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qualified business income deduction small business owners

Simplified Qualified Business Income Benefits for Small Businesses

Small business owners balance many roles, so complexity in the tax code can take an outsized amount of time and effort away from the core responsibilities. The Small Business Tax Fairness Act reduces some of the complexity of qualified business income and will probably provide a sizable tax benefit, too.

What Is the Qualified Business Income Deduction?

The qualified business income deduction (QBI) allows eligible self-employed and small business owners to withhold up to 20% of their qualified business income on their taxes.

Total taxable income in 2020 had to be under $163,300 for single filers or $326,600 for joint filers to qualify. As of mid-2021, the limits are rising for both single and joint filers.

The Small Business Tax Fairness Act

The Small Business Tax Fairness Act was announced on July 20, 2021. If enacted, it would alter the 20% deduction available under IRC Sec 199A for income earned through partnerships, LLCs, S corps, and sole proprietorships). Ultimately, the bill is expected to phase out the deduction for those making more than $400,000 — and retain, simplify, and potentially expand benefits for some small businesses making less than $400,000.

The IRC Sec. 199A deduction was initially created by the 2017 Tax Cuts and Jobs Act (TCJA) to establish equivalence with the lowering of the corporate income tax rate from 35% to 21%. Government officials, like Senate Finance Committee Chairman Ron Wyden, who introduced the Small Business Tax Fairness Act, have raised several objections to this deduction because much of the benefit goes to millionaires. Under current law, the amount a taxpayer could take for QBI is unlimited. Essentially, small business owners are entirely excluded.

QBI Deduction Phase-Out

If the new bill passes, the QBI deduction will begin to phase out for taxpayers whose annual income is more than $400,000, and it is completely phasing out at the $500,000 income mark.

Eliminating Specified Service Trades or Businesses

The old bill was designed in a way that business owners in certain industries benefit more from the tax break than those in other industries. Certain service businesses, known as specified service trades or businesses (SSTBs), including healthcare, law firms, consulting, and accounting firms, faced restrictions on the 2021 deduction to single filers who had an income of above $164,900 and married couples with an income above $329,800.

The new bill would expand eligibility so businesses and professionals not currently eligible for the full deduction would no longer have the designation standing in their way from acquiring the deduction — given that they qualify. However, the proposed $400,000 cap phase-out would limit the benefits of taxpayers in the higher brackets.

A New Way to Calculate QBI

Under the proposed bill, the QBI deduction calculation would be vastly simplified as 20% of :

  • The taxpayer’s qualified business income.
  • The threshold amount for 2021 (taxable income under $329,000 for married or joint and $164,900 for all other taxpayers).
  • The taxpayer’s taxable income for the taxable year minus the taxpayer’s net capital gain for the taxable year.

Most notably, this bill strives to eliminate the wage and unadjusted cost requirements under the current law, which previously added additional layers of complexity in factoring in the calculation.

Taxpayer Eligibility

Currently, QBI is available to trusts, estates, and taxpayers filing married separately. If the new bill passes, QBI will no longer be available to these entities.

Better for Small Business Owners

Simplicity helps small business owners who are filing the taxes themselves because they haven’t grown quite big enough to hire someone else to do them. These are the entrepreneurs that will benefit from a bit of clarity in the tax code and a few perks on their returns.

[Editors’ Note: To learn more about this and related topics, you may want to listen to the following webinars:

This is an updated version of an article originally published on July 18, 2018]

©2021. DailyDACTM, LLC d/b/a/ Financial PoiseTM. This article is subject to the disclaimers found here.

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About Michael Silvio

Michael Silvio, Partner, MGO LLP With more than 30 years of public accounting and tax planning experience, Michael is a tax partner at MGO. He’s served businesses in multiple industries, including hi-tech, consumer product, software, biotech, life science, healthcare, manufacturing, construction, professional service, and nonprofit. Michael’s knowledge surrounding the Federal Credits and Incentives Tax has…

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