This is NOT tax advice, please talk to an tax lawyer first.
Machine Video Transcription Below
Hello and welcome to the session this is Professor Farhad in this session we’re going to be looking at qualified business income deduction and specifically we’re going to be looking at the limitation aspect of it so in the prior session so what I did in the prior session I did an intro to qbi so if you did not view the prior session please see the description below and you’ll find the link for this recording it’s around 17 minutes but it’s very important that you understand the reason and the basics for qualified business income deduction this topic is covered in an income tax course the CPA exam regulation section as well as 
the enrolled agent exam as I mentioned in the prior session this topic is is new is not fairly new it’s totally new so it’s giving a lot of students and lot of CPA candidate problems hopefully I can simplify this process for you and make it less painful as always I would like to remind you my viewers to link with me on LinkedIn this is my LinkedIn account if you are a facebook user please like my Facebook page and you are more than welcome to connect with me on a personal level you want to make sure you subscribe to my YouTube this is what I have host all my lectures if you like my lectures please like them please share them put them in playlists let everyone knows about them so if you’re benefiting other people can benefit as well and I do have a Twitter account and a website on website on my website I do organize my lectures by course and the chapter so it’s much easier for you to navigate let’s go ahead and get started now. Congress tax cut gave this 20% deduction which is it’s good 20% you’re gonna be saving a lot of lot of money on your taxes 20% of you’re either qualified business income so it’s 20% of qbi or 20% you’re gonna get 20% of your modified taxable income that’s great but but as always Congress is a generous to a point what does that mean it means at some point this 20% deduction it will be either eliminated or reduced or eventually eliminated and under certain circumstances so in this session we’re going to be talking about the limitation and this is what it gives people some problems because generally speaking it’s easy to understand what qualified business income is it’s easy to compute modified taxable income you know multiply it by 20 percent multiplied meant one thing percent the lower of these two is your answer but when it comes when you go into a phase-out limitation then complications will start to arise so this is all try to do in this session is to simplify this process so once taxable income reaches a certain threshold section 199 imposed imposes two independent limitations so we’re going to have two independent limitation we’re going to work with each limitation separately so this way we’ll be able to handle them to handle them and understand what’s going on so we’re gonna assume you’re either single or married filing jointly and here’s what’s gonna happen if you are single and your taxable income is below 157 500s what you’re gonna get the 100% of the 20% deduction you will get 20% of either the lower of your qualified business income or modified taxable income however between 157 to 200 207 500 which is a $50,000 range this is called the range your deduction will start to decrease and what will can have to compute how okay this is this is called the range then once your taxable income exceeds a certain this amount and your single then it’s gonna depend on whether you are a an SS be specified service business which we’ll talk about in a moment or you are a nun SS be non specified service business okay and what we need we need to clarify those two shortly if you are married filing jointly the threshold is a little bit higher as long as your income is below 3 as long as your taxable income is below you’re going to at 100% of the 20% reduction then you have $100,000 range this is the range up to guess what you’re gonna your 20% reduction will be reduced and we’ll see how we compute this that once you exceed we have to determine whether you are an SSB or a non SSB and let me make it easier for you up front if you are considered an SSB specified service business no more deduction so if you are an SSP that said you lose your deduction okay but if you are an on SSB then we have to do some computation okay so one limitation is based on wages and capital investment what’s gonna happen once you exceed the 207 500 and you are a non SSB a non specified service business and what is that well here’s what here’s what SS B’s are specified service businesses specified service businesses are doctors dentists lawyers accountant consultant investment advisor entertainer and athletes what is common between all of those the the ability of the owner is what’s really driving the business of your a doctor it’s your services if you’re a dentist it’s your services well what’s driving the business so it’s the personal initiative of the owner is what the business is all about for example I run my own YouTube channel my youtube channel is considered a specified service business because without me my channel cannot run on its own it says it’s called a specified business service so my my individual effort is basically the majority of the of the business therefore it’s considered a specified service business simply put once my taxable income reaches above 415 I don’t I cannot I cannot take the qualified business income deduction why because I’m I’m a specified service business okay and if I’m single and once it exceeds 207 500 that’s it I can no longer deduct it okay so hopefully this will make it easier for you whether you’re an SSP or an an SSP just FYI engineers and architect are not subject to limitation who knows you might see a questions on the CPA exam you know Stella new engineers well engineers they are not considered in SSB as well as architect so who knows you could so simply put if your taxable income before qualified business income deduction is less than the threshold the limit does not apply so as long as your income is below the threshold below 157 500 or 315 the limit does not apply whether your business is an SSB or a non SSB so it doesn’t matter you’ll get the 20% deduction