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Certain individuals with business income can lower their taxable income
Business income for a sole proprietor, partnership, S corporation, trust, or estate may be eligible for the deduction
Your maximum possible deduction phases in (decreases) once your taxable income reaches a threshold
Eligible individuals will likely receive Schedule K-1 to help file their taxes
Complete Form 8995 or Form 8995-A to claim the tax deduction
The qualified business income deduction (QBI deduction) allows some individuals to deduct up to 20% of their business income, REIT dividends, or PTP income on their individual income tax returns. Those who can claim the QBI deduction include sole proprietors, the partners of a partnership, the shareholders in S corporations, as well as some trusts and estates.
The QBI deduction lowers your taxable income, which is the amount used to determine how much annual income tax you owe. Filers can claim the deduction whether they take the standard deduction or itemize their deductions.
The maximum possible deduction is limited once you reach a certain threshold of taxable income. Working in certain fields or trades can also affect your available deduction. Only domestic business income is eligible, and you will probably receive a copy of Schedule K-1 if you have eligible QBI.
The QBI deduction was created by the Tax Cuts and Jobs Act of 2017, a major reform of the federal tax code. Section 199A details the deduction, so you may also see it called the Section 199A deduction. The deduction has also changed in just the two years of its existence, with Form 8995 or Form 8995-A now required.
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In order to qualify for the deduction, a taxpayer must have taxable income from one of the following:
You can still qualify if you have one of these three but not the other two. You also do not need to itemize your deductions in order to claim the qualified business income deduction. That means as long as you qualify for the deduction, you can take it. (This is different for itemized deductions, like the medical expense deduction, which you can only claim if you also qualify for a certain amount of total itemized deductions.)
Businesses with qualifying income should report the necessary information to its shareholders or partners on an attachment to Schedule K-1.
Learn more with our guide to filing income taxes.
Some businesses, called pass-through entities, do not pay the corporate income tax rates. Instead, the business’ income is passed onto the individual owners, who divide it up and pay tax on it on their individual tax returns, along with any other personal income they have. In this case, the business itself is a taxable entity according to the IRS. Taxable entities can also include things like organizations and trusts. You may also see the terms pass-through business or flow-through entity.
Pass-through entities that may be able to claim the QBI deduction include
C corporations are not eligible for the deduction, even if they are pass-through entities. You also aren’t eligible for income you made by providing services as an employee.
Remember that the QBI deduction is for individual taxpayers. That means an S corporation, for example, can’t take the deduction, but it’s shareholders can. Similarly, agricultural and horticultural cooperatives do not qualify, but members who receive a dividend or payment from the cooperative (patrons) may.
Qualified business income is taxable income that comes from a domestic business. If a business also has foreign income, only domestic income is eligible.
Qualified business income does not include the following:
For this deduction, qualified REIT dividends include most of the REIT dividends that people earn. You can find the amount of your qualified REIT dividends in box 5 of a 1099-DIV.
For a REIT dividend to qualify, you must have held it for more than 45 days, the payment must be for you, and it cannot be a capital gain dividend or regular qualified dividend. An example of a REIT dividend that may not qualify is one where the REIT sold its underlying real estate and generated a capital gain.
Qualified income from a PTP (publicly traded partnership) includes your share of income, gains, deductions, and losses from a PTP.
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The full QBI deduction is worth the lesser of
The exact value of your deduction depends on how much income you have. As long as your taxable income — before considering the QBI deduction — is less than the income threshold, you can claim up to the full deduction.
If your taxable income is equal to or higher than the threshold, your maximum possible deduction is subject to limitations. How much you can get will decrease based on your income. Use the worksheets in the instructions of Form 8995-A to calculate your exact deduction. The deduction considers multiple factors and the instructions will walk you through them.
Income from a specified service trade or business (SSTB) doesn’t qualify for the QBI deduction, once you pass the income threshold. You can learn more about SSTBs in the next section.
Once you reach a certain income limit, you no longer qualify for the deduction at all. Thresholds are determined by your filing status. You may see the term phase-in range or phased-in limit to describe the deduction for incomes between the threshold and upper income limit.
|Filing status||Income threshold (limit for the full deduction)||Income limit for a partial deduction|
|Head of household||$160,700||$210,700|
|Married filing jointly||$321,400||$421,400|
|Married filing separately||$160,725||$210,725|
|Married nonresident alien||$160,725||$210,725|
The table above applies to the taxes you file in early 2020. For your 2020 taxes, which you file in early 2021, the threshold amount will increase to $326,600 for married couples filing joint returns, and $163,300 for all other filing statuses.
(Learn more about which filing status to use.)
Once you pass the QBI deduction income threshold, your maximum possible deduction decreases until you no longer qualify at all. Income from an SSTB does not qualify. An SSTB is any business or trade that performs services in one of the following fields:
In addition to SSTB income, income from these three sources does not qualify for the QBI deduction:
Start by collecting documents that list your eligible income. Most people will have a copy of Schedule K-1, with the necessary information attached.
Next, you need to calculate your taxable income. You can do this by going through the first eight lines of your Form 1040 to find your adjusted gross income (AGI). If you’re using an online tax-filing service, it will help you calculate this amount.
Learn more about how to fill out Form 1040.
If you are claiming the QBI deduction for 2019, you will need to fill out either Form 8995, Qualified Business Income Deduction Simplified Computation, or Form 8995-A, Qualified Business Income Deduction.
Use Form 8995 if your taxable income is less than the income threshold in the table above. Fill out Form 8995-A if your taxable is more than the income threshold in the table above. Attach whichever form you use to your tax return, which means Form 1040 for most Americans.
Both of these forms take you through the process of adding up your qualified business income, qualified REIT dividends, and qualified PTP income. Then you determine the amount of your deduction. The calculations themselves are all relatively straightforward.
Note that this deduction does not affect other taxes or forms you need to attach to your return. For example, the QBI deduction doesn’t reduce your self-employment tax. If you have income from rental real estate, even if it qualifies for the QBI deduction, you likely still need to report it on Schedule E. If you are a sole proprietor with business income or loss, you still need to file Schedule C.
The QBI deduction was created by the 2017 tax reform and was first available for 2018 taxes, which most people filed in early 2019.
Anyone claiming the deduction for 2018 does not have to attach an additional form. The 2018 QBI deduction is calculated right on Form 1040. To help your calculations, there is a worksheet in the Form 1040 instructions for filers below the income threshold, and IRS Publication 535 for filers with taxable income above the threshold. You can find all 2018 forms and instructions on the IRS website.
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