The New Deduction for “Pass –Through” Businesses

10 min read

The Tax Cuts and Jobs Act enacted Code Section 199A which provides a   20% deduction for businesses. However the deduction is not always 20%, and not every business qualifies. This article explores the key elements of this new provision.


The deduction for years beginning after 2017 is available for Individuals as well as Estates and Trusts that have qualified business income from an S-corporations, partnerships or sole-proprietorships. Although the deduction is generally based on net business income, it is taken against taxable income.  This means that taxpayers will enjoy the deduction whether they take the standard deduction or itemize.

Qualified Business Income

Qualified Business Income includes the normal type of income, deductions and gain or loss from a US trade or business. Dividends, interest, long-term and short-term capital gains and losses do not count.

Overall Limit to the Deduction

  1. The lesser of:
    • The combined qualified business income of the taxpayer, or
    • 20% of the excess, of the taxable income over the sum of any net capital gain and the aggregate amount of the qualified cooperative dividends; plus
  1. The lesser of:
    • 20% of the aggregate amount of the qualified cooperative dividends, or
    • Taxable income (reduced by the net capital gain).

Restated-Overall limit to the deduction

 If a taxpayer has no cooperative dividends the deduction is simply the lesser of:

  1. The combined qualified business income of the taxpayer
  2. 20% of taxable income over capital gains.

Combined Qualified Business Income Calculation

  1. The Deductible Amount for Each Business (see below); plus
  2. 20% of the aggregate amount of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership income.

The Deductible Amount for Each Business

The lesser of:

  1. 20% of the net Qualified Business Income, or
  2. The greater of (Wage and Property limitation):
    • 50% of W-2wages for the business, or
    • 25% of W-2wages for the business plus 2.5% of the unadjusted basis, immediately after acquisition, of Qualified Property .

Phase –In Range for Wage and Property Limitation

The wage and property limit only applies when taxable income reaches $315,000 for MFJ and $157,500 for others. When taxable income is below these amounts the deductible amount is 20% of qualified business income. When taxable income exceeds $415,000 for MFJ and $207,500 for others, the Wage and Property limitation is fully applied. When taxable income is between $315,000- $415,000 for MFJ and $157,500-$207,500 the limitation is phased in.


Dennis and Susan are married and file a joint return showing $500,000 of taxable income. For his business Dennis has net income of $600,000, wages paid of $100,000 and equipment with a basis of $400,000.

  1.  Business Income: $600,000 x 20% = $120,000
  2. Wage and Property Limitation:
    • 50 % of wages: $100,000 x 50% = $50,000
    • (25% of wages: $25,000) + (2.5% of property x $400,000) = $35,000

Greater of 1 and 2 = $50,000

Lesser of A or B (Qualified Business Income Amount) = $50,000

Taxable Income Limitation (20% x $500,000) = $100,000

Deduction is the lesser of $50,000 or $100,000 = $50,000

Qualified Trade or Business (QTB):

Generally only a QTB qualifies for the deduction. A QTB is any business other than for a Specified Service Trade or Business (SSTB). A SSTB is a trade or business involving services in the fields of health, law, accounting , actuarial science, performing arts, consulting, athletics, financial services, brokerage , including investing and investment management, trading or dealing in securities, partnership interests or commodities and any trade where the principal asset is the reputation or skill of one or more of its employees.

Note: In a last minute change Engineers and Architects were excluded from the definition of SSTB.

Specified Service Trade or Business (SSTB)

A service business could qualify for the deduction if the taxable income of the owner was low enough.  The phase –out range is: $315,000-$415,000 for MFJ and $157,500-$207,500 for other taxpayers.

The deduction is allowed in full (subject to the 20% of Taxable income limitation) when the owner of a SSTB has taxable income below $315,000 for MFJ and $157,500 for others.

The deduction is disallowed when taxable income reaches the limits of $415,000 for MFJ and $207,500 for others.

The deduction phases out when taxable income is within the ranges of $315,000-$415,000 for MFJ and $157,500- $207,500 for others.


This article serves as a primer to this new code section. There are many other matters to consider including planning strategies, choice of entity implications, phase-out calculations, reasonable compensation, defining a service business, etc. which will be covered in upcoming Becker webcasts and On-Demand learning courses.


John M. Stevko, CPA, has over 40 years of professional experience as a tax practitioner, national seminar instructor, writer, and business owner. John began his career with what is now a “Big 4” public accounting firm before founding a local CPA firm in Beaverton, Oregon. At that same time, John began speaking for Gear Up Tax seminars and eventually becoming the managing partner of the business. John has lectured on tax law and healthcare reform throughout the country at national conferences and in-house for top 100 CPA firms and the large banking industry. He has also appeared on television and radio programs seeking his expertise on tax and healthcare legislation.

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