The Tax Cuts and Jobs Act of 2017 (the “Act”) cut the corporate income tax rate from 35% to 21% for tax years beginning with 2018. In addition, the Act reduced the top individual rate to 37%. So, where does this leave a “pass-through entity”, such as an s-corporation, LLC or partnership, whose income is taxed to the entity’s owner at the owner’s individual rate? The Act also added section 199A to the Code, which seeks to equalize the rate paid on business income, whether from a c-corporation or a pass-through entity, by providing a deduction to the owner of a pass-through entity. The deduction reduces the owner’s taxable income from his business, thereby effectively reducing the tax rate paid by the owner.
However, this deduction is not necessarily available to every owner of a pass-through entity. In order to take advantage of the section 199A deduction, a taxpayer must have income from a “qualified trade or business”. The problem is that certain professions are not considered a “qualified trade or business” and would, therefore, not seem to be eligible for the section 199A deduction. However, there is an exception for taxpayers with taxable income below a threshold amount. Those taxpayers may be eligible for the section 199A deduction even if their income is not derived from a qualified trade or business. The threshold amounts for 2018 were $157,500 for a single taxpayer and $315,000 for a married taxpayer.
The Act provides that the threshold amounts are indexed for inflation. The IRS recently announced the threshold amounts for the 2019 tax year. The threshold amount for a single taxpayer has increased to $160,700, and the threshold amount for a married taxpayer has increased to $321,400. Further, for a single taxpayer, the deduction phases out for incomes between $160,700 and $210,700. For a married taxpayer the deduction phases out for incomes between $321,400 and $421,400.
If you are a professional or have clients who are professionals, section 199A provides another reason to consider adopting a defined benefit pension plan. For purposes of the section 199A deduction, taxable income is determined after allowable deductions. For a professional with income above the threshold amount, a contribution to a defined benefit pension plan may, to the extent that the contribution is deductible, lower taxable income below the threshold amount. So, a professional, who makes a contribution to a defined benefit pension plan, may not only reduce taxable income by the amount of the contribution, but may also be able to further reduce taxable income by becoming eligible for the section 199A deduction. The increase in the threshold amounts makes this strategy available to even more professionals.
RMC Group has been in the pension business since 1974. Call today to learn more about our pension offerings at 239.298.8210 or email us at [email protected]. Our pension team of experts will be able to help you find the right qualified plan for your business clients!