What is the Qualified Business Income Deduction?
The Tax Cut and Jobs Act (TCJA) introduced a new business deduction (under IRC Section 199A) for certain taxpayers beginning January 1, 2018 through December 31, 2025. In general, the new qualified business income deduction is 20% of qualifying business income from S Corporations, Partnerships, Schedule C, and most Schedule E and F. The qualified business income deduction (QBID) is determined and taken at the individual (newly formatted Form 1040) level. The appeal of this deduction is there is no cash outlay; effectively reducing your marginal tax rate and theoretically, providing you with money to either reinvest in your business, yourself and/or your future.
What are the limitations?
There are income threshold limitations to determine the availability and amount of the deduction. The qualified business income must be “effectively connected” to activity in the United States. Unless specifically excluded, the QBID is available for all business activities. On the surface the QBID calculation is simple; total qualifying business income x 20%.
Step one is to calculate taxable income before the qualified business income deduction from Form 1040 (new line 7 less line 8 or line 41 from 2017). This is the amount used for second step.
Step two is to determine the availability and amount of the qualified business income deduction. Here is where the QBID calculation gets either simple or complex. There are three taxable income ranges (from first step) used to determine availability and amount. For married individuals filing joint (MFJ), the income thresholds are (1) less than $315,000 (2) $315,000 – $415,000 and (3) over $415,000. For all other individuals, the income thresholds are ½ of MFJ or (1) less than $157,500 (2) $157,500 – $207,500 and (3) over $207,500.
For individuals that fall in the first taxable income range from step one, the QBID calculation is simple; the lesser of (1) taxable income less net capital gains x 20% or (2) total qualifying business income x 20%. In general, the QBID is fully available and deductible, when the majority of taxable income is generated from earned income.
The availability limitations apply when the taxable income amount from step one exceed income threshold amounts of $315,000 for MFJ and $157,500 for all others from step two. The amount of the QBID starts to phase-out after reaching these levels. Here is where the QBID calculation gets complex and beyond the scope of this short discussion. Look for additional posts for more in-depth discussion.
As a business owner, planning for a favorable return on your investment can get complex. Utilizing and applying the QBID to your qualified business income is one of many options available. If you would like to discuss the new qualified business income deduction and how it applies to you and your business activity, do not hesitate to contact me.
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