All You Need to Know About the New Pass-through Tax Law

There has been a lot of movement in the Tax Cuts and Jobs Act lately, however, one of the most significant tax reforms introduced is the tax law related to pass-through businesses. The business tax plan has been changed forever, and under the new pass-through rule, owners of different businesses will get a break on their qualified business income. However, understanding the Republican Tax is not THAT easy, and certain limitations and conditions are applicable to the new law. Through this article, we aim to give an overview of the new law and will discuss how it will have an impact on the hardworking earners of America. 

What does the Pass-through Tax Law Entail?

To simplify the law, we will explain the tax reform in the easiest possible manner in this section. People having interests associated with partnerships, S-corporations, limited liability corporations, and sole-proprietorships will be the ones that will be affected by this reform. The qualified business income (QBI) is referred to as the income, gain, or loss that is a direct result of the activities related to trade or business. A deduction of 20% will be implemented on the QBI which will reduce the taxable income of the owner and not the adjusted gross income. This is because individual taxes will have to be paid by the owners instead of on the pass-through income.

Limitations Associated with the New Tax Reform

A lot has been talked about the limitations regarding this tax reform. These limitations are exactly what makes the law complex and not comprehendible by a layman individual. The law, however, has certain complications and it is necessary to understand the rules and limitations associated with it to completely comprehend the reform. Here are some of the restrictions:

• The qualified business income will not cover items such as investments, dividends, and interest income. 
• The business has to be operated and conducted in the U.S to qualify for the reform.
• The deduction cannot surpass the 20% on the excess of your taxable income over the net gain.
• For all those looking to pay tax on an income of over a specified threshold, a special service charge will be implemented for those businesses that involve the services in the field such as, health, law, financial and brokerage services, athletics, and consulting. The threshold is $157,500 for those who are filing taxes individually and for those that are filing jointly, the threshold is $315,000. However, after the income reaches $207,500 for individual filers and $415,000 for joint filers, the practice of implementing the special service deduction is eliminated.
• For those with a taxable income of $207,500 for individuals and $415,000 for joint filers, the qualified business income deduction has many limitations. These limitations are as follows:
• The deduction on your QBI cannot surpass 50% of your share of W-2 wages that are associated with the trade or business in question.
• The deduction can also not exceed 25% of these wages along with 2.5% of the share of unadjusted basis after acquiring qualified property.

How to Prepare for the New Tax Reform

To understand this new tax reform fully, you will need to go over a detailed document that is over 100 pages long. Hence, it is strongly recommended to seek counsel from an Accountant or a professional Tax preparer who can help you understand how this new rule will affect your business. A major decision that business owners will have to re-visit as a result of this reform concerns the overall structure of the business. Moreover, for all those taxpayers whose taxable income lies above the threshold, there is a greater need to understand all the complexities associated with the new reform. 

Bottom Line

Such a huge change in the existing tax structure needs due importance and attention. Hence, it is advisable to start preparing yourself for the coming change with the help of a professional tax preparer.