The Tax Cuts and Jobs Act (TCJA) was signed into law on December 22, 2017, by President Donald Trump. The TCJA made major changes to the United States Tax Code by lowering corporate and individual tax rates, increasing the standard deduction for Form 1040, limiting certain itemized deductions, and vastly expanding the child tax credit.
One of the most profound changes made by the TCJA will benefit the majority of small business owners in the United States. This benefit occurred with the creation of Internal Revenue Code (IRC) Section 199A and a twenty-percent deduction from income for qualifying business owners.
IRC Section 199A allows qualifying business taxpayers to deduct 20% of qualified business income before calculating income tax due on their individual income tax return, Form 1040. Although the deduction is referred to as a “pass-through deduction,” sole proprietorships filing schedule C will qualify when they meet certain criteria.
For business owners whose taxable income exceeds certain thresholds (discussed below) the source of their income must come from qualifying businesses to qualify for the deduction. Unfortunately, income qualifying for the deduction CANNOT come from specified service trades of businesses. Specified service trades or businesses are activities whose main assets is the reputation or skill of its employees or owners. As a result, most service businesses in the following fields will not qualify for the 20% deduction UNLESS the owner’s taxable income falls below certain thresholds.
Any year your taxable income falls below certain thresholds, you will qualify for the 20% taxable income deduction! It does not matter what type of business you own. Service businesses qualify for the deduction.
For 2019, these thresholds are $160,700 for single taxpayers (this threshold also appears to apply to married individuals who file separately) and $321,400 for taxpayers who file joint returns with their spouse. If your taxable income falls below this threshold in any tax year, congratulations - you qualify for the 20% business income deduction! The type of business generating the income does not matter.
As a bonus for future years, the thresholds listed above will be adjusted for inflation on an annual basis - a rarity for income-based tax calculations.
For individuals and married couples with taxable income above these limits the 20% deduction starts to phase out, allowing a partial deduction for many. For single taxpayers, the 20% deduction is reduced by 2% for every $2,500 their taxable income exceeds $160,700 (2019). Once taxable income exceeds $210,700 ($50,000 over the threshold), the deduction for most service business owners is reduced to zero. For married taxpayers filing jointly, the 20% deduction is reduced by 2% for every $5,000 taxable income exceeds $321,400 (2019). Once taxable income exceeds $421,400 ($100,000 over the threshold), the deduction for most service business owners is reduced to zero.
High earning service-business-owners will be excluded from the 20% income deduction provided by Section 199A of the Tax Cut and Jobs Act. But most – if not the vast majority - of service business owners will still qualify for the deduction. For select service business owners whose income skirts the exemption thresholds, effective tax planning may make the difference between losing the deduction or qualifying for a major financial windfall.
We hope this article has helped you better understand the new 20% Business Income Deduction. If you’re a business owner interested in minimizing your largest expense – TAXES - we invite you to browse our course listing. If you’re a real estate agent seeking a thorough understanding of how to keep more of your hard-earned money, our Comprehensive Real Estate Agent Tax-Cut Library is for you! Are you a Real Estate Broker? Our Brokers Edition allows you to share the Library with up to twenty agents!
All courses and articles are for informational purposes only and do not constitute tax advice. Taxes are complicated - do not act on course information without consulting a professional. Always refer to treasury regulation before making any tax decision. Read the full disclaimer.
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