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Tax Reform: How You Can Save BIG in 2018 – The 20% Deduction

The new 2018 Section 199A tax deduction that you can claim on your IRS Form 1040 is a BIG DEAL. There are many rules, but your odds as a business owner of benefiting from this new 20% deduction are Excellent!

Put a smile on your face if you operate your business as a sole proprietorship, partnership, or S corporation, because your 2018 income from these businesses can qualify for some or all of the new 20 percent deduction.

How can you qualify for this new 20 percent tax deduction with little hassle or head ache?

2 Things to Focus On:

  1. You need qualified business income from one of the sources above to which you can apply the 20 percent.
  2. To avoid complications, you need “defined taxable income” of
    • $315,000 or less if married filing a joint return, or
    • $157,500 or less if filing as a single taxpayer

Example. You are single and operate your business as a proprietorship. It produces $150,000 of qualified business income. Your other income and deductions result in defined taxable income of $153,000. You qualify for a deduction of $30,000 ($150,000 x 20 percent).

If you operate your business as a partnership or S corporation and you have the qualified business income and defined taxable income numbers above, you qualify for the same $30,000 deduction.

Unfortunately some unfriendly rules apply to a “specified service trade or business”, such as operating as a law or accounting firm. But even if you are in this “group” and you have defined taxable income less than the thresholds above, you qualify for the full 20 percent deduction on your qualified business income!

In other words, if you are a lawyer with the same facts as in the example above, you would qualify for the $30,000 deduction.

Once you are above the thresholds and phaseouts ($50,000 single, $100,000 married filing jointly), you can qualify for the Section 199A deduction only when:

  • you are not in the out-of-favor group (accountant, doctor, lawyer, etc.), and
  • your qualified business pays W-2 wages and/or has property.

Phaseout for New 20% Deduction

If your pass-through business is an in-favor business and it qualifies for tax reform’s new 20 percent tax deduction on qualified business income, you benefit no matter what. Above, below, or in the expanded wage and property phase-in ranges.

On the other hand, if your business is a specified service trade or business (doctors, lawyers, accountants, actors, athletes, traders, etc.), it is in the out-of-favor group and you benefit only when you are in or below the phaseout range.

Once your taxable income exceeds the threshold amounts above, you arrive in one of the four possible categories below:

  1. Phase-in range for a non-specified service trade or business
  2. Phaseout range for a specified service trade or business
  3. Above the phase-in range for an in-favor non-specified service trade or business
  4. Above the phaseout range for an out-of-favor specified service trade or business

How the 20% Deduction Works for a Specified Service Provider

When you are a member of the out-of-favor group, your Section 199A deduction on your out-of-favor business is zero when you have taxable income of more than

  • $415,000 if married filing a joint return, or
  • $207,500 filing as a single taxpayer.

If your taxable income is going to be above the threshold amounts that trigger the phase-in or phaseout issues, contact us so we can spend some time on your tax planning.