The income (or loss) from a sole proprietorship or single member Limited Liability Corporation (LLC) is reported by the business owner on Schedule C (Form 1040). This income or loss from this Schedule C is considered as coming from a pass-through business and is eligible for treatment as Qualified Business Income (or Loss) under Section 199A deduction.
This deduction taken on the individual taxpayer’s return and it is commonly referred to as the Qualified Business Income Deduction (‘QBID’). This deduction was enacted as part of the Tax Cuts and Jobs Act (TCJA), and the QBID allows owners of pass-through businesses to deduct up to 20 percent of the qualified business income from their taxable income.
A sole proprietorship (or single member LLC) reports the information needed for the taxpayer to calculate any Qualified Business Income on Schedule C and the Net Profit or (loss) that is reported on Line 31 of Schedule C will be the starting point for the QBI coming from each sole proprietorship. This amount is carried to the appropriate QBID worksheet as Qualified Business Income. However, that income amount may be subject to certain deductions to determine the Qualified Business Income (QBI) from the sole proprietorship. Items that reduce QBI from a sole proprietorship are the following:
Deductible part of self-employment tax – When a Schedule C, Line 31 has a net profit, that amount may be subject to Self-Employment Tax if the total self-employment income reported by the taxpayer results in a net income. When the taxpayer owes self-employment tax, a portion of the self-employment tax owed is deductible from their adjusted gross income and QBI.
Self-employed SEP, Simple, and qualified plans – Any deduction taken by the taxpayer for contributions to retirement savings plans that is based on their self-employed earnings from a sole proprietorship or a limited liability corporation with a single member will reduce the QBI from the Schedule C business.
Self-employed health insurance deduction - When the self-employed sole proprietor business owner pays for health insurance, it can be entered on that taxpayer’s tax return as an itemized deduction or as an adjustment to income as the Self-employment health insurance deduction. Any Self-employed health insurance deduction taken by the taxpayer as an adjustment to income will reduce the QBI from the Schedule C business.
QBID is generally available to most taxpayers with pass-through business income whose 2018 taxable income is at or below $315,000 for joint returns and $157,500 for other filers. Taxpayers with incomes above these levels may still be eligible for the deduction but the deduction will be subject to limitations based on the type of trade or business, the amount of W-2 wages paid by the trade or business, and the unadjusted basis immediately after acquisition of qualified property that was placed in service in the trade or business. See Qualified Business Income Deduction - Overview for additional information.
A taxpayer with a sole proprietorship reporting income above the threshold amounts needs to consider the W-2 Wages paid by the business and the Qualified Assets held by the business when making the QBID calculation for this Schedule C business. This information can be entered or is calculated in the Schedule C entry menus in the tax program. To make or adjust the entries for W-2 Wages, Qualified Assets or to make a designation that the business is a Specified Service Trade or Business, from the main Schedule C – Edit Menu select Qualified Business Income Deduction Amounts. The following options are available:
Qualified Business Income –the amount reported is calculated by the program. This amount can be adjusted by the user. Adjustments to this amount are not common and adjustments should be made by the user only when the calculated amount is found to be an amount different than what the taxpayer believes should be reported. This amount will automatically carry to the appropriate QBID worksheet which can be found from the Main Menu of the tax return by selecting Tax Computation.
W-2 Wages Paid – the amount reported in this section is generally the wages paid by the sole proprietorship that were reported to the Social Security Administration on a W-2, as well as any elective deferrals and deferred compensation. Rev. Proc. 2019-11 provides additional guidance on how to calculate W-2 wages for the purpose of Section 199A. Any amount entered will automatically carry to the QBID worksheet if the taxpayer’s income is above the threshold amounts. The amount entered for W-2 Wages can be found from the Main Menu of the tax return by selecting Tax Computation.
Unadjusted Basis of Depreciable Assets – Qualified property is generally defined as (1) the original cost of assets that were placed in service by the business in the past ten years and still used by the business and (2) the original cost of assets still being depreciated by the business because the recovery period is greater than ten years. This amount is calculated by the tax program based only on the assets that have been entered in the Depreciation Module for each business. This amount can be adjusted by the user if assets have not been entered on the depreciation module, but any adjustments will not carryforward and will need to be re-entered each remaining year of the qualifying period.
Is Specified Service Business? – This is a question which requires a YES or NO response. The default answer to this question is set at NO. Changing this response to YES will then treat the income (or loss) coming from this Schedule C as coming from a Specified Service Trade or Business for the Qualified Business Income Deduction. See: Making Qualified Business Income Deduction (Section 199A) entries when the pass-through business is a Specified Service Trade or Business (SSTB).
NOTE: This is a guide on entering the Qualified Business Income Deduction into the tax program when the pass-through business is a sole proprietorship. This is not intended as tax advice.