It is no overstatement to say that the new Tax Law will have a significant impact on virtually every business and individual for this tax year and beyond.
Following is what we believe to be one of the most crucial items in the new law affecting businesses, the Qualified Business Income Deduction (QBID), and what it means for business owners.
Consideration of the 20% Qualified Business Income (QBI) Deduction is a Must for Business Owners.
Congress reduced the top tax rate for “C” corporations from 35% to a flat tax rate of 21%, so it felt business income from pass-through entities (e.g., S Corporations, Partnerships, Sole Proprietors, Trusts, and Estates), should also get some form of tax rate reduction. However, instead of providing a lower tax rate for this type of business income, the Law creates a new 20% deduction that is generally provided to non-corporate taxpayers receiving qualifying income.
What is “Qualified Business Income” (QBI)?
QBI is generally defined as the net amount of qualified items of income, gain, deduction, and loss with respect to “any” trade or business other than:
- Certain personal service businesses known as “Specified Service Trade Or Businesses” (described in more detail below), and
- The trade or business of performing services “as an employee.”
Calculation of the 20% Deduction
The amount of the 20% deduction with respect to QBI is generally the lesser of:
- 20% of the owner’s share of QBI from the owner’s interest in each “Qualified Trade or Business,” or
- The owner’s share of the W-2 Wage and Capital Limitation (if applicable) for each such trade or business interest.
- The aggregate 20% deduction for QBI also cannot exceed 20% of the excess of the taxpayer’s “taxable income” over the taxpayer’s “net capital gains”.
QBI does not include:
- Dividends, investment interest income, short term capital gains, long term capital gains, income from annuities, commodities gains, foreign currency gains, etc.,
- Reasonable compensation paid by a Qualified Trade of Business for services rendered to the taxpayer claiming the 20% deduction,
- Any “guaranteed payment” paid to a partner for services actually rendered to or on behalf of the partnership, or
- To the extent provided in regulations, any amount allocated or distributed by a partnership to a partner who is acting other than in his or her capacity as a partner for services rendered to a partnership.
There are many important considerations relating to QBID that should be included in every business owner’s tax planning strategy. Most significantly, you may need to take a closer look at your taxable income, compensation structure and business structure sooner rather than later.
To view the white papers in their entirety visit www.dh-cpa.com/new-tax-law.html.
By John W Davis, CPA, CEPA CFP®, CVA, PFS. John is the Managing Partner of Davis & Hodgdon Associates CPAs. John spends most of his time dealing with small business clients and the issues they face – from recommending structure for various types of entities, to improvement of business processes, and with a special focus on strategic tax planning, exit planning, sales and acquisitions, and business valuations.