and this is how you get the deduction in general the deduction is 20% of qualified business income or 20% of the modified taxable income we saw this computation in the first lecture in the first lecture which is you can see the the link in the description this is what I showed you when the when no limit applies that you showed you how to compute this so it’s basically straightforward if you don’t make a lot of money you’ll get the 20% deduction no limitation you’re good to go if you are more than the threshold amount if you are more than the threshold amount well it depends if you are more than the threshold amount at the bend if you are an SSB in SSB is somebody like me then that said no deduction if you are an on if you are an on SSB well the IRS is going to give you a deduction based on your w-2 wages and capital investments so based on the amount that you pay to employees the w-2 wages other than yourself so you cannot pay yourself you can pay yourself that you cannot count those w-2 wages or capital investments which we’re going to find those two terms anyway what happened if you are in between what happened if you fall within the what happened if you fall within the range well we’re gonna see how we compute this shortly we’re gonna see how we compute this shortly so the limitation based on the wages and capital investments assuming you are a non SSB now why do they want to give you a deduction they want to give you a deduction because they want to encourage you to pay wages to have employees because employees as we have employees we pay the employees employees spend money when they spend money they create jobs when they create jobs at higher people when we hire more people we create more jobs so on and so forth and capital investments it’s basically it’s the attentional property so they want you to have a tangible asset they want you to have property plant and equipment and how do you acquire property plant and equipment you buy them so the government wants you to hire employees and buy property plant and equipment if you have those two guess what and you are an on SSB you don’t lose your your business deduction we’re gonna give you some deduction okay it’s it’s gonna be reduced but nevertheless it’s a deduction so here’s how the limit work limitation based based on wages and capital investment and here’s what’s gonna happen we’re going to limit the 20% qbi to the greater off so we’re gonna look at the greater of 50% of w-2 wages and this is usually it’s used if you are labor-intensive you’re gonna have w-2 wages or they have another formula 25% of the w-2 wages paid by qualified trade or business plus of the taxpayer share of an adjusted basis of qualified property that’s a lot of wording we’re gonna work an example simply put for the second scenario it’s 25% of w-2 or or of of qualified property QP qualified property which is it means if you have more qualified property the second number might give you a higher deduction again we’ll see this in an example don’t worry it’s a lot of percentages what does the w-2 wages include it does not include your w-2 wages that include total amount of wages subject to income tax withholding compensation paid into qualified retirement account inserting other form of the third compensation so any compensation you paid whether it’s a qualified retirement or the third compensation or obviously w-2 it’s w-2 wages but you cannot count your w-2 wages what does the qualified property include that include appreciable tangible so notice intangible are not counted intangible is not counted and it has to be depreciable depreciable means land not counted in that land and intangibles are not counted whether it’s real or personal so real means building okay or personal machinery equipment that is used by the qualified trade or business during the year and who’s the pre shovel period has not ended before the end of the taxable year so it’s still being depreciated so it’s still being depreciated now the best way to illustrate this is to actually work an example otherwise this is a bit confusing so let’s work start slowly and build our tolerance for this okay let’s start slowly okay so land an intangible asset or not do not qualify let’s take a look at this simple example and this is there’s no limitation here but it’s a good review kind of the startup okay Symone American taxpayer operates a business as a sole proprietor II the business has one employee who’s paid $80,000 during 2018 so they have one employee and they have W to we have w-2 wages of $80,000 assume the business have no significant asset they don’t have any tangible asset during 2018 the net income of Simone’s business amounted to two hundred and thirty thousand and the modified taxable income is 250 so modified taxable income equal to 250 net income net income equal to 230 since Simone’s taxable income before qbi deduction is below the income threshold for married taxpayer filing return remember for married financial return its it goes from 315 the taxable income to 415 so they’re good the modified taxable income is 250 it’s below it’s below therefore they’re gonna they’re gonna qualify for the 20% 20% qbi okay since the most taxable income before cuba is below the income threshold for merit taxpayer filing to return the w-2 capital investment limitation does not apply as a result we’re gonna take the either 20 percent of 20 percent of MTI modified taxable income or 20 percent of net income which is here it’s gonna be the qualified taxable income 20 percent okay and if it’s gonna give us 230 times 20% that’s gonna give us 50,000 now this is 230 times it’s 46 this is this is 46,000 and this is going to be 50,000 so our deduction is qualified business income deduction is 46,000 pretty straightforward so this example what are we saying in this example whether this business is an SSB or non SSB it doesn’t really matter why let me show you why because the taxable income of the of this couple of this couple made it financially falls here below 215 so this is pretty straightforward nothing to it let’s add let’s start to add complication not complication that said let’s start to add the limitation rule to it okay assume the same fact in the previous example except the net income from the proprietorship amounts to half