IRS Clarifies 199A Deduction Rules Ahead of 2025 Expiration
With the Section 199A deduction set to expire after 2025, the IRS has issued updated guidance on who qualifies for this significant tax benefit. The deduction, introduced by the Tax Cuts and Jobs Act, allows eligible taxpayers to deduct up to 20% of qualified business income from certain pass-through businesses.
Known as the Qualified Business Income Deduction or QBI deduction, Section 199A allows qualifying taxpayers to reduce their taxable income by up to 20% of their net profits from a qualified trade or business. The deduction was created under the Internal Revenue Code through the Tax Cuts and Jobs Act, a major tax reform passed in 2017.
This business income deduction is available to individuals with pass-through income from sole proprietorships, partnerships, and S corporations. Unlike C corporations, which are taxed at the entity level, these pass-through entities report income directly on Form 1040. Taxpayers claim the deduction using Form 8995 or Form 8995-A, regardless of whether they take the standard deduction.
The deduction does not apply to capital gains, interest income, or other forms of passive income. It also excludes income earned as wages reported on Form W-2.
To qualify for the Section 199A deduction, a taxpayer must earn income from a trade or business considered a qualified trade or business under Section 162. This includes independent contractors, small business owners, and landlords operating a rental real estate enterprise that meets IRS activity tests.
In addition, individuals may qualify through certain investment-related income streams, including qualified REIT dividends and income from a qualified publicly traded partnership.
However, income from a specified service trade or business—such as law, accounting, consulting, medicine, or investment management—is subject to limitations. Taxpayers in these fields must have a total income under a specific threshold to qualify.
For 2024, the phase-in limitations begin at $191,950 for single filers and $383,900 for joint filers. Above these thresholds, the deduction may be reduced or eliminated based on W-2 wages paid and the value of qualified property used in the business. These rules apply equally to U.S.-based entities and foreign investors earning income through a U.S. trade or business.
Consider a freelance writer who earns $100,000 from a sole proprietorship while also earning $50,000 in W-2 wages. The Section 199A deduction only applies to the business profits. In this case, the taxpayer could claim a deduction of $20,000—20% of qualified business income—reducing their taxable income and overall tax burden.
This benefit is available regardless of whether the taxpayer chooses to itemize deductions or take the standard deduction. While the QBI deduction does not reduce self-employment tax, it does lower income subject to marginal tax rates.
The QBI deduction is set to expire after the 2025 tax year, unless extended by Congress. Without legislative action, the benefit will be eliminated beginning in 2026, affecting millions of small business owners and independent contractors.
Tax advisers and groups, such as the Tax Law Center, recommend reviewing eligibility before year-end deadlines to ensure compliance with the law. Taxpayers in specified service trades or those nearing the phase-out range should pay close attention to the updated guidance and plan accordingly.
For some, the expiration of Section 199A could impact decisions about forming a pass-through entity or adjusting the structure of income. As discussions continue in the Ways and Means Committee, the future of this deduction remains uncertain.
By William Mc Lee, Editor-in-Chief & Tax Expert—Get Tax Relief Now
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