To reduce the burden on small firms, the government established a 25% deduction of qualified business income from pass
The correct answer and explanation is:
Correct Answer:
Through entities under the Qualified Business Income (QBI) deduction, part of the Tax Cuts and Jobs Act (TCJA) of 2017.
Explanation:
The U.S. government introduced the Qualified Business Income (QBI) deduction, also known as the Section 199A deduction, as part of the Tax Cuts and Jobs Act (TCJA) in 2017. The primary purpose of this deduction is to offer tax relief to small and medium-sized businesses, specifically those operating as pass-through entities. These include sole proprietorships, partnerships, S corporations, and some trusts and estates.
Under this provision, eligible taxpayers can deduct up to 20% of their qualified business income (QBI). The 25% mentioned in your question is likely a reference error or a misstatement, as the QBI deduction is 20%. However, certain combinations of deductions and effective tax rates may lead to an effective reduction of approximately 25% in some scenarios, depending on how marginal tax brackets apply.
Qualified Business Income refers to the net amount of income, gains, deductions, and losses from a qualified trade or business within the U.S., excluding wages and investment income such as dividends or capital gains.
To qualify, the taxpayer must have taxable income below a certain threshold, which adjusts annually for inflation. For example, in 2023, the threshold was around $182,100 for single filers and $364,200 for joint filers. If income exceeds these amounts, additional restrictions apply, especially for Specified Service Trades or Businesses (SSTBs) like law, accounting, health, and consulting.
This deduction reduces the taxable income but not the self-employment tax. The goal is to place small business owners on more equal footing with large corporations, which benefited from a reduced corporate tax rate under the TCJA. Thus, this tax relief encourages entrepreneurship and reinvestment in small enterprises.