Today I would like to talk to you about the Section 199A Deduction, otherwise known as the "20% Small Business Deduction" that was created under the Tax Cuts and Jobs Act of 2018. Many of you may have heard that there is a new deduction starting this year, 2018, that will apply to small domestic businesses in the U.S. This is a deduction for small businesses in which potentially up to 20% of their net taxable income is tax-free or is excluded from tax.
Video Transcript - Small Business Deduction Section 199A
It's time to get down to Brass Tacks. My name is Mel Sams, and I'm the managing associate of Sams CPA. Today, I'd like to talk to you about the section 199A deduction, otherwise known as the 20% small business deduction, that was created under the Tax Cuts and Jobs Act of 2018. Many of you may have heard that there's a new deduction starting this year, 2018, that will apply to small businesses in the US, they have to be domestic businesses, but a deduction for small businesses in which potentially up to 20% of their net taxable income is tax free, or is excluded from tax.
We just received some guidance from the IRS in recent weeks that tells us a little bit better idea of how to calculate this, finally they got that to us, which is helpful. What I'd like to do for you today is give you a high level overview and give you some key areas to look at and to think about when you're doing your year end planning, and also to give you some points to discuss with your CPA this year.
The first step in this process is determining whether or not you are a trade of business. That's not hard. There are some very well defined, codified regulations that determine a trade or business. I think the matter gets more to the point when we start talking about who qualifies, so if you're a trade or business, if you're an S corporation, a partnership, a sole proprietor, an LLC, a trust and estate, any entity that's operating a business can potentially qualify for this. Rental property owners are not excluded either. You may also qualify as a rental property owner by operating a rental trade or business. But, that's more technical, be happy to talk to you about that offline.
Second step, this deduction is calculated at the shareholder or partner or owner level. Whomever owns that S corp, that partnership, that LLC that we mentioned, that's where the deduction gets calculated, on that person's individual tax return. Now, one question to first ask yourself is, does that particular partner or shareholder, is their personal income, their adjusted gross income, if they're a married couple, is it over $315,000? If they're a single filer, is it over $157,500?
If the answer is no, then we can stop right there, our job's going to be real easy. We know that we are going to qualify for this as long as we are operating a trade or business, and which any good CPA can help you determine that and help you make sure that's the case. At that point in time, we know that if we have a profit, we could potentially get the entire 20% deduction, our job's done.
Now, if the partner or shareholder's income is over that level, then it gets a little more complicated. We now have to look at the wages paid out by that business. There's a limitation based on the wages paid out by the company. The wages have to be a certain amount in order to qualify for that deduction, because at that phase out level of $315,000 for married joint, $157,500 for single, the deduction of 20% starts to decline and that limitation based on payroll, you have to exceed a certain threshold of wages paid. It gets more complicated at that point.
The key that we want to remember here is that when you're doing your year end tax planning, you need to be aware of this deduction and what impact it's going to have on you. Not so much for the fact you may have to owe additional taxes, but the fact that you don't want to pay too much in, especially if you're going to qualify for this and you're not aware and you write a big check, that's not good. You're going to be overpaying grossly. You want to keep as much money in your pocket as you can today.
Talk to your CPA, talk to your tax preparer. Ask them if you qualify for this 199A deduction, and then ask them to do a rough computation with you. With the software that we should possess as good CPAs and with the knowledge that we now have, we should be able to do that calculation with you. Ask your tax professional about that this year. Make sure you don't pay too much. Make sure that you're spot on with where your taxable income is going to fall.
If you have any questions, comments, or ideas for future videos, please let us know.