Treasury and the IRS released proposed regulations to help clarify the new Section 199A pass-through tax deduction. Below are some key items relating to the section 199A tax deduction.
- Section 199A deduction is based on Qualified Business Income (QBI) of a pass through entity. The deduction is 20% of the QBI of each separate trade or business.
- QBI is defined as the net amount of items of income, gain, deduction and loss with respect to the trade or business.
- Certain investment-related items are excluded from QBI. These items include capital gains or losses, dividends and interest income.
- If gain or loss is treated as capital gain under section 1231, it is not QBI.
- Taxpayers whose taxable income exceeds the threshold amount of $157,500 ($315,000 in the case of a joint return) are subject to limitations based on W-2- wages and the adjusted basis in acquired qualified property.
- QBI is defined as the net amount of items of income, gain, deduction and loss with respect to the trade or business.
- If the taxpayer is above the threshold amount, the deductible amount is the lesser of:
- 20% of the QBI from the qualified trade or business.
- The greater of:
- 50% of the W-2 wages relating to the qualified trade or business; or
- The sum of (1) 25% of the W-2 wages relating to the qualified trade or business and (2) 2.5% of the unadjusted basis immediately after acquisition of all qualified property.
- Property is not qualified property if the property is acquired within 60 days at the end of the year and disposed of within 120 days without having been used in a trade or business for at least 45 days prior to disposition.
- If an individual has multiple trades or businesses, the individual must calculate the QBI from each trade or business, then net the amounts. The 50% wage limitation is also factored in for each trade or business.
- The 199A deduction only reduces taxable income, it does not reduce Self-Employment Income or Income related to the Net Investment Income Tax.
- The rental of tangible property to a related trade or business is treated as a trade or business if the rental or licensing and the other trade or business are commonly controlled.
- Guaranteed payments for services rendered or for the use of capital are determined without regard to the income of the partnership, therefore, such guaranteed payments are not considered attributable to a trade or business, and thus do not constitute QBI.
- Taxpayers that use professional employer organizations (PEO’s) are able to take into account wages reported on form W-2. The treasury and IRS states “taxpayers may take into account wages reported on Forms W-2 issued by other parties provided the wages reported on the Forms W-2 were paid to employees of the taxpayer for employment by the taxpayer.”
- Losses or deductions that were disallowed for years beginning before 1/1/2018, are not taken into account for purposes of computing QBI in a later taxable year.
- Aggregation Rules
- Permits the aggregation of separate trades or businesses, provided certain requirements are satisfied.
- Aggregation is permitted, but is not required. However, an individual may aggregate trades or businesses only if the individual can demonstrate certain requirements are satisfied.
- An individual is permitted to aggregate trades or businesses operated directly and trades or businesses operated through Pass-thru entities. Individual owners of the same Pass-thru entity are not required to aggregate in the same manner.
- Requires that once multiple trades or businesses are aggregated into a single aggregated trade or business, individuals must consistently report the aggregated group in subsequent tax years.
- Specified Service Trade or Business activity (SSTB) clarifications:
- Provides the field of consulting does not include consulting that is embedded in, or ancillary to, the sale of goods if there is no separate payment for the consulting services.
- Brokerage services does not include services provided by real estate agents and brokers, or insurance agents and brokers.
- The performance of services of investing and investment management does not include directly managing real property.
- An SSTB includes any trade or business with 50 percent or more common ownership (directly or indirectly) that provides 80 percent or more of its property or services to an SSTB.
The above is a very brief snapshot of these extremely complicated rules. Please contact your Somerset tax advisor for clarification and planning opportunities.
