Tag Archives: income tax deduction

The (potential) 20% Deduction Business Owners Should Understand

Last December, one of the biggest (real news) headlines was the drastic tax reform working its way through the legislative process. The Tax Cuts and Jobs Act (TCJA) was officially signed into law by President Trump on December 22, 2017 and it represents the most comprehensive tax reform in decades.

The more dramatic changes have been well publicized, but as with much of the Internal Revenue Code, some of the logistics are hard to comprehend. Arguably the most reformative of these changes is the Section 199A Deduction for Qualified Business Income. The Qualified Business Income Deduction (QBID) exemplifies congresses intent to organically aid in the growth of business. Staying consistent with the right’s traditional nod to trickle-down economic theories, the current administration is betting that increased liquidity via tax savings will be reinvested in capital assets and hiring.

QBID is a “below the line” deduction on Form 1040 that is available to sole proprietors and recipients of pass-through income (i.e. from S-Corporations and Partnerships). It is likely that part of the initiative behind QBID was to even the playing field for businesses not operating as C-Corporations. Under the TCJA, C-Corporations now enjoy a flat 21% tax rate; with individual rates being as high as 37%, a business operating as a C-Corp could otherwise have advantages over S-Corps or Partnerships whose owner(s) reside in the top tax bracket. It seems to this author that the extension of the corporate tax break to small business owners not only fit the republican economic agenda, but it also is likely to have helped proponents of the bill increase public support amongst business owners.

To narrow the gap in tax rates between large corporations and small businesses, congress decided to allow individuals a deduction on their personal tax returns equivalent to 20% of QBI (qualified business income). Assume for purposes of an illustration that the only item on a single filer’s tax return is $150,000 of business income and that they take the standard deduction. In 2018 this nets to $138,000 of taxable income and $27,410 of tax. Now consider all things the same, except the $150,000 of business income is qualified within the confines of QBID. In the later scenario, the taxpayer’s taxable income nets to $110,400, with tax of $20,786 and a net tax savings of $6,624 because of the new deduction.

As with most tax breaks in the Internal Revenue Code, there are however caveats, and they are complicated. There is an income threshold for example: single filers with taxable income above $157,500 (or $315,000 for joint filers) will need to consider their employees’wages and the company’s depreciable assets into their QBID calculation, as their deduction will be limited by one of these two factors.

Further, a taxpayer is subject to a complete phase-out of the deduction if he or she works in one of the few service industries specified by congress “where the principal asset is the reputation or skill of one or more of its employees.” Services in the fields of health, law, accounting and consulting are a few that fall into this category. If the AGI of a professional in one of these fields exceeds $207,500 (or $415,000 if they file joint) then the QBID escapes them entirely.

There was in fact a bit of “fake news” surrounding the legislation in regards to how the Tax Cuts and Jobs Act was going to “simplify” the tax code. For some taxpayers, it probably did, the increased standard deduction will mean that many taxpayers will no longer need to itemize deductions. For other taxpayers however, specifically those who own a business, the tax environment got more complicated. The word “potential” is the best way to describe the QBID. Taxpayers whose income typically falls near the thresholds are going to have to be meticulous in how they structure things both at the entity level and on their personal returns to maximize the potential QBID. Diligent tax preparers are working with their clients to navigate the regulations and some interesting strategies are being passed around the CPA community. In the end it is going to come down to effective tax planning. Far too often taxpayers inadvertently omit deductions they would otherwise be entitled to had they planned properly. The QBID has potential to save a lot of people a lot of money, they just need to do their homework.

John Massey is a Senior Accountant at Perry, Fitts, Boulette & Fitton CPAs. He helps individuals and businesses with tax planning preparation and works on compiled and reviewed financial statements for businesses. He can be reached at 207-873-1603.

Mortgage Interest Tax Deduction: It’s not what it used to be.

Per the US Census Bureau, over half of U.S. homes are occupied by the owner. Of those homeowners, over half have a mortgage that they pay interest on. For most, having a mortgage is part of owning a home and people often spend a significant portion of their life making payments on their mortgage. Before the recent change the US Tax Code section 163 specifically provided for a deduction for mortgage interest and home equity interest as an itemized deduction. This deduction has allowed taxpayers that can itemize to save tax dollars while they pay down their debt.

With the recent passing of the Tax Cuts and Jobs Act, the deduction for mortgage interest has undergone two significant changes that will impact many.

Here is what will change in 2018:

Under the prior law, taxpayers have been allowed to deduct interest on home equity indebtedness up to $100,000. In 2018, this deduction is eliminated and there will no longer be a tax benefit for interest paid on an equity loan.

The second significant change is that taxpayers were allowed to deduct mortgage interest on mortgages up to $1,000,000. The Tax Cuts and Jobs Act now allows taxpayers to deduct interest on mortgages up to $750,000 for all mortgages originated after December 14, 2017.

What happens if your refinance? Taxpayers will be allowed to keep their higher threshold of $1,000,000 if they refinance a loan that was established before December 14, 2017 as long as the new debt doesn’t exceed the amount refinanced. In other words, you will fall under the new rules if you refinance your mortgage and increase the loan amount.

While there are only a small percentage of taxpayers that have a mortgage over $750,000 in the State of Maine, there are a lot of taxpayers that have been deducting the interest on their home equity loans. If these taxpayers still itemize deductions in 2018, they will no longer be able to take advantage of the equity interest deduction.

It is important to understand that the law continues to allow the mortgage interest on a second home. This law has not changed from previous years and taxpayers may benefit from a deduction of mortgage interest on their first and second home, provided that the total indebtedness does not exceed the $750,000 threshold.

I encourage everyone to take some time and read or speak to a tax advisor about the changes under the new tax law and how it will impact you specifically.

“An investment in knowledge pays the best interest.” -Benjamin Franklin

Alison Royall, CPA is a Director at Perry, Fitts, Boulette& Fitton CPAs. She works with people and businesses to prepare tax returns and help them plan their short and long-term goals. She is a multi-state tax specialist, with clients in many other states including international clients. She works with the audit department and prepares compiled and reviewed financial statements for businesses, as well as personal financial statements for high net worth individuals. She can be reached at alison@pfbf.com or 873-1603.

Time is running out to make your state income tax payments and still be provided a deduction on your Federal income tax return.

Unless you have been hiding under a rock, you are aware that both the House and Senate have passed legislation to update the tax code. Both plans are calling for a repeal of the deduction for state and local income tax expense. Although we are not yet sure of the final outcome of the tax legislation, we are strongly urging all clients who pay state income taxes to be prepared to pay any state tax due before December 31, 2017.

For those individuals who generally pay Alternative Minimum Tax (AMT) a prepayment may not benefit you. However, taxpayer’s who are scheduled to make January 15th, 2018 estimates and those who suspect that they will owe state tax on April 15th, are likely to benefit by making tax payments before December 31st.

If you have questions about how the state income tax deduction impacts you, please give us a call at 207-873-1603 or swing by one of our two locations: 259 Front Street, Bath or 46 First Park Drive Oakland.