The partial government shut-down—and the knots it’s tying Washington into—persists. But some of the federal government is funded (e.g.,the Department of Labor (DOL) and the Tax Cuts and Jobs Act (TCJA) reg-writing function at the Treasury Department), and so there was some substantive activity last week – including finalization of the pass-through business income deduction regulations. Here’s a summary of what happened last week, and what we expect from the upcoming week.
Taxes/Pass-through business income deduction: Treasury finalized its section 199A pass-through business income deduction regulations. There were few changes to the rules as proposed. Most importantly and representing a big win for NAIFA, the final regulation specifically excludes insurance sales from the “specified service trade or business” (SSTB) definition. As you no doubt recall, SSTBs do not qualify for the deduction, unless their owners earn less than $415,000/married($207,500/single).
Financial services is by statute designated as an SSTB, so excluding insurance sales from its definition is a big deal. However, provision of financial advice/planning is included in the definition of SSTB, so NAIFA members (who are not employees) whose business includes both insurance sales and financial planning must pay close attention to the SSTB rules.
Under those rules, those with income (including income not from the SSTB (e.g., spouse’s income, investment income) of less than $315,000/married ($157,500/single) can qualify for the full 20 percent deduction. The deduction is subject to a phase-out for incomes below $415,000/married ($207,500/single), and disappears entirely if income exceeds $415,0000/$207,500.
Adding to the complexity, there are “de minimus” rules that allow a pass-through business taxpayer to qualify for the deduction if only a “de minimus” amount of their income derives from an SSTB. Thus, if a NAIFA member earns less than 10 percent of his/her income from an SSTB with gross receipts of $25 million or less (five percent for gross receipts above$25 million), that member can still qualify for the section 199A deduction.
The regulations flesh out the rules that those who qualify must follow in order to claim the deduction. They define terms like“net capital gain” (the deduction applies to the excess of net long-term capital gain over net short-term capital gain and qualified dividend income)and what constitutes a “trade or business” (generally, where there is an intent to make a profit, and there is “considerable, regular and continuous activity”in operating the business). The final regulations specify that determination of whether the business activity is a “trade or business” will be a facts-and-circumstances determination—i.e., it will depend on the specifics of the taxpayer’s situation.
The final regulations also provide “computational”rules—i.e., guidance on how to calculate both qualified business income and the allowable deduction. While the deduction is, in general terms, 20 percent of qualified business income, it is subject to a calculation based on the relation of W-2 wage income to business income, and is capped at 20 percent. So, it could be less, depending on the amount of wages the business pays relative to the amount of income the business earns.
Also included in the final regulation are rules to apply when the taxpayer is aggregating more than one pass-through business.Reasonable compensation rules are also provided.
The general rule, of course, is that the section199A deduction is not available to employees and so only those NAIFA members whose businesses are organized as pass-through’s (sole proprietorships,partnerships, S corporations, LLCs) qualify for the deduction.
The regulations state that taxpayers can rely on the proposed version of the rules for the 2018 tax year. These final rules take effect for the 2019 tax year.