This tax deduction is as good as free money
David Knittel, CPA | Director of Tax
If you are not familiar with the acronym QBID you should be; let me explain why. QBID stands for the Qualified Business Income Deduction. The calculations and limitations can be complicated but in its simplest form the QBID can provide a tax deduction of up to 20% of your practice income without costing you anything in return. Free money…if you qualify. Making sure you qualify is the tricky part and is where we can help!
The QBID was put into place as part of the Tax Cuts and Jobs Act and was intended to level the playing field between business owners operating as passthrough entities and C-Corporations which received a reduction in top tax rates from 35% to 21%. Its not a perfect solution, will not apply equally for everyone, and could definitely use some refinement, but, in the right situation it provides tremendous benefit.
Many tax benefits are based on taking advantage of timing differences. For example, the well-known section 179 deduction is a very valuable tax planning tool but in many cases is used only to advance a deduction into the current year which otherwise would be taken over 5 to 7 years. This is referred to as a temporary difference. The deduction is simply being taken now rather than later. The amount of deduction has not changed. The QBID on the other hand is a permanent difference. It’s a deduction that otherwise would not have been allowed. Its an extra deduction…as long as you qualify. This is where proactive (not reactive) tax planning can really shine. Let’s take a deeper look.
As complicated as the rules for the QBID can be, for practice owners, the calculation can be quite simple. For the most part you will be eligible for the 20% deduction if your taxable income (which includes all income and deductions) is less than $315,000. The 20% deduction will be phased out ratably as taxable income rises from $315,000 to $415,000 and is eliminated after taxable income reaches $415,000. These amounts are for married taxpayers. For single taxpayers the thresholds are $157,500 and $207,500.
If your taxable income is under $315,000, enjoy your free money, you get the full 20% deduction. If your taxable income is over $315,000 (or even over $415,000) you will want to work with your CPA to reduce income in certain years while raising it in others so that at least some years qualify. For example, if your taxable income is typically $425,000 you are over the threshold and will not get the 20% benefit. However, if you can structure the timing of income and expenses to reduce your income to $285,000 in year one while increasing it to $445,000 in year two you can take advantage of a partial deduction for one of the two years even though you have earned the same amount over the two year period. The result…free money.
This result will not happen accidentally. It will take some proactive planning. Let’s get that conversation started. The next step will then be to figure out what to do with all the savings.