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Sec 199A / QBI Heads Up


ETax847

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Just a heads up on 2 important areas for the Qualified Business Income (QBI) deduction in new code section 199A.  The IRS published final regs last week.

The first is rental real estate.  There was substantial debate over rental real estate, and whether it ros eto a "trade or business" eligible for the QBI deduction.  Trade or business is still a facts-and-circumstances determination, but the IRS created a safe harbor  that basically requires 250 hours of work a year on each set of rental real estate activities for it to qualify.  The work may be performed by the owner or agent(s), but a log must be maintained for years starting in 2019.  More info is at www.irs.gov/pub/irs-drop/n-19-07.pdf

The second is a clarification for the self-employed that has caught some of us by surprise.  Many professionals and most software packages used a starting point of net Schedule C income for QBI.  The IRS clarified that the QBI deduction is done after the deductions for SE health insurance, SE DC pensions, and 1/2 the SE tax:

"Thus, for purposes of section 199A, deductions such as the deductible portion of the tax on self-employment income under section 164(f), the self-employed health insurance deduction under section 162(l), and the deduction for contributions to qualified retirement plans under section 404 are considered attributable to a trade or business to the extent that the individual's gross income from the trade or business is taken into account in calculating the allowable deduction, on a proportionate basis."

The net is that the after-tax value of contributing to an SEP or solo 401(k) declines by at least a few percentage points; I'm still calculating scenarios.  For example, with $100k of SE income, and a $10,000 SEP contribution, the 20% QBI deduction is calculated on $100,000 - $10,000 SEP - $7650 SE tax  = $82,350 x  20% = a $16,470 deduction. Not $20,000.

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The other way to look at this, though, is if they only have SE income, then the taxable income would be after the SEHI deduction, and the SEP (or whatever) deduction, and the 1/2 SE tax deduction AND the standard deduction.  So in your example, if they had NO OTHER INCOME, the actual QBI they would wind up with assuming they are single would be $14,070 (100,000-10,000-7,650-12,000=70,350 x 20%).  There are so many variables in this mess, and I am still learning how they all come together.  By 2025 I should have it down pat.

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1 hour ago, Gail in Virginia said:

The other way to look at this, though, is if they only have SE income, then the taxable income would be after the SEHI deduction, and the SEP (or whatever) deduction, and the 1/2 SE tax deduction AND the standard deduction.  So in your example, if they had NO OTHER INCOME, the actual QBI they would wind up with assuming they are single would be $14,070 (100,000-10,000-7,650-12,000=70,350 x 20%).  There are so many variables in this mess, and I am still learning how they all come together.  By 2025 I should have it down pat.

@Gail in Virginia Why would you deduct the Standard Deduction?   It is not attributable to the generation of the Income from the business.

Tom
Modesto, CA

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2 minutes ago, EricF said:

Gail subtracted the standard deduction because she assumed no other income.  The QBI deduction is the lesser of 20% of the QBI or 20% of taxable income.  Under Gail's assumption, taxable income is less than the QBI.

OK...I get it.   That makes perfect sense now.

Tom
Modesto, CA

 

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It's clear as mud to me. 

So, single, self employed S-Corp with wages, no other earned income,  and with investment income as well, (many of us, I imagine) would have to deduct the standard deduction to come to the conclusion? I never even thought about that. 

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It is an either or situation.  The deduction is the smaller of 20% of QBI or 20% of taxable income as adjusted (in the simplest! form  - assuming under the phaseout range.)  That's why I am not telling anyone they will get 20% of their business income as a deduction.  Like everything else in tax law, IT DEPENDS!

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The regs issued last Friday finally make clear that taxable income for purposes of calculating QBI is taxable income from Form 1040 less capital gains AND qualified dividends.  In several courses I was told that cap gains are deducted because they already get preferential tax treatment.  Well so do divs, but I saw no place for them on any worksheets.  From the Regs: 

Consequently, capital gains and qualified dividends treated as investment income are net capital gain for purposes of determining the section 199A deduction.

There is no place on the 1040 that shows taxable income before the QBID.  Guess they had to cut lines to make it fit on a postcard.  It's all done on a worksheet, which shows the subtraction for cap gains but doesn't indicate that qualified divs are considered cap gains for this purpose.  No wonder we're all confused.

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On the QBI Deduction Summary tab in the Sec 199A Deduct Wkst , Line 4b subtracts "Net capital gains plus qualified dividends" from taxable income.  It pulls those amounts from the qualified dividend line in the return and the net long-term capital gain line.  Presumably, in any passthrough such as partnerships and S corps, net capital gain and qualified dividends would be excluded from the computed QBI amount.

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