new guidance.
The IRS recently issued proposed guidance to help clarify the new deduction for qualified business income (QBI) under the Tax Cuts and Jobs Act (TCJA). The deduction may be available to any taxpayer other than a corporation for 2018 through 2025 with QBI. This includes individual owners of sole proprietorships, rental properties, S corporations or partnerships, and can include S corporations, partnerships or trusts that own an interest in a pass-through entity.
The deduction may be limited, depending on your income level and the nature of your business operations. Although the rules are complex, eligibility essentially boils down to three questions.
1. Is Your Taxable Income Below the Applicable Threshold?
If your taxable income (before any QBI deduction) is less than $157,501, or $315,001 for married people who file jointly, you can take the full 20% QBI deduction. No other limitations apply — and you don’t need to answer the second or third questions (below).
Above those thresholds the limitations are phased in over a $50,000 taxable income range or a $100,000 range for married people who file jointly. Once taxable income exceeds $207,500 for unmarried people or $415,000 for married people who file jointly, the limitations are fully phased in. If your taxable income exceeds these amounts, proceed to the second and third questions, because additional limitations may apply.
2. Do You Have Income from an SSTB?
For individuals with taxable income above the applicable thresholds, the TCJA does not allow a QBI deduction for specified service trades or businesses (SSTBs). Examples include doctors, lawyers, accountants, actuaries, actors, singers, consultants, athletes, investment managers, stock traders and any other trade or business where the principal asset is the reputation or skill of one or more of its employees or owners. However, architecture and engineering firms were specifically excluded from the definition of SSTBs.
3. How Much Are Your W-2 Wages and Basis in Qualified Assets?
At taxable income levels above the applicable threshold, the QBI deduction is limited to the greater of:
- The individual’s share of 50% of the W-2 wages with respect to the qualified trade or business, or
- The sum of the individual’s share of 25% of the W-2 wages with respect to the qualified trade or business, plus the individual’s share of 2.5% of the unadjusted basis immediately after acquisition (UBIA) of qualified property.
The resulting deduction is subject to a second limitation of:
- 20% of the total QBI, or
- 20% of your taxable income before any QBI deduction and net capital gains (whichever is less).
For purposes of calculating QBI and this limitation, owners of certain related pass-through entities may be allowed to combine QBI, wages and UBIA of qualified assets, if the requirements are met. Sometimes, the “aggregation” rules help individuals achieve a higher deduction than if they were required to report items separately.
The proposed IRS regulations are long and complicated. Various rules and restrictions — designed to prevent abuse by aggressive taxpayers — can make answering these three questions difficult for some individuals. Fortunately, our tax professionals can help you sort through the details, based on your circumstances. In the coming weeks, we plan to publish additional blogs to help clarify this deduction.
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