Exam 15: Taxing Business Income

Don, the sole shareholder of Pastel Corporation (a C corporation), has the corporation pay him a salary of $600,000 in the current year. The Tax Court has held that $200,000 represents unreasonable compensation. Don must report a salary of $400,000 and a dividend of $200,000 on his individual tax return.

Qualified business income includes the "reasonable compensation" paid to the taxpayer by a qualified trade or business and guaranteed payments made to a partner for services rendered.

For purposes of the qualified business income (QBI) deduction, qualified business income does not include certain types of investment income (e.g., capital gains or capital losses, dividends, and interest income (unless "properly allocable" to a trade or business, such as lending).

Qualified business income (QBI) is defined as the ordinary income less ordinary deductions a taxpayer earns from a "qualified trade or business" (e.g., from a sole proprietorship, S corporation, or partnership) conducted in the United States by the taxpayer.

Ashley (a single taxpayer) is the owner of ABC, LLC. The LLC (a sole proprietorship) reports QBI of $900,000 and is not a "specified services" business. ABC paid total W-2 wages of $300,000, and the total unadjusted basis of property held by ABC is $30,000. Ashley's taxable income before the QBI deduction is $740,000 (this is also her modified taxable income). What is Ashley's QBI deduction for 2018?

Jane is a self-employed attorney and single. Her annual net earnings from her law practice always exceed $220,000. Jane also has a business selling stained glass windows that she makes. Her earnings from this business are usually about $35,000 per year. Jane claims the standard deduction. Because Jane's taxable income exceeds the $207,500 threshold, she may not claim a QBI deduction for either business.

Jason and Paula are married. They file a joint return for 2018 on which they report taxable income before the QBI deduction of $200,000. Jason operates a sole proprietorship and Paula is a partner in the PQRS Partnership. Both are a qualified trade or business and neither is a specified services business. Jason's sole proprietorship reports $150,000 of net income, W-2 wages of $45,000, and has qualified property of $50,000. Paula's partnership reports a loss for the year, and her allocable share of the loss is $40,000. The partnership reports no W-2 wages and Paula's share of the partnership's qualified property is $20,000. What is their qualified business income deduction for the year?

Describe the limitations on the qualified business income deduction that apply to high income taxpayers.

Jake, the sole shareholder of Peach Corporation, a C corporation, has the corporation pay him $100,000. For income tax purposes, Jake would prefer to have the payment treated as dividend instead of salary.

How does property used in a qualified trade or business factor into the QBI deduction calculation? What types of property are considered for the QBI deduction?

What are some of the issues remaining unresolved with the QBI deduction?

Luis is the sole shareholder of a regular C corporation, and Eduardo owns a proprietorship. In the current year, both businesses make a profit of $80,000 and each owner withdraws $50,000 from his business. With respect to this information, which of the following statements is incorrect?

Carla is a self-employed online retailer and single. She has no employees. Her annual taxable income is usually around $200,000. Carla could increase her QBI deduction if she incorporated her business, made an S election and paid herself wages.

Employment taxes apply to all entity forms of operating a business. As a result, employment taxes are a neutral factor in selecting the most tax effective form of operating a business.

Thrush Corporation files Form 1120, which reports taxable income of $200,000 in the current year. The corporation's tax is $42,000.

Instead of providing a special deduction to non-corporate owners of passthrough businesses, Congress could have applied a special rate to the business income to achieve a similar result.

Carol and Candace are equal partners in Peach Partnership. In the current year, Peach had a net profit of $75,000 ($250,000 gross income - $175,000 operating expenses) and distributed $25,000 to each partner. Peach must pay tax on $75,000 of income.

One of the purposes of the qualified business income deduction is to reduce the taxes on businesses that are operating in non-corporate business forms (e.g., sole proprietors, partnerships, and S corporations).

Which of the following statements is incorrect about LLCs and the check-the-box Regulations?

The QBI deduction is: