The new law slashes the tax rate on regular corporations (sometimes referred to as “C corporations”) from 35% to 21%, starting in 2018. The law offers a different kind of relief to individuals who own pass-through entities — such as S corporations, partnerships and LLCs — which pass their income to their owners for tax purposes, as well as sole proprietors who report income on Schedule C of their tax returns. Starting in 2018, many of these taxpayers will be allowed to deduct 20% of their qualifying income before figuring their tax bill. For a sole proprietor in the 24% bracket, for example, excluding 20% of income from taxation would have the effect of lowering the tax rate to 19.2%.
The changes to the taxation of passthrough businesses are some of the most complex provisions in the new law, in part because of lots of limitations and antiabuse rules. They’re designed to help prevent gaming of the tax system by taxpayers trying to have income taxed at the lower passthrough rate rather than the higher individual income tax rate. For many pass-through businesses, for example, the 20% deduction mentioned above phases out for taxpayers with incomes in excess of $157,500 on an individual return and $315,000 on a joint return. At the end of the day, most individuals who are self-employed or own interests in partnerships, LLCs or S corporations will be paying less tax on their passthrough income than in the past.
We presented the following three scenarios to officials at the National Federation of Independent Business, in each case assuming a joint return and that other income does not trigger the high income phase out
A yoga instructor whose only income is $35,000 of self-employment reported on Schedule C.A freelance writer whose only income is $120,000 of self-employment income reported on Schedule C.A consultant who establishes a single-member LLC and whose only income is $250,000 earned from a variety of clients and reported on Schedule C.
In each case, NFIB says the 20% deduction would apply.
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