In this summary, we cover:

  • What a Qualified Business Income is and isn’t
  • How the Qualified Business Deduction applies to various types of businesses
  • The impact of Business Income Deduction on each business scenario including sole proprietorships or partnerships


  • Qualified Business Income deduction varies depending on the type of business you run i.e. a partnership or a corporation.
  • Sec 199A states that the deduction is the lesser of 20% of the business income or 50% of w-2 wages paid by the business.
  • There is still a lot of ambiguity in the statute that needs to be addressed by its drafters.
  • The state promised to give a clear direction regarding the application of the statute anytime in June.
  • With several interpretations of the statute, be careful not to fall for the wrong ones—you’re advised to always seek professional direction on related matters.


In response to a letter dated Feb 21, 2018, from the American Institute of CPAs (AICPA) seeking quick guidance to clear ambiguities brought about by the Qualified Business Income Deduction, the US Assistant Secretary of Tax Policy cleared the air with a promise to avail the official guidance by early summer.

The Secretary’s promise, however, seemed not to have been good enough for tax advisors and taxpayers—with their impatience leading to various interpretations of the law.

A number of articles have been circulating the internet in a bid to interpret the complex reforms. “Many business owners are not patient enough to wait until late summer to start planning for the Qualified Business Income Deduction.” For this reason, this article tries to help you understand Sec 199A and its impact on IT firms run as sole proprietorships, partnerships, and corporations, by dissecting it into two scenarios; with sections.

But first things first—how do Qualified Business Income Deductions really work?

Qualified Business Income Deduction allows business owners to deduct an amount of up to 20% of their “qualified business income.” Therefore, if the qualified business income of a certain firm is $100,000, then the Qualified Business Income Deduction would be $20,000 i.e. ($100,000 x 20%). This is, however, subject to certain limitations as will be looked at in a later stage of this article.

“Qualified Business Income has been widely defined as a taxpayers’ share of the net amount of qualified items of incomes, deductions, gains, and losses that are taken into consideration in evaluating the taxable income of a qualified trade or business.”

The amount of qualified income will vary depending on the business type—Partnership, Sole Proprietorship, and so on. Qualified business income can also be interpreted to mean the revenue the business is expected to generate, less the relevant expense. This income doesn’t, however, include incomes such as dividends, interest, or capital gains from sale of property.

Qualified business income deduction is limited to:

Either the LESSER OF 20% of qualified business income or;

The greater of

  • 50% of the total W-2 Wages paid by the business, OR
  • 25% of the W-2 wages plus 2.5% of the unadjusted basis, immediately after acquisition, of all qualified property

In this article, we’ll focus more on the first two for now.

When it comes to the 50% of W-2 Wages limitation, it will only be applicable if the total income of the business owner is above $315,000 for the year if married; and $157,000 for a single person.

Consider Scenario 1:

X, a married taxpayer, runs a sole proprietor business having one employee who is paid $50,000 for the year 2018.

The business doesn’t have substantial assets.

In 2018, the business makes $200,000 in income for X, and X’s total taxable income after deductions amount to $215,000.

X will have an entitlement of $40,000 in business income deductions calculated as ($200,000 x 20%).

Notice that the 50% of W-2 Wages rule ($50,000 x 50% resulting to $25,000) doesn’t apply since X’s income was less than the set threshold of $315,000.

If then, we assumed that;

The business generated $400,000 under the same factors for X and his taxable income becomes $450,000, this would mean that X’s deduction would be the lesser of;

20% of $400,000 which is $80,000 or,

50% of W-2 Wages of $50,000 which is $25,000

In this case, X’s deduction would be limited to $25,000 clearly indicating how the Qualified Business Income varies in different instances.

Section 199A has had surprising results when interpreted in different circumstances. Take a look at these situations.

  • X is the sole owner of a business. In a partnership case, X owns 99% of shares while his wife owns 1%.
  • X makes and sells software and has no employees but works with a few independent contractors.
  • His business has no substantial assets.

If the business generated an ordinary income of $550,000 in 2018, and the amount is also X’s taxable income for the year, here’s how it will vary under different modes of operation:

As a Sole Proprietor

Using the above case study of $550,000 income, X would start computing his deduction as ($550,000 x 20%) which yields $100,000. The deduction would, however, be limited by the 50% of W-2 Wages paid by the business.

X can’t pay himself as a sole trader and with no employee; the business doesn’t have any W-2 wages. This would result in a $0 W-2 limitation i.e. 50% of $0.

Note that X’s income is above $315,000—therefore, the 50% of W-2 wages limitation applies fully and in this case, X will get no deduction in 2018.

As an S-Corporation

As an S-Corp on the other hand, X is obligated to paying himself a reasonable wage from the business income. If, for instance, he pays himself $125,000 from an income of about $500,000, the Qualified Business Income Deduction would be the lesser of;

$375,000 x 20% resulting to $75,000 or,

$125,000 x 50% resulting to $62,500

Therefore, he would be entitled to $62,500 in deductions.

As a Partnership

In the case of a partnership, things would also be a bit different. If assuming, he owns 99% of the shares and 1% by his wife, X would be obligated to draw a reasonable salary. He can decide to earn an amount of about $125,000.

Under Sections 707(a) and 707(c), partners are compensated by a means of “guaranteed payments” and not wages.

Now, what this then means is that X will pay himself a guaranteed payment of $125,000 in 2018, the same as in an S-Corp reducing his flow-through income to $375,000.

His Qualified Business Income can also not include any guaranteed payments paid to partners. Therefore, the $125,000 X receives will not be included in his calculation of qualified business income deduction. His deduction would, therefore, be $0 due to the following treatment:

20% x $375,000 which is $75,000 or,

50% x $0 since they paid no wages

Consider Scenario 2 with a low income IT firm:

If the same business in scenario 1 would generate $200,000 in revenue in 2018, then the result would be different.

Assuming this is X’s 2018 taxable income—here’s how the scenarios would play:

As a Sole Proprietorship

With a $200,000 income, the deduction would be $40,000 and because X’s income would be below the $315,000 threshold, W-2 Wages limitation would not apply. X would, therefore, be entitled to $40,000 in deductions.

As an S-Corporation

With the same income of $200,000, X would have to take a reasonable compensation. If he pockets say, $80,000, his flow-through income would reduce to $120,000. His qualified business income deduction would also be reduced to $24,000 i.e. (20% x $120,000). With the income below the $315,000 threshold, the 50% of W-2 wages rule would not apply thereby leaving X with a $24,000 deduction.

As a Partnership

Assuming X takes home a guaranteed salary of $80,000; his flow-through income would reduce to $120,000. His effective deduction would therefore be $24,000 i.e. (20% x $120,000). W-2 wages limitation would also not apply here since the income falls below the threshold of $315,000.

Final Word

The beauty of Sec 199A is that you can go with any of the scenarios and stick to the straightforward interpretation of the statute. Or maybe, this may not be the intended purpose of the creation of the statute by the Congress.

They probably hoped it would be much more than the simple interpretation depicted by the examples in this article—again, maybe not. “At this juncture, no one can really tell who’s right or wrong because very few people understand what Sec 199A really means.” Well, whether this is the case or not, for now, we may remain stuck with these unforeseeable and unbalanced outcomes.