THE TAX REFORM BILL passed into law a year ago includes a provision with serious implications for channel pros and their customers alike. Starting with their 2018 tax return, sole proprietorships, S corporations, and partnerships can significantly reduce the amount they end up owing the federal government by deducting up to 20 percent of their “qualified business income” (QBI). While a double-digit deduction is welcome, the code that pertains to QBI is complicated.
Most small to midsize channel partners fall into the provision’s specified categories, says Michael Wayland, managing director of Byte-Werx, a provider of managed services in Richmond, Texas. For those who have QBI, the deduction applies to net business income, not gross, explains Steve Dennen, principal and CPA at accounting firm S.J. Dennen, CPA, P.C., in North Andover, Mass. Exclusions include W-2 wages and income derived from activities that are not related to the qualified business. “If you have $100,000 in revenue, and $50,000 in expenses, then $50,000 would be qualified business income,” Dennen says. “You would get 20 percent of that,” or a $10,000 deduction.
The U.S. tax code being what it is, however, this straightforward example is not typical in the real world. There are plenty of calculations required to determine both the amount of QBI and percentage of the deduction. Note that 20 percent is the maximum rate—as taxable income increases, the rate of the deduction is likely to decrease accordingly.
Individuals who earn income via services businesses such as consulting are among those who don’t qualify unless they meet taxable income thresholds—$315,000 or less for married taxpayers filing jointly, or $157,500 or less for individual filers. For qualified individuals with income above the thresholds, certain limitations—as well as attendant complexities—kick in.
Individuals claim the QBI deduction on their 1040 tax forms. Channel partners, says Wayland, may use the QBI to both reduce their own taxes and help clients invest in technology. One option, he says, might be to charge the consulting fee as labor/installation, and hence make such income QBI. “If they’re selling and installing hardware that should be easier to put under the specialized labor versus consulting work,” he adds, which is important to taking the deduction. Clients could potentially deduct technology investments as business expenses.
Of course, each channel partner’s tax situation is unique, and Dennen points out that changes in the tax code are often subject to interpretation, which may take years to resolve in the courts. In the interim, best consult a trusted tax pro.