Kelly J. Bullis: Computing new tax law’s business deduction
The new tax law officially known as “Tax Cuts and Jobs Act of 2017” has a section in there for non-C corporations to deduct up to 20 percent of their “qualified business income.” In the CPA universe, we’re now affectionately referring to that as the “Section 199A deduction.”
In my simple world, there would be one tax rate applied to all businesses, regardless of how their results are reported to the IRS. For a non-incorporated sole-proprietor, that might be on Schedule C of their personal income tax return. For “pass-through entities” such as partnerships and sub-S returns, the income is still passed through to the owner’s personal income tax return. All of the above are now affected by the “wonderful” Section 199A process.
You can thank various senators for adding multiple levels of complexity to what started out as a fairly simple and straightforward concept. We now have it, warts and all, and once average business owners see how it works, I think they’ll still be pleased, if not a bit confused.
Let’s get one thing straight. There’s a discriminatory limitation on service-based entities (licensed professionals such as doctors, attorneys, financial services, accountants, etc.) and now expanded to include, “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.” If your business is one of these, you have an additional limitation to apply. If your taxable income is less than $157,000 ($315,000 for married filing joint), you start losing the Section 199A deduction. It phases out over the next $50,000 ($100,000 for joint filers).
How does one compute this Section 199A deduction? Simple! Follow along: First, you compute 20 percent of your Qualified Business Income (QBI). Second, you compare it to the greater of Step A-50 percent of your total wages paid or Step B-25 percent of your total wages paid plus 2.5 percent of the unadjusted basis (before any depreciation expense taken) of qualified property (normally, property used in the trade or business that hasn’t been fully depreciated yet). If your 20 percent item first computed is less than the result of the second computation, you take the first. If the second is lesser than the first, then you use the amount computed in the second process. Like I said, simple!
Let’s do a real scenario. QBI is $150,000. Total wages paid is $400,000. Qualified property is $750,000. Thus, first QBI $150,000 times 20 percent equals $30,000. Second Step A wages $400,000 times 50 percent equals $200,000 or Step B wages $400,000 times 25 percent equals $100,000 plus property $750,000 times 2.5 percent equals $18,750. Step B total is $100,000 plus $18,750 equals $118,750. The Step A 50 percent wages of $200,000 is greater than the Step B wages/property of $118,750. Thus, taking the greater of Step A or Step B, the result is Step A’s $200,000. The first computation of 20 percent of QBI ($30,000) is lesser than the second result of $200,000, thus, this business owner gets to take the full 20 percent Section 199A deduction of $30,000. That drops their taxable portion of the Qualified Business Income from $150,000 to $120,000 ($150,000 — Section 199A of $30,000).
Did you hear? Esther 2:18 said, “Then the king gave a great feast … He also granted a remission of taxes to provinces and gave gifts with royal generosity.”
Kelly Bullis is a Certified Public Accountant in Carson City. Contact him at 775-882-4459. He’s on the web at BullisAndCo.com and also on Facebook.