What Exactly is Section 199-A and the Qualified Business Income Deduction (QBID)?
In 2017 as part of the Tax Cuts and Jobs Act under the Trump Administration, the Corporate Tax rate was reduced from 35% to 21%. Non-corporate taxpayers now faced a higher comparative tax burden than corporations, so to level the playing field between the different entity types, I.R.C. § 199-A was enacted by to similarly lower the effective tax rate faced by non-corporate taxpayers. Section 199-A allowed non-corporate taxpayers to take a 20% deduction from qualified income on their personal taxes.
Let’s say a noncorporate taxpayer in the 42% tax bracket would only be taxed on qualified income for 33.6%.
(.42 x .80)=.336 x 100= 33.6%
What is Qualified Business Income?
Now that we know the purpose behind the enacted provision of Section 199-A, some may be asking, what exactly is qualified business income? Qualified Business Income (QBI) is technically the net amount of qualified items of income, deduction and loss, and gains from any qualified trade or business. Furthermore, the only items that are counted should be included in taxable income. Some more criteria applies here, such as:
- Connected with a U.S. trade or business
- Capital gains and losses are excluded
- Certain Dividends are excluded
- Interest Income is excluded
For more information please look here.
What is a Qualified Trade or Business under Section 199-A Standards?
Code of Federal Regulation § 1.199A-5 is used to define businesses that qualify under the qualified business income deduction (QBID); however, the IRS looks at these definitions as a way to interpret the broad language found under § 1202(e)(3) and other provisions that offer deductions on qualified business entities. Any Section 162 trade or business is classified as a Qualified Trade or Business under Section 199-A standards. There are three distinct exceptions that Section 162 does not classify:
- Trade or Business is a C Corporation
- Trade or Business of Performing services as an employee, and
- Taxpayers whose taxable income will exceed the threshold amount there is a Specified Service Trade or Business (SSTB) exception stating,
“An SSTB is a trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, investing and investment management, trading or dealing in certain assets, or any trade or business where the principal asset is the reputation or skill of one or more of its employees or owners. The principal asset of a trade or business is the reputation or skill of its employees or owners if the trade or business consists of the receipt of income from endorsing products or services, the use of an individual’s image, likeness, voice, or other symbols associated with the individual’s identity, or appearances at events or on radio, television, or other media formats.”I.R.C. § 199A-5(b)(1); see also irs.gov
Furthermore, the SSTB exception is only for taxpayers over the threshold amount and with taxable income in the phase-in range. “For taxpayers with taxable income above the phase-in range, no deduction is permitted with respect to any SSTB….
Threshold and Phase-in Range for taxable year of 2020 is:
- Married Filing Jointly Threshold: $326,600, Phase-in Range: above $326,600 up to $426,600
- All others Threshold: $163,300, Phase-in Range: above $163,300 up to $213,300″
To learn more about Specified Service Trade or Business exception, look into irs.gov.
What Investors Should Know
Joe Biden has recently released his legislative agenda for this upcoming fiscal year as well as the Treasury releasing the Green Book—in depth look at the President’s proposed budget plans. Neither the agenda nor Green Book detailed anything about Section 199-A being eliminated; however, during his campaign there was discussion surrounding a corporate tax increase from 21% to 28% and the elimination of “certain” provisions for non corporate taxpayers with an income greater than $400,000. Concluding, although there is no evidence of Section 199-A being eliminated, there is also no evidence of making the provision permanent. The provision is set to sunset (eliminate) as of 2025 under the Tax Cuts and Jobs Act of 2017.
To learn more about the surrounding issues underlying potential elimination of I.R.C. § 199A, look here.
Please see more articles on what industries qualify for the QSBS Exemption under QSBS Qualifying Industries tab.
This article does not constitute legal or tax advice. Please consult with your legal or tax advisor with respect to your particular circumstance.