If you are not fluent in taxation, Accounting or finance please do not take this
ID: 2543606 • Letter: I
Question
If you are not fluent in taxation, Accounting or finance please do not take this question
Section 199A questions
One of the limitations for the Section 199A deduction is taxable income. So consider that if the taxable income is too low, the 20% of taxable income limit may be binding – that is, the full 20% of QBI deduction may not be allowed. Then the cost of increasing income may be less than would otherwise be true, since the added taxable income would also increase the allowed Section 199A deduction. Conversely, if the taxable income exceeds the “threshold” amount, lowering taxable income may lead to a greater benefit than would otherwise be obtained. Write an explanation of the tax effects of the proposals outlined below:
For high-income taxpayers, QBI deduction for a non-service business is the lesser of 20% of QBI or the greater of the wage (50% of W-2) or wage/capital (25% of W-2 plus 2.5% of unadjusted basis of depreciable property) limit.
EXAMPLE
Assume an S corporation (non-service) with one shareholder who is the only employee. The current situation is:
Shareholder’s taxable income = $1,250,000
S corporation business income = $1,000,000
Shareholder W-2 wages from business = $200,000
Deduction limit is the lesser of
20% of QBI = $200,000
50% of W-2 wages = $100,000
The W-2 limit applies, and there is an opportunity to increase the deduction by increasing W-2 wages. The cost of increased W-2 wages is the Medicare tax.
PROPOSAL 4: Start with the facts of the example. There is still one employee, who is the owner. Assume there is an arbitrary increase of $200,000, so W-2 wages are now $400,000 (the owner controls his compensation). QBI is reduced to $800,000. What happens to the QBID?
FROM WHAT YOU SEE IN PROPOSAL 4, IS THERE A W-2 FIGURE THAT MAXIMIZES THE QBID??
Explanation / Answer
Section 199A allows for deduction for qualified business income (QBI) which is as mentioned:
20% of Qualified business income with respect to trade or business plus qualified real estate investment trust dividend and qualified publicly traded partnership income or
50% of the wages paid with respect to QBI;
whichever is less
S Corporation has one employee who is the owner. After considering an increase in wages as per the proposal
Shareholders taxable income = $1,250,000.
S Corporation's business income = $800,000
Shareholder W-2 wages from business = $400,000
Deduction limit would be lesser of the following as per Section 199A:
20% of QBI = $800,000 *0.20
= $160,000
50% of W-2 wages = $400,000 * 0.50
= $200,000
Hence, the deduction allowable to S Corporation after increase in wages would be $160,000. The increase in wages by $200,000 results in an increase in qualified business income deduction as the increase in wages results increase in the w-2 wage limit at $2,00,000 which is above the deductible limit of $160,000.
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