June 12, 2024

Are you expecting a tax refund for your business this year? Check this out. There’s a way to get an even bigger refund, no matter the size of your business. This year the Tax Cuts and Jobs Act (TCJA) goes into effect, a law that might offer huge tax benefits for individuals with Qualified Business Income (QBI) through a partnership, S Corporation, LLC or sole proprietorship. Here’s how to qualify your business for the new tax deduction under the Tax Cuts and Job Act.

What is the Tax Cuts and Jobs Act?

The biggest highlight of the Tax Cuts and Jobs Act is that individuals may be able to deduct up to 20% of their QBI when filing their taxes. We define QBI as the net amount of gains, losses, sources of income and deductions in respect to your trade or business. This deduction takes place ‘below the line.’ What this means is it reduces your taxable income, but not your adjusted gross income. As such, you may only deduct no more than 20% of your taxable income over net capital gain. If your QBI is negative, treat it as a business loss and use it to offset income in years following. You can take advantage of the TCJA regardless of whether you take the standard deduction or itemize your expenses.

Tax Deduction Restrictions

Now, there are restrictions surrounding the Tax Cuts and Jobs Act. To qualify, you must conduct your business in the United States. Certain investments don’t apply. This includes capital gains or losses, dividends, trade or business as an employee and interest on income (unless the interest is on money allocated to your business). Lastly, your QBI doesn’t adjust for compensation received from an S Corporation or a payment guarantee through a partnership in exchange for partner services.

Additionally, the Tax Cuts and Jobs Act has ‘thresholds’, which discourages high-income business owners from exploiting this tax deduction by converting their wages or other personal compensations into taxable income. If your taxable income is $50,000 over a threshold ($100,000 for joint filers), all the net income from a specific service, trade or business may be be excluded from your QBI. These exclusions include healthcare, law, consulting, athletics and financial services, or where the principal asset is the reputation or skill of the business and its employees. The highest threshold is $157,500 for individuals, $315,000 for joint filers. This exclusion may phase-in for taxable incomes between the threshold amounts and the maximum exceeding amount.

For taxpayers making more than the highest threshold, there exists another limitation on the size of their deduction. Your deduction based on QBI cannot exceed the greater of (1) 50% of your allocable share of W-2 wages paid immediate to your trade or business, or (2) the sum of 25% of such wages and 2.5% of the unadjusted basis immediately after the acquisition of tangible depreciable property purposed for your trade or business (including commercial property). A phase-in of this limitation applies to people whose taxable incomes are between the threshold and the maximum overage amount.

There are further limitations that may apply in unique situations, including taxpayers with qualified cooperative dividends, real estate investment trust (REIT) dividends, or income from publicly traded partnerships.