In the Act, Congress included a 20% deduction for individuals against certain business income, including income earned through a sole proprietorship or single-owner LLC, such as an independent contractor or as an owner of a flow-through entity (i.e., a multi-owner LLC or S corporation). This deduction parallels the reduction in the corporate rate, from 35% to 21%. However, the deduction does not make the taxation of an individual business income and corporate income the same, and there will continue to be certain differences between individuals with business income versus corporations. Special limitations apply to certain service businesses but otherwise the language of the law appears to be available to all businesses, including real estate.
At certain levels of taxable income of the individual, all business income will be eligible for the 20% deduction. In the simplest form, the deduction will be 20% of the qualified business income. However, there are several limitations and exclusions over certain dollar thresholds.
For married taxpayers filing jointly who have taxable income of $315,000 ($157,500 for all other filers), limitations and exclusions will apply. It is important to emphasize that the threshold is based on an individual’s taxable income, which will include all sources of income (wages, other business income, investment income and gains, retirement income, etc.) and all deductions available to individual taxpayers. Also, for taxpayers with multiple businesses, the deduction is computed separately for
each business.
For service-type businesses, the deduction is eliminated when taxable income is greater than $415,000 for married taxpayers filing jointly ($207,500 for other taxpayers). Architectural and engineering firms are excluded from the definition of a service business. In general, service businesses are defined as professional businesses as well as investment advisory and related types of businesses.
Other types of businesses will continue to be eligible for the 20% deduction when taxable income exceeds $415,000; however, there are significant potential limitations based on the amount of W-2 wages related to the business and the amount of capitalized tangible assets involved with the business. Much planning will need to be done to maximize the deduction for such taxpayers exceeding the initial $315,000 and the $415,000 thresholds.
Every business should review its current tax structure to maximize potential tax savings provided by the Act. If any thought is being given to changing the form of business from or to a partnership, S corporation or C corporation, action should be taken promptly.
