Qualified Business Income Deduction for Self Employed and Business Owners Explained
Section 199A of the Internal Revenue Code, also known as the Qualified Business Income (QBI) Deduction, was enacted as part of the 2017 Tax Cuts and Jobs Act and took effect in 2018. It allows owners of pass-through businesses sole proprietorships, partnerships, S corporations, LLCs, and certain trusts and estates to deduct up to 20% of their qualified business income directly from their taxable income. This deduction effectively lowers the top federal tax rate on that income from 37% to as low as 29.6%, delivering one of the largest tax rate reductions for business owners since the 1980s.
QBID is completed by attaching Form 8995. Most Tax Software’s will automatically attach/complete if you are a business owner.
It allows eligible taxpayers to deduct up to 20% of their qualified business income (QBI) from a pass-through business, effectively reducing the top effective federal income tax rate on that income from 37% to as low as 29.6%.
Eligible entities include:
Sole proprietorships
Single-member LLCs
Partnerships and multi-member LLCs
S corporations
Certain trusts and estates
Publicly traded partnerships (PTPs)
Line 13 on the Individual 1040 (See below), is where it will be input.
For taxpayers with taxable income below certain thresholds (in 2025, $394,600 for married filing jointly or $197,300 for single/head of household.
The full 20% deduction is available with no additional limitations. Above those levels, phase-outs and limitations begin to apply, and once income exceeds the top of the phase-in range ($494,600 MFJ or $247,300 single), the deduction becomes subject to wage and capital limitations: it is capped at the greater of 50% of the business’s W-2 wages or 25% of W-2 wages plus 2.5% of the unadjusted basis of qualified depreciable property. Certain professions classified as “specified service trades or businesses” (SSTBs)such as doctors, lawyers, accountants, consultants, financial advisors, and performing artists are partially or fully phased out of the deduction at the same income levels.
Section 199A is critically important in tax planning for several reasons:
It represents the single largest tax benefit available to most small and mid-sized business owners in the United States today.
For individual close to the phase out range and who have elected S - Corp Status, it is extremely important for tax payers to work with a CPA to develop a “Reasonable Compensation”, as this is likely the amount that will be used in the QBID Deduction, due to the wage and capital limitation rules. For example, a S-Corp Taxpayer, earning of $247,300 in business income and paying themselves a wage of $75,000 will receive a QBID deduction of $37,500 (75,000*50%) not $49,460 (247,300*20%) under the normal calculation. This is a difference in roughly $12,000 in taxable income.
It was designed to offset the 21% corporate tax rate given to C corporations, preventing a mass shift away from pass-through entities.
It creates powerful planning opportunities, including choices about entity structure, reasonable compensation in S corporations, cost segregation and accelerated depreciation to increase the capital limitation, aggregation or separation of business activities, and strategies to separate non-SSTB activities (especially real estate) from SSTB operations.
With the provision set to sunset at the end of 2025, taxpayers are aggressively accelerating income, maximizing depreciation, and restructuring businesses in 2024 and 2025 to capture the deduction while it is still available.
Using the QBID in conjunction with SOLO 401ks and SEP IRA’s can be a power tax planning tool. It can likely defer up to $100,000 plus in taxable income.
In short, for millions of pass-through business owners, Section 199A is currently the most valuable tax planning tool on the books, and its impending expiration makes it the central focus of tax strategy through the end of 2025.
