The 3 most frequent questions concerning the 20% qualified business income deduction
Here’s a topic on many business owners minds: The 20% qualified business income deduction. Self-employed people and owners of pass-through firms, such as LLCs, partnerships and S corporations, can take the break. There are lots of special rules and restrictions, most of which apply to high earners. Individuals who qualify for the 20% write-off claim it on line 9 of the 1040. There is no special form to use for 2018 returns, but such a form is coming for 2019.
We’ll tackle three queries we hear most often.
1. What exactly is qualified business income?
QBI is your allocable share of income less any deductions from a trade or business. It doesn’t include wages, dividends, capital gain or loss, nonbusiness interest income, reasonable compensation from S firms or guaranteed payments from partnerships. If you have multiple businesses, you generally determine QBI separately for each one, but commonly owned similar activities may be aggregated if certain conditions are met. If you own an interest in an S corporation, partnership, multi-member LLC or trust, the K-1 you receive will report your share of the firm’s QBI and other related items.
2. What is a specified service trade or business, and why is it important?
A Specified Service Trade or Business (or SSTB) is a business involving the performance of services in certain fields: Health, law, accounting, actuarial science, performing arts, consulting, athletics, finance, brokerage, investment management, and securities trading and dealing.
IRS regulations delve into each SSTB and set forth lots of exceptions. For example, health clubs, pharmaceutical research and sales, architects, engineers, real estate agents, insurance agents and traditional banks are not considered SSTBs.
The 20% QBI deduction phases out for high-incomers engaged in an SSTB. The phaseout level starts at 2018 taxable incomes in excess of $315,000 for couples and $157,500 for others. Note that taxable income excludes the 20% deduction. If 2018 taxable income is more than $415,000 for joint filers…$207,500 for singles…the deduction is zero for that SSTB. These figures are adjusted for inflation annually.
3. Is Schedule E rental income eligible for the 20% deduction?
It depends. The break applies to QBI from a trade or business. IRS refers to the standard under federal tax code Section 162 for defining a trade or business. This standard is unclear in the context of rentals because it’s based on a taxpayer’s specific facts.
A safe harbor applies if at least 250 hours are devoted to the rental activity by the property owner, employees or independent contractors in a given year. Time spent on repairs, collecting rent, negotiating leases and tenant services count. Hours put in driving to and from the real estate aren’t included for this purpose.
If the 250-hour test is met, you can treat the rental as a trade or business for purposes of the QBI deduction. There are stiff recordkeeping rules to comply with. See Notice 2019-07 for the details, including how to elect the safe harbor.
The safe harbor rules aren’t set in stone. The IRS says it’s open to tweaking them. An influential accounting group has asked IRS to lower the hours threshold to 100.
If you would like more guidance on the 20% qualified business income deduction, please reach out to a Dugan & Lopatka professional at firstname.lastname@example.org or (630) 665-4440.