a million and modify the adjustable income is six hundred thousand this is also called taxable income before qbi now what happened taxable income hopefully you can see this is greater than 415 greater than the limit okay and we’re gonna assume this business is a none none ssp if this was an SS v that’s it there we don’t have to keep going they don’t have any deduction so we’re gonna assume this is non SS V so as Simone taxable income before QB I deduction exceeds 415 here’s what’s gonna happen Simone’s qbi deduction is forty thousand how do we compute this forty thousand we’ll take twenty thousand times the qualified business income so we’re gonna just do the qualified business income QB I we take QB i times twenty percent QB i is half a million times twenty percent is a hundred thousand or we’re gonna take 50% of w-2 wages which is eighty thousand times fifty percent which will give us 40 thousand so here’s what’s gonna happen we’re gonna have to choose between 40,000 and 60,000 but there’s one more limitation whatever number we got in those that cannot exceed remember here this is basically the overall limitation overall limitation do overall limitation I talked about it in the prior chapter you cannot have more than 20% of modified taxable income modify taxable income 600,000 times 20% what are any answers you get in any of those in one or two if it exceeds 20% of modified taxable income modified taxable income is 600,000 which is given usually it’s given to you or you have to compute it it cannot exceed that so here we have 40 we have basically we have to choose between 100,000 which is 20% of qbi or the wage limit 40,000 so 1/2 but remember 3 they both cannot exceed 120 and neither exceed 120 so basically 3 is not not not at you know we don’t have to worry about it because they both don’t exceed therefore the deduction is 40,000 pretty straightforward or I hope so let’s work another example so notice in this example because when I showed you the formula I told you we have to look at 50% of w-2 or 25% of w-2 wages now between those two we have to choose the greater of those two to compare it to 20% of qbi but we did not have any we did not have any tangible assets so this example had no tangible asset or qualified property not tangible asset sorry they could have tangible asset they don’t have qualified property because they told us here no significant asset so they don’t have any qualified property now let’s take a look at an example where do they do have a qualified property so you see how this works and look at this example we’re gonna see it again we’re gonna see it again so let’s take a look at this example T and Tom and Elaine are married and file file a joint return their taxable income before qbi deduction is half a million this is also called modified taxable income notice their taxable income is above the limit above sorry above the threshold so notice here we’re gonna have to do some computation they have 400,000 and qbi from a restaurant well the first thing I do if they if they gave me by qbi I would say I’m gonna take my qbi x which is my 400,000 times 20% this is one of the numbers that I need this is equal to 80 80 thousand so this is this the first computation okay they have employee they have they have employed for individual a cook a bartender and a waitstaff during the year and paid them 150 thousand in w-2 wages they have w-2 wages so this is like basically this is the first computation one then the second computation I have w2 so I’m gonna take my w2 150 thousand multiplied by 50 percent and that’s gonna give me 75 thousand so this is the second computation I need to compute 75 thousand they own a building in which the restaurant is located they bought the building with its furniture and fixture for years ago for six hundred thousand in the land worth 100,000 so the unadjusted acquisition basis for the building furniture and fixture is five hundred thousand in other words they have qualified property of five hundred thousand why five hundred and not six hundred because of the six hundred thousand this this is land land we don’t count the land well we’re going to have to do another computation under number two and that’s 25% times 150 thousand plus two point five percent times half a million so if we do this computation and we do this computation it’s gonna give us all in all $50,000 now between those and to notice in in to in this in this computation we have a seventy five thousand be fifty thousand so what do we choose in between two which is the greater of these two so when we do when we do the overall computation when we do the overall comparison basically the fifty thousand we computed it but we don’t need it because it’s slower than seventy five therefore we’re gonna look at seventy five and the last overall limitation is the qualified business deduction cannot exceed 20 percent of modified taxable income our modified taxable income is half a million it’s half a million times twenty percent which is equal to one hundred thousand so this is basically number three number three now we have to compare one and two one is eighty-one is eighty thousand – is 75 we have to choose the lesser of these two but those who cannot exceed 100,000 they don’t therefore the deduction is 75,000 therefore the deduction the qbi deduction is 75,000 and if you want the cleaner computation this is 20% times 400,000 then we’ll do the w-2 ages then we do the so this is number two number two this is a and this is B and remember between a and B we choose the between a and B we’ll choose the greater of a and B so this is a and this is B so when we when we’re doing our comparison which was the greater then when we do the the final comparison we use the lower we use the lower okay we use the lower let’s take a look at a rental property example were no employees where the company has no employees they have simply no employees okay J a single taxpayer owns a five unit apartment building that he purchased five years ago has unadjusted basis in the building which is the purchase price minus the value of of the land is half a million which is this is what we called qualified property in this for our purposes he has a taxable income before qbi deduction of two hundred and fifty thousand during 2018 this is also