The highly publicized Tax Cuts and Jobs Act added a very important new deduction (code section 199A) for many businesses that are not set up as C-Corporations. In recent weeks, commentators have speculated that there would be a mad rush for self-employed individuals to set up LLCs in an effort to take advantage of the new deduction.

After analysis, it is more likely that we will see a resurgence of S-Corporations; or, small business owners will begin treating some “subcontractors” as employees.

To take full advantage of this deduction, start planning now. Generally, the new deduction is equal to 20 percent of a taxpayer’s qualified business income. New code section 199A defines qualified business income as “the sum of the amounts for each qualified business carried on by the taxpayer …”

The Code then goes on to complicate things by limiting the (20 percent) deduction to 50 percent of the W-2 wages paid with respect to the qualified trade or business.

I understand that not everyone is a CPA, so I will spare you the more esoteric details, but what is important to know is that the deduction is limited to one half of the wages paid during the year. More clearly, if the qualified business does not pay wages, it will get no benefit from the deduction.

To reiterate what I mentioned earlier, I suspect that many self-employed individuals will now look to convert subcontractors to employees to take advantage of the deduction.

Let’s look at an example:

Traditionally, people working in the fishing industry are self-employed. The ship’s owner, captain and sternman are all likely to take a share of the catch and are all considered self-employed. Under this arrangement, each would have qualified business income, but because no wages are paid, no deduction would be allowed.

With a few tweaks to the way crew members are compensated (i.e. paid a wage or bonus rather than a share of the catch), the business deduction would be available.

Congress would not be Congress without adding a few more exceptions and a special twist to keep CPAs in business. The new code section also disallows the deduction for certain types of service businesses, namely those in the fields of health, law, performing arts, consulting, financial services, those based on the reputation or skill of one individual, and most sadly, accountants.

Unless (stay with me now) the taxable income of the listed service business is less than $157,500 for single taxpayers (or $315,000 in the case of a joint return).

My tax advice to all business owners is that it is never too early to start planning. Many of the new changes can be combined to maximize your savings. Contact your tax advisor to see how you too can keep more of your hard earned money.

Jamie Boulette, CPA has 30 years of tax experience and is managing director of Perry, Fitts, Boulette & Fitton CPAs with offices in Bath and Oakland. He can be reached at [email protected] or 371-8002.

filed under: