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Business Owners: Pass-Through Income, Deduction, and Tax Rate
Published Date : April 2, 2018
Owners of pass-through businesses get a break – but it’s complicated.
Beginning in 2018, a new 20% deduction for qualified business income will be available. This will effectively lower the top tax rate of small business owners from the highest new personal income tax rate of 37% to about 30%. This was a partial concession to small businesses that do not benefit from the new, much lower corporate tax rate.
Pass-through entities include millions of partnerships, limited-liability companies, S corporations, and sole proprietorships that do not pay corporate taxes. This deduction will be claimed by qualified business owners on their individual tax returns and result in a reduction of their taxable income. However, this deduction is complex and subject to many restrictions. For example, it is not available for income generated from personal service businesses, such as those based on activities where the primary asset of the business is the “skill or reputation” of the business owner or its employees. This means that high-earning, white collar professionals like accountants, consultants, doctors, lawyers, investment advisors, realtors, and other similar owners of such types of service businesses cannot claim this deduction. Additional limitations are tied to the level of wages paid and capital invested in the business.
Pass-through owners can claim the 20% deduction if their taxable income is under $315,000 for joint filers or $157,500 for single filers. Single filers making more than $207,500 or couples making more than $415,000 are subject to different rules. Those with incomes between these thresholds are only eligible for a partial tax benefit.
If the pass-through business is a specified service trade or business, they may still get a deduction, but it will be limited (and perhaps even eliminated) based on the amount of wages their business pays and the property it owns.
Click below to return to the full 2018 Tax Review:
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