called modified taxable income and he has no employees in his business and his his QB is 220 so what we do is first we’ll take 220 which is qbi times 20% and we’re gonna get 44,000 this is our first figure then we’re gonna take 50% of w-2 in which is zero because this individual J doesn’t employ any one and there was a big there was a big discussion if rental property should be considered qbi or not I guess the IRS you know it’s either they clarify it or they they they’re gonna keep it up to the taxpayer but simply put if you have a rental property it’s considered a qualified trade therefore 50 percent of w2 this individual does not have w2 and this is where this the second computation works because now they have asset 25% of w2 is also 0 but percent of the buildings which is half a million of the apartment building they get 12 12,500 this is 12,500 now we compare 12,500 to 44,000 and the lower is 12,500 and we want to make sure that under the third limitation we don’t exceed 20% of modified taxable income modified taxable income is 250 20% is 50,000 so therefore the deduction is 12,500 so the qbi deduction is 12,500 okay let’s take a look at addition and add additional examples Ashley okay a single taxpayer the owner of ABC company the LLC treated as so as a sole as a sole proprietorship report QB I of nine hundred thousand okay that is not a specified service business if this was an SS V I’m done there is no deduction okay so one I’m gonna take nine hundred thousand times twenty percent one hundred and eighty this is the first computation you have to make ABC paid total wages of three hundred thousand I’m gonna start with the second computation three hundred thousand times 50% equal to 150 okay and the total unadjusted basis of the property held by ABCs is is thirty thousand they also have tangible property therefore have to make another computation which is three hundred thousand times this is a and now I’m working on B times twenty five percent plus two point five percent times thirty thousand so this is three hundred thousand times times twenty five percent seventy five thousand two point five percent times thirty thousand which is the app which is the intangible property that’s seven seven fifty so those two are equal to seventy five thousand seven fifty seventy five thousand seven fifty now between between a and B that’s it I can I can cross out B because I have to choose between the greater of those two then three whatever number I come up with it cannot exceed modified taxable income okay taxable income before QB is this is the modified Taksim look I’m gonna take 740 times 20% equal to 148 so my deduction cannot exceed cannot exceed number three this is why I do number three so now between 180 oops okay between 180 and 150 which one is the lower the lower is 150 however 150 is greater than 1 48 because 150 is greater than 40 they cannot take the 150 you have to take 148 in any case and under any circumstances deduction cannot exceed 20 percent of modified taxable income hopefully this this example will show you why number 3 is important because it cannot exceed 20 percent of modified taxable income let’s take a look at another example Donald Donald owns a wide variety of c’mere I wonder when they chose the word Donald was it before President Trump or what I after Donald owns a wide variety of commercial rental property held in a single member LLC it’s interesting it’s also commercial rental properties Donald LLC record rental income of million that’s that’s the income so that’s the basically the QB I this is the QB I well let’s start with this first I’m gonna take million multiplied by 20% and that’s gonna give me 300,000 okay the LLC pays nope pays no w-2 wages rather it pays a management feed of an S corporation that Donald’s control well we don’t have to worry about this and simply put we don’t have w-2 wages okay I don’t want to get into S corporation now so we can hold on that the management company pays w-2 wages but it reports no income so the management company which is the S Corp which is again we don’t have to worry about this for the purpose of this example we have no w2 donald total unadjusted basis of the commercial rental property is 10 million so when we go to the second computation second computation say a w-2 which is zero times 50% equal to zero then zero which is no wages times 25% this is B equal to zero plus we’re gonna take ten million which is the tangible property times 2.5% and that’s gonna give us two hundred and fifty thousand now the third computation is is modified taxable income Donald taxable income before qbi is 2 million so we’re gonna take 2 million we want to make sure we don’t go over this times 20% equal to 400,000 now our computation is this we’re gonna go compare those two and the lower is 250 then making sure 250 is less than 400 250 is less than 400 we are good to go because 250 is less than 400 we are good to go we are good to go all right now now we’re going to talk about when the the taxable income is between the phase-out range fingers what do I mean but between the phase-out rage figures remember what I talked about earlier when I when I looked at this I told you I told you a simply put I told you if we are if we are less than this amount less than these amounts the limit does not apply and I told you if we are more than these amounts depending whether we are ssv or none SSP there’s a wage limit apply now what happened if we are in between now we’re gonna find out what happened if we are in between those two in other words we are in the range our taxable income is within the range this is what we are talking about here let’s see again there’s a formula that we have to go through ok to figure out the the problem okay if taxable income before qbi deduction is between the two amounts and I took two amounts which is within the range and w-2 wages capital investment portion of the qbi escape and the deduction then the general 20 percent amount is used by reduced so basically the 20% deduction which will take 20% x cubed it’s gonna be used but it’s going to be reduced so how do we compute this reduction I’m gonna show you the formula and as always I will always work two examples actually I’m gonna show you an example then work another example okay determine