2018 Tax Act: Business Taxes- Domestic Production Deduction

The domestic production deduction. Code section 199, income attributable to domestic production activities is repealed.   This is effective beginning December 31, 2017.

A new Code Section 199A has been established for Qualified Business Income which allows for a deduction of up to 20% of qualified business income for partnerships, S corporations, and proprietorships.

A new non-cash deduction is available to certain noncorporate taxpayers, but before the deduction can be calculated, three questions must be answered.

1.      Is the activity a trade or business?

2.      Is the individual’s taxable income below the phase-out amount of $315,000 for married filing jointly or $157,500 for other individuals?

3.      Is the business a service or non-service activity?  

General rule:

Below the threshold amount, a new deduction for 20% of non-corporate taxpayers is allowed.  

1.      The taxpayers who have domestic, qualified business income from a partnership, a corporation, or sole proprietorship

2.       Taxpayers in a specified service business who have a threshold amount, taxable income not exceeding $315,000, for married filing jointly, and $157,500 for individuals, indexed for inflation. 

An observation:

1.      The 20% deduction is determined separately for each qualified trade or business and then combined.

2.      This non-cash deduction is patterned after now repealed section 199, income attributable to domestic production activities.  However, under section 199, the taxpayers combine the activities.  Under the new rule, 199A, the taxpayer combines the deductions. 

Taxable income limitations:

1.      The combined deduction cannot exceed 20% of taxable income (before considering this deduction, and after first having removed any net capital gain).

2.      The combined deduction cannot exceed taxable income minus any capital gains.

General rule 2: Above the threshold amount and phase-out range, a new deduction of 20% for non-corporate taxpayers is allowed. 

1.      For taxpayers who have domestic qualified business income, from a partnership, S corporation, or sole proprietorship, but not

2.      For taxpayers in a specified service business. 

3.      Limited to the greater of:

a.       50% of the taxpayer’s applicable or pro rata share of W-2 wages paid by the partnership, S corporation, or sole proprietorship.

b.      Or the sum of 25% of the W-2 wages for a qualified trade of business, plus 2.5% of the un-adjusted basis immediately after acquisition of a qualified property. 

c.       The threshold amount plus phase-out range, taxable income of 315,000 for married filing jointly and $157,500 for other individuals, plus $100,000 for married filing jointly and $50,000 for other individuals.  Therefore, the phase out is from $315,000 to $415,000 for married filing jointly and $157,500 to $207,500 for other individuals.

This rule and the computations are very complicated and will require your CPA’s assistance.  Dealing with certain service businesses with phase out rules, non-service businesses also have phase out rules, and if multiple entities outside of the service sector are involved.  This deduction is computed on each separate business entity versus on a combined basis.