How the New 2018 Tax Law affects Small Business Owners
The new tax law, called the “Tax Cut and Jobs Act” (TCJA), was signed into law on December 22, 2017 and is the largest overhaul of the US tax system since 1986. The bill is huge, and actually, in our opinion, makes many aspects of the tax code more complex rather than simpler. Some of the details are not entirely clear yet so we’re still learning more each day as the IRS implements various rules and decisions.
However, there is some very good news for small businesses (under a certain income and of a certain type of business activity) and any business that operates as a C-Corporation.
Pass-through Entities:
- This includes sole proprietorships, partnerships, LLC’s and S-Corporations.
- Will receive a 20% deduction on their Qualified Business Income (QBI or basically “net income”). So if you make $100,000/year in net income, you’ll only be taxed on $80,000.
- This deduction applies to individuals making less than $157,500 and married couples making less than $315,000 – the deduction is reduced as you exceed this income up to $207,500 for individuals and $415,000 for married couples (at which point the deduction is largely eliminated).
- This deduction is either excluded or reduced for the performance of services in the fields of health, law, consulting, athletics, financial services, brokerage services, or “any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees or owners.”
Again the rules are fairly complex (read this article if you have W-2 Employees for further clarification on the deduction) once you get into special types of companies like professional firms or above a certain income threshold; but the main takeaway for the vast majority of small businesses (who make on average about $44,000/year; two-thirds make less than $25,000/year) will get a 20% break on their taxable income with this new law.
C-Corporations:
- The C-Corporation tax has been lowered from 35% to 21%. So the US has gone from one of the highest corporate tax rates in the world to one of the lower.
- Note that this is still a “double-tax” because the C-Corporation owner will pay taxes once on the business income and again when the profits are added to their personal tax return as dividends.
So the C-Corporation has suddenly become much more attractive than before. However, the same overall strategy would apply as before: if you own a C-Corporation, you want to maximize expenses through the corporation which would lower your overall net profit (and hence, how much taxes you would pay).
Summary:
Overall, if you own a C-Corporation or a Pass-through Entity (and you make under $157,500 (individual) or $315,00 (married filing jointly)) you’re going to get a tax break – this is the vast majority of small businesses in the US. The law is complex with many variables but overall is a net positive for small business.
Want to dig deeper into the specifics?
- Read the Bill itself
- To Incorporate Or Not To Incorporate: Breaking Down Your Options Under The New Tax Law
- Tax law: Everything advisers need to know about the pass-through provision
[activecampaign form=3]