the difference so that’s gonna happen for us is we’re gonna determine the difference between the general 20% qbi and the amount of the w-2 wages capital investment amount and when I say w-2 wages I mean 50% of the w-2 wages that’s the first computation we are going to make then we’re going to determine a reduction ratio how do we determine the reduction ratio we’re gonna take taxable income before qbi minus the threshold the threshold could be depending on whether the individual is single or married whatever the threshold is it’s either 207 500 or 415 depending on where the threshold is okay then divide it either by 100,000 if the person is married filing jointly or $50,000 of the you know other file or single or other filers okay then we get this reduction ratio from this reduction ratio we’re going to determine the reduction and the w-2 wages limit so we’re gonna take the reduction is computed as the difference between 1 whatever we get in 1 times the ratio and 2 then to determine the final qbi we’re gonna take 20% off the qvi deduction – what we computed in number 3 again yes this is a lot but the only way to do this the whole there’s no other way around it it’s this simple computation you just have to know where each number comes from go through the computation and find your final qbi now if you are good with Excel input all these figures in Excel and start to play with them I’m gonna when I learn it this is how I learned I sat down and I start to put everything in Excel but I don’t want to use Excel I don’t to be flipping back and forth so I’m gonna show it to you but if you are good with Excel it’s a good place to to do to do so ok so let’s take a look at the first example if you remember Tom and Elaine the remarried financial return I told me you’re gonna see this example again there it is their taxable income before qbi is half a million this is also their modified taxable income they have 400,000 and qbi they have 400,000 oops and qbi from restaurant they owned okay and they employed four individual they bought the building all the stuff you remember when we did the computation we said the deduction is seventy five thousand so we did is with the twenty percent of QB I took 50% of their w2 wages then we took percent of their w-2 wages plus two point five percent of the unadjusted qualified property and between a I’m sorry between a and B basically we cross out B we compare a which is 75,000 to 80,000 then we make sure I didn’t exceed one hundred thousand you said their QB is seven seven seventy five thousand in this example remember married filing jointly the range is from to so this example assumes they their taxable income where’s their taxable income the taxable income is five hundred thousand so their taxable income is here so a taxable income is greater than the threshold so this is what we did I’m gonna flip to the next slide and I’m gonna make their taxable income in between the threshold now let’s take a look at an example for the same couple Tom and Elaine but now we’re gonna we’re gonna see that their taxable income is within the within the range remember the range for married filing jointly from 315 to 415 now this couple we’re going to assume that their taxable income is 355 which is which is 40,000 we are 40000 within the range were 40,000 within the range okay now we’re gonna do the first time we’re gonna do the computation as they are not within the range okay then we’re gonna do the computation when they are and they are in range let’s take a look at what happened so but assume that the cube the taxable income before QB is 355 this is also the modified taxable income their QB I is 320 so we’re gonna take three twenty times twenty percent which are gonna give us 64,000 and w-2 wages were 100,000 the run adjusted basis is five hundred thousand so let’s do the w2 100,000 times 20% is 50,000 100,000 times 25% plus two point five percent of the of the qualified plus two point five percent of the qualified property gives us twelve thousand five hundred so this is this is the – this is 2a and this is to be remember when we have between a and B we’ll choose the greater of 2a and 2b and the in between a and one between 2a and one we have to choose the lower which is which is a but remember a 20% modified the deduction cannot exceed 20% of the modified taxable income modified taxable incomes 355 times 20% cannot exceed 71,000 so if they were outside the range if they were outside the range the deduction would have been fifty thousand okay but that’s not the case in this example so it just showed you another example assuming they were outside the range but they’re not within the range so what do we have to do if they are within the range okay here all we have to do we have to go through those four steps I just showed you earlier step one determine the difference between the general 20 percent qbi amount and the w-2 wages capital investment amount so 20 percent of QB I is sixty four thousand which is we computed it up here – 50 percent of W – W – is 100,000 fifty percent is 50 thousand so we’re gonna get to a number F 14,000 we call this number D access the access amount this is step one this is step one step two we determine the reduction ratio how do you determine to deduction reduction ratio we’ll find out how much we are in to the range we are 40,000 into the range which is the taxable income minus the threshold divided by 100,000 because they are married filing jointly so the the reduction ratio is 40 percent this is step 2 this is step 2 step 3 is to take step one which is 14,000 the excess step one times step two step two is 40,000 and this is the reduction amount then what’s going to happen the general 20 percent qualified business deduction is sixty-four thousand will take the sixty-four thousand a 20 percent 20 percent of qbi okay – step three which is step one simply put step one – step three which is 58 thousand four hundred okay and we want to make sure 58 thousand four hundred is less than seventy one thousand which is 20 percent of modified taxable income which it is therefore the deduction the qbi deduction is 58 thousand four hundred so they did not get the full amount they got they did not get the sixty four thousand they got 58 thousand four hundred not bad okay not