What is a Qualified Business Income?
Qualified business income is taxable income that comes from a domestic busines introduced in year 2017 and if applied well can reduce your tax obligation. It does not apply to foreign income, only domestic income is eligible. Qualified business income deduction is usually for self employed people and small business owners. Qualified business income allows eligible self employed and small business owners deduct up to 20% of their qualified business income on their taxes. Many small business owners and entrepreneurs often wonder if they quality for this deduction and how they can get it.
QBI worksheet.
A tool designed for tax professionals to evaluate and determine the type of legal entity a business should consider to enable it benefit from qualified business income deductions
Eligibility criteria for QBI deduction
The general application is for taxable income below $160,700 for single filers or $321,400 for joint filers was applicable in year 2019. For year 2020, the limits are $163,300 for single filers and $326,600 for joint filers. Any taxable income above this figure is subject to stringent IRS rules to determine if such business qualify for partial of full deduction
The specific criteria include;
- Having a business that has a “pass-through” income that is business that files personal tax returns. Entities who qualify under this category include sole proprietorships, partnerships, corporations and limited liability companies.
- One must have a qualified business income. This is defined as the net amount of qualified items of income, gains, deductions or loss with respect to any business or trade. This in general terns refers to ones business net profit. Not all business income qualifies for QBI tax refunds as the following are excluded. Capital gains or looses, dividends, interest income, income earned outside of the country as well as certain wages and guarantees made to partners and shareholders
- For those above this income threshold, additional criteria will focus on the nature of business. Specifics include a determination whether your income is from a “Specified Service Trade or Business” SSTBs. Example are incomes from services offered by lawyers , consultants , doctors , actors among other are eligible only if they do not exceed the taxable income of $210,700 for singles filing and $421,400 for married business owners filing jointly. SSTBs also include any business with a principal asset of a reputation or skill of one or more of its employees or owners or businesses dealing with securities, partnership interests or commodities .Under this criteria , most of these specified services, trade, business or professional often earn way more than the limit provided and therefore do not qualify for this QBI deduction . This year 2020 comes with its many challenges related to Covid-19 pandemic and a significant number of businesses in this category may as well benefit from this tax refund.
Calculating QBI deductions is a stepwise process:
- Determine that your income is from a qualified trade or business. Prove of ownership should be available that include registration or certification that offers prove that you are in the pass through entity . As indicated in the criteria above, a qualified business include sole proprietorship, S corporation and partnerships. In addition Specified service trade or business qualify under the criteria stated above.
- Compute QBI for each business for the year under taxation from the net taxable income at 20%. Qualified business income items include profits, gains, deductions or loss and excludes investment related items of income , gains , deductions or loss. Certain category of business incomes are not QBI. Payment amounts for services that are reasonable compensation, guaranteed payments for rendered services, qualified REIT dividends, qualified corporation dividends, income from foreign pass through entities. Multiple sources of QBI can be combined
- Calculate and apply your limitation. Applying steps one and two above leads to the third step that considers if the limits of tax income that benefit from QBI are exceeded or not. The limit is $315,000 for married persons filing jointly and $157,500 for a single taxpayer. Taxable income less than these thresholds benefit from straight 20% deduction. Limitations are applied by considering the amounts paid in W-2 wages and how much the company has in qualified property. W-2 wages are total W-2 wages paid to employees that are subject to withholding tax elective deferrals and deferred compensations. While qualified property are those with a depreciation value excluding land. In these instances QBI is subjected to these options , whichever is less. 20% of your QBI or 50% of companies W-2 wages or the sum of 25% of the W-2 wages plus 2.5 % of the adjusted basis of all qualified property depending on which gives a greater deduction
- Deal with Losses. If the net amount of QBI during a tax year is a loss, the advice is to take the loss forward to the next tax year
I hope these steps will guide you as you compute your QBI tax deductions