Sole Proprietorship - Schedule C
2018-The Pass-Thru Entity Deduction
One of the changes imposed by the Tax Cuts and Jobs Act is the creation of new Section 199A, “Qualified Business Income”. This new code section, non-corporate taxpayers (including trusts and estates) that have Qualified Business Income (“QBI”) from a partnership, S Corporation or sole proprietorship can take a deduction of up to 20% of the QBI. QBI is generally defined as the net amount of income, gain, deduction and loss relating to a qualified trade or business and effectively connected to the conduct of the trade or business within the United States. If the net amount is less than zero, the amount is treated as a loss from a qualified trade or business in the succeeding tax year. Certain types of income are specifically excluded from being treated as QBI, and thus not eligible for the deduction. Investment income along with reasonable compensation payments, guaranteed payment to a partner for services rendered and payments for services to partners not acting in their capacity as partners are not included. The deduction is a deduction from AGI in arriving at Taxable Income. It is not an or above the line deduction. A limitation is imposed on income from certain specified service businesses, including businesses that perform services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, investing and investment management, trading or dealing with securities and any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees or owners. Specifically exempt from the definition of service business are engineering and architectural services. For pass-through income from a service business, a limitation phases in when the owner’s taxable income (from all sources) exceeds $157,500 for single taxpayers and $315,000 for married taxpayers filing joint returns and is completely phased-out when taxable income exceeds $207,500 and $415,000 respectively. A second limitation applies based upon W-2 wages and capital of a trade or business. In general, the deduction cannot exceed the greater of 50% of the W-2 wages of the business; or the sum of 25% of the W-2 wages paid plus 2.5% of the unadjusted basis, immediately after acquisition, of all “qualified property”. Qualified property is defined as all tangible, depreciable property held by and used by the business at the close of the year. The limitation based on W-2 wages and capital does not apply to any passthru entity owner with taxable income that does not exceed the $157,500/$315,000 threshold. Once income exceeds this amount, the W2/Capital limitation phases in and applies fully once the taxpayer’s taxable income exceeds the $207,500/$415,000 threshold
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