bad but if they were outside the range I told you if they were outside the range they would get 50 thousand if they were outside the range within this computation okay the best way to work this action is to look at another example to look at another example okay Scott and Laura are married and will file a joint return Scott on the sole proprietorship not a specified service business that reports net income of three hundred thousand so this is basically Q B I so this is step one times three hundred thousand times twenty percent equal to 60,000 the proprietary ship pays w-2 wages of 40,000 and hold property with an adjusted basis of 10,000 now we can go through step to step to a is 40,000 times 50% equal to 20,000 then 40,000 times 25% plus percent two point five percent of ten thousand two point five percent times ten thousand okay so if we add those two together they add up to be ten thousand two hundred and fifty so this is a and this is B remember between a and B we’ll choose the greater so this we can cross out B now we want to make sure that between a between 2a and one we’re gonna choose two a but we have to make sure that it’s not more than modified taxable incomes or modified taxable income is 375 so 375 this is number three times 20% equal to seventy five thousand so between so we are good with 2a so 2a is the is the qualified business income but hold on a second we’re missing something here what are we missing remember this couple okay they have taxable income of 375 and what does that mean that means their taxable income is more than 315 but below then 415 so their taxable income is if you look at the ratio its 60,000 within the range this is the range the range is 100,000 there’s 60,000 into the range so the they’re above the threshold but they don’t exceed therefore if they were outside if their taxable income taxable income was more than 415 the deduction would have been 20,000 but that’s not the case here then we have to go through another deduction the four steps step one we’re gonna take 20% off qbi witches we already computed the 600,000 – 50 % of w-2 wages 50% of w-2 wages is 20,000 which would which gonna give us an access we call this excess of 40,000 we’re gonna go through step 2 step 2 we’re gonna have to find the reduction ratio the reduction ratio is we are 60,000 within the range why 60,000 375 taxable income minus the threshold 315 that’s 60,000 divided by 100,000 why 100,000 because they are married filing jointly so the reduction ratio is 60% step 3 take step one this is step three take step one which is the access $40,000 times the ratio which is 60% which gonna give us $24,000 reduction now step 4 take take 20% of qbi which is 60,000 minus the reduction just 24,000 which will give us 36,000 so notice because they are within the range they’re gonna get a higher deduction than if they were outside the range if they were outside the range the reduction would have been 20,000 because they are within the range they don’t lose the whole thing they would still get something and that something is 36,000 which is a lot okay but you know otherwise if they were below and what happened if they would your taxable income maybe I should also do this if their taxable income was below the range very easy if their taxable income was below the range we’ll take three hundred thousand which is qbi times 20% or we’re gonna choose their taxable income or whatever their taxable income is order modify taxable income is times 20% and we’ll take the lower of these two figures this is if they were less than 350 less than the range so I just showed you if they were less than the range this example within the range and if they’re outside the range their QB I would have been twenty twenty thousand okay let’s take a look at the next topic and this is limitation for specified service business so all the examples that we work up to this point we assume that all the business we are working with are none specified service business non SSBs non SS B’s so non SS V s they still get a deduction although they exceed the certain threshold we’re gonna see with SSBs think about IRS don’t like SSBs not really just kind of something for you to remember or Congress don’t like SS piece then don’t like specified service business so if you’re an SS V you’re gonna be in a lousy situation if your income think exceeds a certain threshold so this is the overall idea let’s take a look at it for high-income taxpayers section 121 99 execute any specified business specified service trade or business sometimes it’s called SST B I just called it SSP from the definition of a qualified trade or a business include those involving again we looked we looked at them health law accounting actuarial science performing art consulting athletes financial services brokerage all these all these all these trades and businesses they are considered specified service business because the involvement of the owner and the reputation of the owner is on the line and that’s why that’s why what I told you as a youtuber I am considered an SSP because the reputation of my business is based on me personally okay so any trade or the business what the business principle asset there we go is the reputation of one or more of its employees or owners it’s called an SSB again for some reason architect and engineers they are excluded I guess George Costanza is gonna get away with it because you know he’s an architect but nevertheless remember this that architect and engineers are executed so how do we perform this computation when it comes to SS B’s we as architects and engineers remember if we are below the range we are good so simply put four SS beasts let me just put it right here so I’m gonna do married filing jointly as an example this is 315 415 okay so we could either be below 315 within the range or more than 415 if we are 315 and below and and less it’s easy 20% of qbi or 20% of modify taxable income whichever is lower if we are above 415 no deduction for for you as a student that’s easy if you get a CPA exam they told you it’s an SSP they told you they’re tak modified taxable income is 416 look for that zero number okay if we are within the range we’re gonna have to do some computation here so so so so this what I’m gonna be doing next is something to deal