Don't Lose Out Because of the Tax Cuts and Jobs Act
Are you losing out because of the Tax Cuts and Jobs Act? If you are a professional business owner in a specified service trade or business (SSTB), due to some specifications in the law, you may not reap the same benefits as others. Why does it seem you are always the one who does not get the extra benefits? Don’t be so fast to get upset; you still may be able to benefit. Let’s talk about it.
Let me quickly explain the new rule called the qualified business income (QBI) deduction. The 2018 Tax Reform, also known as The Tax Cuts and Jobs Act, signed into law in 2017, effective for the 2018 tax year, reduced the tax rate on C corporations from the rate of 35 percent to 21 percent. That’s great for C corporations, but C corporations make up about five percent of all business and the rest of the 95 percent are pass-through corporations such as a sole proprietorships, partnerships, LLC’s and S corporations*. Those businesses can receive a QBI deduction. This new provision: Section 199A permits owners of pass-through entities to deduct up to 20 percent of their qualified business income. It is also subject to a wage and capital limitation*.
But this is where you may be at a disadvantage. If your business is a specified service or trade business involved in the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, or brokerage services, as well as, if your trade or business’s principal asset is the reputation or skill of one or more of its employees (including the owner), you may be limited in your ability to qualify, or you may not qualify entirely. The deduction for the owners of these types of business will be phased out at certain income levels.
For an owner of a specified service trade or business, if the taxable income of an owner is less than $157,500 for a single taxpayer or less than $315,000 for married taxpayers, the limitation does not apply. You then fully qualify for the deduction. However, If the taxable income of a specified trade or business owner who is a single taxpayer is greater than $157,500 but less than $207,500, or if the taxable income of a married taxpayer is greater than $315,000 but less than $415,000, a phase-out applies, and you receive a limited benefit. If the owner’s taxable income is above $207,500 for a single taxpayer and $415,000 for a married filing jointly taxpayer, then you will not be able to receive the QBI deduction at all.
Are you ready for your way around the income limitation? The best way to avoid this, is to lower your current income below the phase-out levels and receive the QBI deduction. We all have heard of pension plans, and we recognize that they are becoming an endangered species these days. The percentage of workers participating in defined benefit plans in the private sector is decreasing substantially*. However, there is one segment of the business community that is increasing the use of a defined benefit plan, called a cash balance plan, and that is small business owners. It may seem surprising but it’s true, and with the new tax law, the number should increase even more.
Many small businesses are pass-through entities in the specified service or trade business, mentioned above, that may not qualify for the QBI deduction due to income levels. The cash balance plans have generous contribution limits. A small business owner may be able to add over $200,000 annually in pretax contributions and the amounts can increase with age.* Having a cash balance pension plan, and possibly adding a 401(k) plan, can help small business owners significantly reduce their current tax liability, increase their retirement savings and reduce their current income below the phase-out levels in order to qualify for the QBI deduction.
Maybe you can’t teach an old dog a new trick, but you can teach an old dog an old trick.
Please make sure before you act on any information in this article you contact a qualified Certified Financial Planner and/or CPA to see if this strategy can benefit you.