The 2017 tax overhaul fundamentally changed the tax treatment of pass-through business entities through the enactment of Section 199A.
The 20% deduction for qualified business income can greatly reduce tax liability for the owners of partnerships, S corps and other pass-through entities. That said, the deduction isn't available to all businesses. Income restrictions serve to limit the availability for higher-earning pass-throughs who are classified as service businesses.
There are steps that taxpayers can take to maximize the value of the deduction — and many taxpayers may be forgetting that Section 199A is scheduled to expire entirely after 2025 if Congress does not legislate an extension.
Taxpayers interested in maximizing the tax treatment of qualified business income while simultaneously funding their retirements should act quickly to take advantage of this potentially limited deduction.
Business clients may be overlooking valuable tax savings if their circumstances have changed since Section 199A became law. Those clients who can reduce their taxable income to below the threshold levels may wish to act before the deduction goes away.
Limitations on the Deduction
The 2017 tax reform legislation allows pass-through entities to deduct 20% of "qualified business income" through 2025. Yet entities that are classified as "service businesses" (including attorneys, accountants, doctors, financial advisors and certain other professionals) are not entitled to the full benefit of the deduction if the business owner's taxable income exceeds certain threshold amounts.
The applicable threshold levels for 2024 are $383,900 (married filing jointly) or $191,950 (single filers), and the deduction is phased out for service business owners with income between the threshold levels plus $50,000 for individual filers or $100,000 for joint filers. This means that clients who own service businesses and have taxable income that exceeds $483,900 (married filing jointly) or $241,950 (single filers) will not benefit from the deduction.
Because the deduction is so valuable, entities that are classified as service businesses should aim to reduce taxable income to below the applicable thresholds if possible. Of course, for many taxpayers, that can be a challenge. Retirement plans can play a significant role in allowing business owners to maximize the value of the deduction.
Options for Reducing Taxable Income
Many business owners already have a 401(k) plan or SEP-IRA program in place. Those clients should be reminded to take advantage of expanded contribution limits for employers.