with this area here okay we’re gonna be doing computation when it’s more than 315 but less than 415 or if it’s single it’s a different phase-out range but you guys get the point so I’m computing the qualified business income with respect to SSP the tax payer takes into account only the applicable percentage so we have to compute something called applicable percentage so this is a new term applicable percentage is different than the reduction ratio so we’re gonna have to compute something called applicable percentage of the qbi what what applies of a qbi and the component of the w-2 wages so we’re gonna be looking at this applicable percentage what applicable percentage of qbi applies this is what the applicable percentages now how do we compute the applicable percentage so the first thing you have to know is do you know how to compute the applicable percentage which is different this is different I’m gonna write it right here different then the reduction ratio which we’re gonna see the reduction ratio – in this computation so basically we are doing two computation one is the applicable percentage what amount of our wages subjected ubi basically the applicable percentage of the proportion of the wages okay so here’s how we compute the applicable percentage we’re gonna take 100% minus taxable income before qbi minus the threshold divided by either a hundred thousand or fifty thousand whether you are married filing jointly or other other means single anything other anything other okay so that’s the first thing we have to compute we have to compute this applicable percentage and once we go through that applicable percentage once we compute this applicable percentage that second thing we do or the next step we go over believe it or not is very similar is very similar to what we did here so we’re gonna have to step basically find the applicable percentage and after the applicable percentage we’re gonna go through those what are those steps yeah those one through four those steps one two three four since practically the same steps okay but let’s work at few examples to see how this works let’s work let’s work at this example let’s start with something very straight simple and straightforward Stella as a CPA and operates her own accounting firm as a single member LLC Stella report her income income firm operation as a sole proprietorship Stella has qbi from the accounting firm of 540 she reports w-2 wages of 156 and the unadjusted basis of property used and the LLC is four hundred and twenty five thousand Stella is married and will file a joint return with her spouse their taxable income before qbi before the qbi deduction is 475 and or modified taxable income is 448 determine Stella’s qbi deduction for 2018 well I’m gonna tell you you should be praying if this is gonna be on your own the CPA exam okay so I’m gonna ask you the listener right now what is the qbi deduction for this couple all right good I hope you know the answer is nada zero zip why because their taxable income they’re an ssv remember she’s a CP a accounting CPA that considered an SSB 315 to 415 this is the phase-out range and their taxable income is 475 it’s done they have no deduction okay they have no deduction let’s take a look at another example a Jennifer is a CPA and a single member in a single member at an a single taxpayer that’s Inc remember using the standard deduction and 2018 her CPA practice generate an income of 162 and she has no other income or losses all right Jennifer’s taxable income before qbi is 150 all right so what good should see single taxpayer 150 the Jennifer employs an administrative assistant her practice and pays him $75,000 in wages the unadjusted basis of the perishable asset employed in the practice is 30,000 so the first question what is Jennifer qualified business income deduction well simply put let’s just this is pretty straightforward a qualified business income or qbi okay qbi is 162 so we’re gonna take the QB I 162 that’s the first thing you you start with you look at the QB I and multiplied by 20% that’s the first thing you need to know which will give you thirty two thousand four hundred then you take modify taxable income and here modified taxable income is 150 and luckily for for if you get this question also you should be happy the modified taxable income is less than 157 five hundred the modified taxable income is 150 150 is less one for 157 five hundred I have no nothing to worry about I don’t have to compute the w-2 slash capital investment limits because the taxable income for this taxpayer is below the threshold so modified taxable income is 150 I’m sorry 150 times twenty percent and that’s equal to 30 thousand so what is Jennifer’s qbi the lower of these to the lower 30,000 pretty straightforward we’re done okay now determines Jennifer qualified business income deduction of her CPA practice generated net income of three hundred and twelve thousand okay now think about it if Jennifer taxable income to generate three hundred and twelve thousand well what’s gonna happen is that’s gonna put her modify taxable income okay before qbi above 207 five hundred and what does that mean well it start at 157 five hundred and range goes to 207 five hundred if she’s making 312 from the business it means that her her modified taxable income it’s gonna be more than 207 five hundred Jennifer is single no deduction for Jennifer so under B there is no deduction which is the most interesting example of all this is going to illustrate the phase in as well as an SSB phase and limitation Tad’s a single taxpayer has a taxable income before qbi deduction of 187 five hundred Ted is a CPA operate and accounting practice as a single member LLC so Ted is an SSB business during 2018 his proprietary report net income of 150 W two ages of 12 one twenty five and ten thousand of qualified property what’s Tad’s qualified business income well we’re gonna first find the applicable percentage applicable percentage why do we have to find the applicable percentage because notice tad is between 157 five hundred and 205 five hundred he’s within the range which is 187 five hundred so what’s the applicable percentage well it’s 100% minus taxable income 187 five hundred 187 five hundred minus 157 five hundred which is the limit divided by