What Is Qualified Business Asset Investment

[Michelle Benitone]

Beloware answers to some basic questions about the qualified business income deduction (QBID), also known as the section 199A deduction, that may be available to individuals, including many owners of sole proprietorships, partnerships and S corporations. Some trusts and estates may also be able to take the deduction. This deduction, created by the 2017 Tax Cuts and Jobs Act, allows non-corporate taxpayers to deduct up to 20% of their qualified business income (QBI), plus up to 20% of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income.

A1. Section 199A of the Internal Revenue Code provides many owners of sole proprietorships, partnerships, S corporations and some trusts and estates, a deduction of income from a qualified trade or business. The deduction has two components.

1. QBI Component. This component of the deduction equals 20% of QBI from a domestic business operated as a sole proprietorship or through a partnership, S corporation, trust or estate. Depending on the taxpayer's taxable income, the QBI component is subject to multiple limitations including the type of trade or business, the amount of W-2 wages paid by the qualified trade or business and the unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business. It may also be reduced by the patron reduction if the taxpayer is a patron of an agricultural or horticultural cooperative. Income earned through a C corporation or by providing services as an employee is not eligible for the deduction.

2. REIT/PTP Component. This component of the deduction equals 20% of the combined qualified REIT dividends (including REIT dividends earned through a regulated investment company (RIC)) and qualified PTP income/(loss). This component is not limited by W-2 wages or the UBIA of qualified property. Depending on the taxpayer's income, the amount of PTP income that qualifies may be limited depending on the type of business engaged in by the PTP.

The deduction is limited to the lesser of the QBI component plus the REIT/PTP component or 20% of the taxpayer's taxable income minus the net capital gain*. For details on figuring the deduction, see Q&As 8 through 11 as well as the instructions to Form 8995 PDF or Form 8995-A PDF as applicable. The deduction is available for taxable years beginning after December 31, 2017 and ending before December 31, 2025. Most eligible taxpayers will be able to claim it for the first time when they file their 2018 federal income tax return in 2019. The deduction is available, regardless of whether an individual itemizes their deductions on Schedule A or takes the standard deduction.

A2. Individuals and some trusts and estates with QBI, qualified REIT dividends, or qualified PTP income may qualify for the deduction. In some cases, patrons of horticultural or agricultural cooperatives are required to reduce their deduction under section 199A(b)(7) (patron reduction).

A3. S corporations and partnerships are generally not taxable and cannot take the deduction themselves. However, all S corporations and partnerships report each shareholder's or partner's share of QBI items, W-2 wages, UBIA of qualified property, qualified REIT dividends and qualified PTP income, and whether or not a trade or business is a specified service trade or business (SSTB) on a statement attached to the Schedule K-1 so the shareholders or partners may determine their deduction.

A4. QBI is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business. Only items included in taxable income are counted. In addition, the items must be effectively connected with a U.S. trade or business. Items such as capital gains and losses, certain dividends, and interest income are excluded. W-2 income, amounts received as reasonable compensation from an S corporation, amounts received as guaranteed payments from a partnership, and payments received by a partner for services under section 707(a) are also not QBI.

The SSTB exception does not apply for taxpayers with taxable income at or below the threshold amount and is phased in for taxpayers with taxable income within the phase-in range. For taxpayers with taxable income above the phase-in range, no deduction is permitted with respect to any SSTB.

A6. There is a de minimis rule for a single trade or business that has income from both specified service activities and other activities. The de minimis rule states that if a trade or business has gross receipts of $25 million or less and less than 10% of its gross receipts are attributable to specified service activities, or gross receipts of more than $25 million and less than 5% of its gross receipts are attributable to specified service activities, the trade or business as a whole is not an SSTB. If, however, the gross receipts from specified service activities exceed the percentage specified in the de minimis rule, the entire trade or business is treated as an SSTB.

