Are you an entrepreneur making less than $350,000 dollars? Today, I talk tax strategies he can use to reduce taxes on your 2018 tax return.
Previously I talked about entrepreneurs who make less than a $100,000. Even if you make above that amount, I do recommend you watch that video because there are some things you can learn. In this video I specifically talk about situations in addition to that. That might limit those deductions for an income earner who is, who makes $315,000 if married jointly. So, which means you and your spouse makes $315,000. Or if single file and makes about $157,500 and above.
I’m sure by now you’ve heard about the qualified business income deduction. The qualified business income deduction, also known as QBI deduction is 20% of your QBI income. What is your QBI income? For most people, It will most likely be your net income.
So, when taxable income is below $315,000 for married person and $157,500 for other filing status, there is nothing to worry about. However, problems and complication start happening when you go about this amount.
Let’s talk QBI limitations. But first, before I do that I need you to understand what a specified business is. The rules change depending on whether or not you are classified as specified business or your other, general businesses. So, what is a specified business? A specify trade or business is a business involved in the performance of services in the field of health, law, accounting, consulting, financial services, brokerage services, or any trade or business where the principal asset of such a trading business is the reputation or skill award of one or more of its employees. In other words, if you’re service business where the business depends on you – you are the business. You are a specified business.
So, if you’re not a specified business, then you’re a non-specified business. A general business is what I call it. Basically, you don’t meet this definition. As a general business owner, I would like to take a minute to talk about your limitations. If you make over $315,000 if you’re married. $157,500 if you’re a single, the QBI deduction is subject to phase out limitations. However, it’s at $415,000 for married and $207,500 per single. Your QBI cannot be more than 50% of your wages or the sum of 25% of your wages plus 2.5% of the unadjusted basis. And basically, unadjusted basis is the original costs you bought your assets.
So, let’s look at a 50% of wages limitation. Here’s an entrepreneur making about $350,000 a year without paying wages he owes $96,198 in taxes. With pay wages, he pays $85,963 in taxes. This is a $10,000 difference. So, if he was not going to pay himself wages because he was above that income threshold he does not get the QBI deduction.
Let’s take a look at what this looks like. Same situation. The only difference is he took $50,000 in wages. So, that the 50% limitation. He can only take the maximum of 50% of his wages, which is the $25,000 to intercept above the threshold. So, 50% of $50,000 is $25,000. And that alone brings his taxes down by $10,234.
So, now let’s make the assumption that this business owner has a million dollars in assets. So that means sitting on his books right now, the cost of what he bought this asset, less all the depreciation he’s taken over the years is a million dollars. Well he gets to get 2.5% of that plus 25% of his wages if it’s higher. But the 50% of the wages is higher, he gets to get that. But in this case, the 2.5% of unadjusted bases, plus 25% of wages were higher. So, we can scroll down here and we can see the test that he gets $37,500 of QBI. Now here when he paid no wages or did nothing he gets zero which we’ve talked about before. But now he gets $37,500. This brings his tax liability down to $81,588. So, that is a savings of $14,609. Same situation, only difference is you’ve chosen to pay wages versus not take wage.
Now as a specified business you don’t have to wage limitation like the non-specified business has. As a specified service business, if are above the threshold and your income reaches $415,000 for married files and per $207,500 for single you don’t get a QBI. So, at this level it looks like the C-Corp might actually be best for you because you get that flat 21%. In-between the $315,000 and $415,000 your income is phased, your deductions phased out based on how far above you are above the threshold.
Let’s take a look at a specified business example. So here I have checked that I do want to be a specified business and you can see this is exactly the same example I have previously. $50,000 in wages, one million in assets for the test. So, I already change that, just like I did previously. And we can see that on the individual income tax side we have a little break of $1,484. However, because of the wages were paid. There was an increase in payroll taxes of $3,825. So that’s actually, and that means you actually end up paying more if you include payroll taxes in the amount of $2,340. And you can see here that you don’t get any QBI deduction. So, once you, once you exceed that threshold as a specified business, the C-Corp test becomes even more essential for you.
So, back to the C-Corp test, say “yes” I want to test from S-Corp to C-Corp and see what happens. Whoa! Look at my tax liability! It goes down $22,698. As a specified business with very high income, I mean, it went at that income level. I think most people will agree that $22,000 is not a pocket change of money.
So, it might be worthwhile looking at a C-Corp. Because the 21% tax rate is lower. Most, more than likely lower than what you’re paying on your personal side.
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