Tax season is upon us. It’s the time of year that many self-employed professionals and small business owners are searching for ways to reduce taxes. And rightfully so, who wants to give Uncle Sam more than they need to? While the beginning of a new year is when taxes are top of mind, tax planning is a year-round event, especially for those who want to minimize their lifetime tax bill, not just the current year. Part of having a proactive tax planning strategy is knowing what deductions apply and how to qualify for them. A deduction that every business owner needs to be aware of is the qualified business income deduction (QBI)—also known as the 199A deduction.
The qualified business income deduction is powerful for those that qualify because it allows a deduction of up to 20% of business income, REIT dividends, and PTP income on individual tax returns. If you’re self-employed or a small business owner, you may wonder how to apply this deduction and determine eligibility.
The qualified business income deduction was created by the Tax Cuts and Jobs Act of 2017. Since it was part of the TCJA, it’s currently in effect until Dec 31, 2025. However, it’s essential to stay current with the ever-changing tax laws as things can (and probably will) change. That should be motivation to create a proactive tax and financial planning strategy.
QBI allows pass-through entities a 20% reduction in qualified business income. Pass-through entities are those that don’t pay corporate income tax. This includes:
The QBI deduction allows the deduction of the lesser of:
Planning Note: You can take the QBI deduction whether you take the standard deduction or itemize.
You cannot take the QBI deduction if you’re an employee or a C corporation. In addition, the following is not included in qualified business income:
“How do I get this deduction to reduce my tax bill?” The answer to this question is what most business owners want to know. But unfortunately, depending on your income and type of business, QBI can get pretty complicated quickly.
The easiest way to determine if this deduction may apply to your self-employment or small business is simply starting with your taxable income.
For the 2021 tax year, if your total taxable income is less than $164,900 (single tax filers) or $329,800 (joint tax filers), you qualify for the full 20% QBI deduction. For the 2022 tax year, the income limits increase to $170,050 (single) and $340,100 (joint).
Keep in mind that this is total taxable income, including business and other income. If you are under the income limits above, there is nothing else you need to do. You qualify!
If you are above these income limits, things get a bit trickier.
If your total income for 2021 is between $164,900 and $214,900 (single) or $329,800 and $429,800 (joint), you’re eligible for a phased-in deduction. Meaning the deduction decreases as it falls within the range, regardless of whether your business is a specified service trade or business (SSTB) or non SSTB. More on this in the next section.
For 2022, the QBI phase-in range is $170,050 -$220,050 (single), and $340,100 – $440,100 (joint).
If 2021 taxable income is above the upper phase-in threshold of $214,900 (single) or $429,800 (joint), you’ll now need to determine if your business is a “specified service trade or business” or SSTB.
The following are specified service trade or businesses:
Unfortunately, there aren’t crystal clear rules on determining if your business is an SSTB. If you’re unsure, it’s best to work with your financial and tax professional to assess your business category.
If you determine your business is an SSTB and taxable income is above $214,900 (single) or $429,800 (joint) in 2021, you won’t be able to claim the deduction. For the tax year 2022, this increases to $220,050 (single) and $440,100 (joint).
On the other hand, if you determine your business is a non SSTB and taxable income exceeds these limits, you’re still able to qualify for QBI. However, it’s limited to:
As a self-employed professional or small business owner, getting every deduction you deserve maximizes the dollars in your pocket. The qualified business income deduction applies to many self-employed professionals, but it can get complicated once income exceeds the phase-in thresholds. Therefore, it can be worth the investment of working with a qualified tax or financial professional to determine if you qualify for deductions like QBI.
If you are self-employed or a small business owner who wants to explore if a tax and financial plan may benefit you, let’s start with a quick chat.