The Qualified Business Income (QBI) Deduction is a significant tax break that was introduced as part of the Tax Cuts and Jobs Act (TCJA) in 2017. This deduction allows eligible taxpayers to deduct up to 20% of their qualified business income from a qualified trade or business operated directly or through a pass-through entity. In this article, we’ll delve into the specific steps you need to take to calculate your QBI deduction.

Step 1: Determine Your Type of Business

To qualify for the QBI deduction, your business must be one of the following:

– Sole proprietorship

– Partnership

– S-corporation

– Trust or estate with business income

Additionally, some limitations apply if your business is classified as a Specified Service Trade or Business (SSTB), which includes fields such as health, law, accounting, and financial services.

Step 2: Calculate Your Qualified Business Income

Your qualified business income encompasses the net income generated from your trade or business. To calculate it, subtract your deductible expenses from your total revenue. Be sure not to include any capital gains, dividend income, or interest income.

Example calculation:

Total Revenue: $150,000

Deductible Expenses: $50,000

Your QBI: $100,000

Step 3: Determine Your Taxable Income and Threshold

Your taxable income is not limited to your qualified business income; it includes all your other sources of revenue as well. Calculate your total taxable income by subtracting all deductions from your adjusted gross income (AGI).

For the tax year 2021, the taxable income thresholds are:

– Single filers: $164,900

– Married filing jointly filers: $329,800

These thresholds determine whether you will face limitations on your QBI deduction. If your taxable income is below the threshold, you can claim the full 20% deduction, and no limitations apply.

Step 4: Calculate Your QBI Deduction

Once you have calculated your QBI and taxable income, you can determine your QBI deduction. In general, the deduction is the lesser of the following:

1. 20% of your QBI

2. 20% of your taxable income minus net capital gains

Example:

QBI: $100,000

Taxable Income: $80,000

20% deduction on QBI: $20,000 (0.20 x $100,000)

20% deduction on Taxable Income: $16,000 (0.20 x $80,000)

In this case, the lesser amount is $16,000. Therefore, the QBI deduction would be $16,000.

Step 5: Account for Limitations (if applicable)

If your taxable income exceeds the threshold mentioned in Step 3 and your business falls under SSTB classification or has a significant W-2 wage or property basis, your QBI deduction may be limited or eliminated entirely.

In these cases, it’s advisable to consult a tax professional to help navigate the limitations and ensure that you claim the maximum allowable deduction.

Conclusion:

Calculating your QBI deduction may seem daunting at first glance; however, breaking it down into these manageable steps makes it achievable for most business owners. By accurately determining your qualified business income and taxable income threshold, you can take full advantage of this valuable tax benefit.