If you are a self-employed or small-business owner, you may be wondering about the qualified business income (QBI) deduction. This is a tax deduction that allows you to deduct up to 20% of your qualified business income from your taxable income. But does it apply to you? And how can you maximize its benefits? In this article, we will answer these questions and more.
What is QBI?
QBI stands for qualified business income. It is the net amount of income, gain, deduction, and loss from any trade or business that you operate as a sole proprietorship, partnership, S corporation, LLC, or trust. It includes income from services, property, royalties, rents, interest, dividends, and more.
QBI does not include income that is not effectively connected with the conduct of your trade or business within the United States. For example, if you work as a freelance writer in California and earn money from clients in New York, that income is not QBI and cannot be deducted.
Who Qualifies for QBI?
To qualify for the QBI deduction, you must meet two main requirements:
- You must have pass-through income. This means that your income is reported on your personal tax return and not on the tax return of your business entity.
- You must have taxable income below certain thresholds. These thresholds vary depending on your filing status and the year. For 2022, the thresholds are $170,050 for single filers and $340,100 for joint filers. For 2023, they are $182,100 for single filers and $364,200 for joint filers.
If your taxable income exceeds these thresholds, you may still qualify for the QBI deduction if your pass-through income meets certain criteria. These criteria depend on the type of trade or business you have and whether it is subject to any special rules or limitations.
How to Claim QBI Deduction?
To claim the QBI deduction, you need to fill out Form 8995-A or Form 8995, depending on whether you are eligible for the deduction under Section 199A or Section 199A(b). You also need to attach Schedule C or Schedule C-EZ, depending on whether your business entity has gross receipts of $25 million or less.
You can claim the QBI deduction either on Schedule A or Schedule A-C, depending on whether you itemize your deductions or take the standard deduction. The maximum amount of QBI that you can deduct is 20% of your qualified business income plus 20% of qualified REIT dividends and qualified PTP income (if applicable).
The QBI deduction is available regardless of whether you itemize deductions or take the standard deduction. However, if you choose to itemize deductions, you may benefit from doing so because it may lower your overall tax liability.
What are Some Examples of Qualified Business Income?
Some examples of qualified business income are:
- Business expenses such as supplies, equipment, rent, utilities, advertising costs.
- Self-employment tax such as Social Security and Medicare taxes.
- Health insurance premiums paid by yourself.
- Contributions to qualified retirement plans such as SEP IRA , SIMPLE IRA , or qualified plan deductions.
- Interest paid on loans used for business purposes.
- Royalties received from patents , copyrights , trademarks , or licenses.
- Rents received from leasing property used for business purposes.
- Dividends received from stocks held by yourself or by a partnership in which you are a partner.
- Income from partnerships , S corporations , trusts , or estates in which you are a partner , shareholder , beneficiary , or trustee .
Some examples of nonqualified business income are:
- Capital gains or losses from selling property used for business purposes.
- Interest income from investments other than those used for business purposes.
- Dividends received from stocks held by yourself but not by a partnership in which you are a partner .
- Income from partnerships , S corporations , trusts , or estates in which you are not a partner , shareholder , beneficiary , or trustee .
How Can You Maximize Your QBI Deduction?
The QBI deduction can be a valuable way to reduce your taxable income and save money on taxes. However, there are some strategies that can help you maximize its benefits. Here are some tips:
- Keep track of all your receipts and invoices related to your trade or business activities. This will help you calculate your qualified business income accurately and avoid any errors or penalties.
- Use Form 8995-A instead of Form 8995 if possible. This will allow you to claim both the QBI component and the REIT/PTP component of the deduction in one form instead of two separate forms.
- Claim both Schedule A and Schedule A-C if applicable. This will allow you to claim both the standard deduction and the itemized deductions in one form instead of two separate forms. However, this may not be beneficial for everyone, as it depends on your overall tax situation and preferences.
- Claim the QBI deduction as early as possible. The QBI deduction is subject to a phase-out threshold based on your taxable income and filing status. If your taxable income exceeds the phase-out threshold, you will not be able to claim the full amount of QBI deduction. Therefore, it is advisable to claim the QBI deduction before your income reaches the phase-out level.
- Claim the QBI deduction for all sources of qualified business income. The QBI deduction is not limited to certain types of income or expenses. You can deduct any income or expense that is effectively connected with your trade or business, as long as it meets the definition of qualified business income. This means that you should not exclude any income or expense from your calculation of QBI, even if it seems obvious or irrelevant.
- Claim the QBI deduction for all business entities that you own or control. The QBI deduction applies to any trade or business that you operate as a sole proprietorship, partnership, S corporation, LLC, or trust. This includes any entity that you own or control directly or indirectly through a partnership agreement, a trust agreement, or a similar arrangement. Therefore, you should not ignore any income or expense that is reported on the tax return of another entity that you own or control.
The QBI deduction is a tax benefit that can help you reduce your taxable income and save money on taxes if you are a self-employed or small-business owner. However, it is not available to everyone and it has some rules and limitations that you need to be aware of. To claim the QBI deduction effectively, you need to keep track of all your receipts and invoices related to your trade or business activities, use Form 8995-A instead of Form 8995 if possible, claim both Schedule A and Schedule A-C if applicable, claim the QBI deduction for all sources of qualified business income, and claim the QBI deduction for all business entities that you own or control.
If you need help with claiming the QBI deduction or any other tax-related issues, you may want to contact Robert Hall & Associates’ tax preparation services in California. They are a team of experienced and certified tax professionals who can assist you with all your tax needs. They offer personalized and affordable solutions for individuals and businesses of all sizes and industries. Whether you need help with preparing your tax return, resolving an audit issue, planning for retirement, or maximizing your deductions, they can help you achieve your financial goals. Contact Robert Hall & Associates today and let them handle your taxes while you focus on your business.