Question

Ben and Molly are married and will file jointly. Ben earns $300,000 from his single member LLC (a law firm). He reports his business as a sole proprietorship. Wages paid by the law firm amount to $40,000; the law firm owns no significant property. Molly is employed as a tax manager by a local CPA firm. Their modified taxable income is $375,000 (this is also their taxable income before the deduction for qualified business income). What is their tentative QBI based on the W–2 Wages/Capital Investment Limit?

Answer 1

As per IRS, a single individual can form an LLC and remain a sole owner. With the exception of regulatory requirements, a sole owner will conduct day-to-day operations in the same manner as he did as a sole proprietor. A single-member LLC is not regarded as a taxable entity by the IRS. Profits and losses are reported on the single member's personal tax return in the same manner as a sole proprietorship.

As per IRS in the year 2018, The deduction cannot be more than 20% of the taxpayer’s taxable income (less net capital gains). In addition, the deduction can be no larger than 50% of the taxpayer’s allocable share of wages of the PTB, or 25% of such wages plus 2.5% of the taxpayer’s allocable share of unadjusted basis of depreciable property of the PTB. some high-income taxpayers may be denied the deduction if their PTB falls into various categories of specified service businesses (SSBs), such as doctors, lawyers, accountants and professional athletes. These limitations are subject to a phase-in range based on the taxpayer’s level of taxable income. Taxpayers with $157,000 or less of taxable income ($315,000 or less for a married couple) would be free of the wages limit and the SBB disallowance. Taxpayers with $207,500 or more of taxable income ($415,000 or more for a married couple) would be subject to the full wages limit and any deduction for a SSB would be disallowed in full.

Ben is an SSB since he is having a law firm.

The deduction is as under,

20% of QBI or 50% of wages or 25% of wages + 2.5% of taxpayer’s allocable share of unadjusted basis of depreciable property

= 75,000 (375000*20%) or

20,000 (40000*50%) or

10,000 (40000*25%)

Now, phase out of threshold ($315,000 for MFJ)

Phase out range ($100,000 for MFJ)

So, QBI more than threshold = $60,000 (375000 - 315000)

So, wages limit reduction will be = 60% (60000/100000)

So, QBI will be considered as $55,000 (75000 (20% of 375000) - 20000 (50% of 40000))

So, Phased out deduction = $33,000 (55000*60%)

So, QBI after phased out deduction = $42,000 (75000 - 33000)

As per IRS, if PTB is a SSB, applicable percentage for QBI deduction is 100% less wages limit reduction.

= 40% (100-60)

So, QBI deduction = 42,000 * 40%

= $16,800

So, 16,800 or 75,000 whichever is less

= $16,800