Although highly-debated, controversial and sometime without a policy justification the new Tax Cuts and Jobs Act signed into law by President Trump lets owners of certain passthrough entities deduct 20% of specific types of income earned by those businesses. In doing so, Congress was attempting to mollify concern that only big corporation, "C-corps," would benefit from tax cuts.
However, not all income is deductible for passthrough entities. For example, "reasonable compensation" paid to owners is not eligible for deduction. Rather, only earnings from capital is meant to get relief. Further, passive income is also ineligible for the deduction to stop passthroughs from being used as a tax-shelter.
Moreover, if an owner's taxable income is too high, the deduction becomes subject to several limitations. For instance, the deduction phases out for joint filers with taxable income between $315,000 and $475,000; for individuals $157,500 and $207,500. Additionally, taxable income above these limits coming from firms providing services such as law, accounting, medicine and other professional activities is not eligible for the deduction.
New to the bill, however, is a 20% deduction for qualified dividends paid by real estate investment trusts, qualified publicly traded partnership income and cooperative dividends. Additionally, special rules apply to agricultural or horticultural cooperatives.
Experts are interested into how the IRS will police and define these new laws and rule. Several have already commented that tax planning may include setting up numerous companies to shift profits and income to the more tax-favored business. One way is to have the operations split from the physical location and have the operations side of the business pay above average market-price in rents to a newly formed real estate investment trust.
As businesses, accountants and lawyers delve into and work with the new law, many new tax planning strategies will develop. Work with an attorney at Painter & Associates to develop the best tax planning strategy for your business.