fifty thousand range for singled and that’s gonna give us 100 percent – this is 60 percent that’s gonna give us 44 that’s the applicable percentage what we do now we’re gonna take qbi which is 150 times 20% remember we always call this the first computation and we’re going to multiply it by the applicable percentage 40% and that’s gonna give us 150 times 20% times 40 that’s gonna give us 12,000 this is the qbi deduction now at this point at this point you need to make you need to make one additional computation you need to make sure that this number here 1 this number here 1 does not does not exceed does not exceed okay does not exceed the w-2 the w-2 wages and the qualified property limits so simply put you have to go through let’s go through another computation let’s go through number 2 number 2 it says if you remember the second computation it says you take 50% of W 2 W 2 for this example is 125 times 50% times the percent times the applicable percentage let’s let’s find the answer the number here 125 125,000 times times equal to 25,000 let me just do this one more time 125 times times is 25,000 that’s this 2a and 2b will take 125 times plus times 40 percent plus 10,000 times for 2.5% times times points for I don’t know this number that’s gonna be less than this okay so we’re gonna be using this number as long as your your computation and 1 as long as your computation is 1 is less than your w-2 limit so as long as 20 percent of your qbi is less than 50 percent of your w-2 limit or less than step 2 you can you can stop right there you could say I’m done you can say and I’m done okay what happened if that’s not the case what happened when you not happen if you computed if you computed if you computed this if you compute a 20% of qbi and what you find out is that number is greater so 20% of qbi 20% of q bi is greater than 50% of your w-2 wages the RS will say you’re not paying enough wages that’s what the IRS would say they’re say you’re not paying enough wages we’re gonna limit you again so let’s change this example a little bit so let me just erase this just change this example to show you how to go through the second second second limitation so let’s assume everything the same except what I’m gonna change something slightly in this example make wages equal to 25,000 okay we just equal to 25,000 now we’re gonna go through the second computation I’m gonna go through 2 and I’m gonna say I’m going to take my w-2 wages which is 25,000 times 50% times 40% so let me do this computation 25,000 times times that’s gonna give me 5,000 and I know if I take 25,000 times times plus 10,000 times times 2.5% that’s gonna be less than 5,000 let me just stop check 25,000 times times yes that’s less so it doesn’t matter I don’t have to go through this computation I know now that 20% of my qbi under the scenario is greater than my 50% of 50% of w-2 wages and my 2.5% of tangible property the IRS says look you’re gonna have to go through another computation you’re gonna have to limit your qbi deduction because you are not paying enough wages and you don’t end all you don’t have enough tangible assets now you have to go now we have to go through that limitation again another limitation so now we’re going to go through the four steps that we learn in the prior prior chapter so what are those what are those four steps remember step one step one you take your now in this situation step one you take your 20% of qbi that you computed so 20% of qbi is 12,000 and you subtract from 12,000 you subtract from 12,000 the w-2 wages the w-2 wages for the purpose of this example is 5,000 okay 12,000 minus 5000 now which is equal to 7,000 this is the axis we call this the access okay we call this the access then we’re going to go through step 2 and what is a step 2 step 2 is to get to determine the ratio and how do we determine the ratio well we have to find out how much are you in the face how much are you within the range well if you are edit within 187 so 187 500 minus 157 500 let’s see how much you are within range because the range is only 50 thousand here range is 50 thousand so if we are dealing with 187 500 minus 157 500 we are thirty thousand within the range so step two thirty thousand divided by fifty thousand because we’re dealing with a single you are sixty percent within range we call this the reduction ratio now step three will take the access just basically we did earlier we’ll take the access which is seven thousand times the reduction ratio sorry it just keeps skipping here that’s gonna give me 4,200 4,200 4,200 then step four this is my final my final my final deduction my final qbi computation I’m gonna take my qbi that I computed earlier the first one which is twelve thousand but I cannot take twelve thousand I’m gonna have to reduce it by four thousand two hundred so I’m gonna take twelve thousand twelve thousand twelve thousand – four thousand two hundred that’s gonna give me qbi of 7800 if my math is right so what happened under the second scenario when I change the wages to twenty five thousand the IRS would say hold on a second you have taken too much of qbi you within the range and you are not paying enough wages and the prior example the first example the original example when you had 125 in wages guess what your qbi was okay because because it was less than 50% of your wages but if it’s not less than fifty fifty percent of your wages with wages or 25 of your wages plus the percent of your tangible asset you have to go through those four steps so you have to trim down your qbi and I believe this is the most challenging so if you understand this last example then I would say you are good to go again this topic is new section 199 a deduction you know I did a lot of reading about it I attended two webinar and I hope this recording would help you if you need additional recording please visit my website if you happen to visit there is a donation button please consider donating if you’re studying for your CPA exam this topic is expected to be tested on the exam it’s expected to be hard in practice challenging and practice and expected on the exam to be challenged as well hopefully I work through between the two lectures I worked over ten examples I hope this is very helpful if you have any questions email me good luck in