Transcription
The new tax bill has extended and enhanced the QBI deduction, made it permanent, and also increased the phase-out limits, allowing more people to qualify for this. This single provision in the tax bill will save business owners, independent contractors, and qualifying 1099 earners over $700 billion in taxes over the next 10 years.
But believe it or not, a lot of people actually miss this deduction because they think they do not qualify for it when they do, or they miss opportunities to structure their business in a way where they do in fact qualify for this. So, in this video, I am going to give you a very simple and easy-to-understand breakdown of the new QBI deduction and popular strategies you may be able to use as a practicing CPA that actually helps people use this provision every day at mycpa coach.com. So, if that sounds good to you, please hit the like button for me below. Comment your thoughts as we go through this, and let's go ahead and dive in.
Okay, so the QBI deduction is a freebie tax deduction that grants a 20% deduction against qualifying income for simply being classified as a business owner. For example, someone with $150,000 in qualifying income could instantly write off $30,000 on their taxes with the QBI deduction, which would save someone in the highest tax bracket over $11,000.
But a lot of people miss this deduction every year for a number of reasons, like number one, the fact that this deduction is not automatically applied to your tax return. So, some people forget to claim it altogether. And then there's number two, which is the fact that the rules exclude certain types of businesses, but then there are several exceptions to those rules, causing people to miss this deduction when they do in fact qualify for this, especially with the new rules.
So, let's go ahead and break this all the way down, starting with who exactly qualifies for the QBI deduction. So, in short, you have to operate a qualified trade or business, which the tax law defines as any trade or business other than a specialized service trade or business, which I will give you some workarounds for shortly if that's you, or B, a trade or business where you perform services as an employee. You cannot take this against W2 wages, unfortunately.
Now, income that does qualify for this usually includes income from sole proprietorships, LLCs, partnerships, and S corporations, although C corporations do not qualify for this. And a lot of people don't know this, but qualifying income may also include many forms of 1099 income, like income earned as an independent contractor, which the IRS classifies as self-employment income, allowing them to take advantage of the QBI deduction. And there are millions of hardworking independent contractors and gig workers who earn this type of income without realizing that they actually qualify for this. So, make sure you share this with someone you know who may benefit from it.
With that said, let's go ahead and talk about one big exclusion that prevents millions of business owners from using the QBI deduction altogether and some strategies to get around it, which is related to the exclusion around specialized service trades or businesses. So, in general, specialized service trades or businesses are excluded from taking the QBI deduction unless they qualify for an exception, which we'll get to in a moment. But first, let's define what this actually means.
On a high level, a specialized service trade business is any service business where the principal asset is the reputation or skill of one or more of its employees. Or, in very simple terms, if the service provided relies on a person that is giving expert advice, performing highly skilled work, or being famous or sought after for their work, like their reputation is really good, then that business is usually considered specialized. Simple examples of this include doctors, lawyers, accountants, actors, musicians, and related occupations.
Now, on the other hand, if the services of that business are product-based, support-oriented, or mechanical in nature, then they would not be classified as specialized for their trade or business. And examples in related fields would include pharmacy owners, legal tech companies, payroll companies, and so on.
Now, regardless of if you qualify or not here, there are key exceptions to these rules and strategies that may help you get around this, which are critical to know if you want to maximize your savings. So, let's go ahead and cover those.
Starting with the income exception. So, if you earn below a certain amount of income, you can qualify for the 20% QBI deduction even if you have a specialized trade or business. For example, in 2025, single filers with less than $197,000 and married filers with less than $395,000, roughly, can take the QBI deduction as long as they have qualifying income. And once you earn above those thresholds, your deduction then begins to phase out and completely phases out once you earn more than $50 to $100,000 above these ranges, depending on your filing status.
And even better, beginning in 2026, those phase-out thresholds will increase to $75,000 for single taxpayers and $150,000 for married taxpayers under the new QBI rules, making it easier for higher-income taxpayers to qualify for this. Plus, there will also be inflation adjustments to those thresholds as the years go by, which is beneficial to keep an eye on, as well as your income throughout the tax year.
But if you find out that you still do not qualify for this, there are two big strategies that are worth considering. Like strategy number one, reducing your taxable income to meet the income thresholds. The income thresholds for the QBI deduction are based on your individual taxable income. This is the amount of income reported on your tax return after accounting for all of your deductions, like the standard deduction and other deductions you may take through your businesses or uh generate through other investments. Which means that if we can increase our deductions, we may be able to reduce our taxable income enough so that we actually qualify for the QBI deduction. And I have seen this happen several times.
And there are many ways to realistically accomplish this by making tax-deductible investments into things like retirement plans, HSAs, charities, real estate ventures, or just reinvesting funds back into your business. Ultimately, if you can find enough deductions to reduce your income into the qualifying threshold ranges here, the QBI deduction can kick in to save you even more money in taxes.
But then there's strategy number two, splitting income into non-specialized trades or businesses. So, specialized businesses do not qualify for the QBI deduction. But what if we were able to split our business income up in a way where some of it actually does qualify? For example, let's say you run a business where you one, provide specialized services, and two, provide non-specialized services. Well, in that case, you may be able to segment your business structure in a way that ends up allowing you to take the QBI deduction against that non-specialized portion of this.
And there are many legitimate use cases for this. For example, if you sell specialized services and non-specialized goods and services, you might separate those two streams of revenue with different entities in order to qualify one of them for the QBI deduction. Or, if you do not have other streams of revenue, you could even separate certain portions of your business into separate entities. For example, in some cases, it may make sense to set up a management company to provide administrative services like payroll or support services to your primary operating business. And by creating a management service agreement where your primary business pays your management company a fee in exchange for services, you could effectively shift income from your specialized business into a non-specialized business. Therefore, opening the door for you to take the QBI deduction.
Now, I'll be completely honest with you. The decision to use a multi-entity format like this involves many more factors than just the QBI deduction. At best, the QBI deduction is just one additional tax benefit of setting up a separate entity for tax purposes. But there may be several additional legal or tax benefits available under a multi-entity structure like this that should be addressed in an all-encompassing tax plan. And if you are not currently working with a CPA to help you with things like this year-round, just consider applying to work with my team today at mycpa coach.com.