Understanding the New Flow Through Provision

A new 20% deduction has been created for flow through entities, such as sole proprietorships, partnerships and S Corporations. This may be the one provision of the new Tax and Jobs Act that has garnered the most attention. It also has the most complexity.

Two important concepts in the pass-through provisions of IRC 199A are: qualified business income and specified service trade or business.

The deduction is generally calculated by qualified business income times 20% for the flow through deduction. Owners with higher incomes have a more complex calculation requiring the use of 2 different methodologies involving payroll and property.

The specified service trade or businesses quite simply got the short end of the stick. This category generally includes services in the fields of health, law, consulting, athletics, and financial services. If you fall into this category, your 20% flow through deduction starts phasing out from $315,000 to $415,000 of net income. Such businesses with incomes of more than $415,000 would receive a zero deduction.
Planning will be imperative using the flow through deduction. Solid numbers will be required to make good decisions to receive the deduction; also, year-end actions will be important. But think of the rewards: a 20% deduction against your net income.

Planning will be especially important for a person in a specified service trade or business with taxable income from $300,000 to $600,000. With planning, a doctor or other professional may be able to qualify for the 20% deduction.

Businesses should proactively prepare to use the flow through deduction. Proper structure and planning will be important.