A7. If a non-SSTB trade or business provides its property or services to an SSTB and there is at least 50% common ownership of the businesses, then that portion of the non-SSTB trade or business that provides property or services to the SSTB is treated as a separate SSTB, but only with respect to the common owners.

A8. If the SSTB limitation discussed in Q&A 5 does not apply because a taxpayer's taxable income (before the QBID) is at or below the threshold amount; the deduction is the lesser of:

If the taxpayer's taxable income (before the QBID) is above the threshold amount, the deduction may be limited based on whether the business is an SSTB, the W-2 wages paid by the business and the UBIA of qualified property used by the business. These limitations are phased in for taxpayers with taxable income (before the QBID) within the phase-in range and are fully applied to those whose taxable income exceeds the phase-in range.

Income earned by a C corporation or by providing services as an employee is not eligible for the deduction regardless of the taxpayer's taxable income. In some cases, patrons of agricultural or horticultural cooperatives are required to reduce their deduction under section 199A(b)(7) (patron reduction). See also Q&A 17 for more information on computation and available forms and instructions.

A9. For purposes of the W-2 wage limitation, W-2 wages include the following amounts paid with respect to employment of employees: (1) the total amount of wages, as defined in IRC section 3401(a), and (2) certain deferred compensation paid under IRC sections 402 and 457, and must be properly included on any timely filed return to the Social Security Administration (SSA). Additionally, the W-2 wages must be properly allocable to QBI. W-2 wages are properly allocable to QBI if the associated wage expense is taken into account in computing QBI for the trade or business under section 1.199A-3.

Note: Any additional wages generated as a result of worker reclassifications, and/or additional employment tax return changes which do not result in timely reporting to the SSA will not be classified as additional W-2 wages for purposes of IRC section 199A.

The trade or business of performing services as an employee generally is not a qualified trade or business, so W-2 wages paid to an officer of an S corporation will generally not qualify as a source of QBI to the employee. Such wages, however, will generally be a qualified item of deduction and included in the QBI of the payor. Additionally, the W-2 wages paid to the officer of an S corporation properly allocable to QBI, which are timely filed and reported to the SSA, will qualify as W-2 wages attributable to a trade or business identified by the S corporation for purposes of applying the W-2 wage limitation.

A10. "Qualified property" for purposes of section 199A is any tangible property held in connection with any identified trade or business subject to the allowance for depreciation under IRC section 167:

The depreciable period ends on the later of 10 years after the property is first placed in service by on the last day of the last full year in the applicable recovery period under section 168(c). Additional first-year depreciation under section 168 doesn't affect the applicable recovery period. Improvements to property that has already been placed in service are treated as separate qualified property.

UBIA means the basis, on the placed in service date, of the property as determined under section 1012 or other applicable provisions of chapter 1 of the Code, including subchapters O (relating to gain or loss on dispositions of property), C (relating to corporate distributions and adjustments, K (relating to partners and partnerships), and P (relating to capital gains and losses). The basis of depreciable property is most commonly determined under section 1012 (with respect to purchased property), section 1014 (with respect to property acquired from a decedent), or section 1015 (with respect to property acquired by gift). A taxpayer's UBIA of qualified property is its basis in the qualified property prior to any adjustments under section 1016(a)(2) or (3), any adjustments for tax credits you (or the RPE) claimed, or any adjustments for any portion of the basis which you have (or the RPE) elected to treat as an expense. However, a taxpayer's UBIA of qualified property is adjusted to reflect the reduction in the basis for the percentage of your (or the RPE's) use of the property for the tax year other than in the trade or business. For more information on UBIA of qualified property, see Reg. section1.199A-2(c).

A11. As discussed in Q&A 5, the SSTB limitation does not apply to any taxpayer whose taxable income (before the qualified business deduction) is at or below the threshold amounts. For taxpayers whose taxable income is within the phase-in range, the taxpayer's share of QBI, W-2 wages and UBIA of qualified property related to the SSTB will be limited. If the taxpayer's taxable income exceeds the phase-in range, no deduction is allowed with respect to any SSTB.

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