Will the 2018 Tax Act Change Your Schedule C?


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8 Comments

One of the questions that I’m getting a lot now has to do with Schedule C (Sole Proprietorship) businesses and the pass-through tax reduction. Just to recap the possible challenge.

The Tax Cuts and Job Act provides a 20% reduction of taxable income from flow-through entities, in certain circumstances. If you are under the Taxable Income threshold ($315K for married, filing jointly and $157.5K for single), you will be able to reduce your taxable federal income by 20% for the net flow-through income. You still have 15.3% self-employment tax to pay, though.

If you’re over the threshold, it gets more complicated. If you have a service business, there is a second threshold ($415K for married, filing jointly) and $207,500 for single). If you’re over that amount, you don’t get any reduction.

If you have a non-service business, you can take the pass-through reduction. If your taxable income is over the $315K/$157.5K reduction, you have one more limitation.

In both cases, though, there is one more limitation if over the threshold. The amount that you can take the reduction on is subject to the greater of 50% of W-2 wages paid or 25% of W-2 wages + 2.5% of depreciable assets. The Act is very specific with the language “W-2 wages”. Until we get the final Tax Code written by the IRS, all we can assume is that ONLY W-2 wages will work in calculating the reduction.

That brings us to a problem. Sole Proprietorship owners can’t take a salary. So there will be no W-2 wages that count, at least for the owner. If you have a lot of other employees, that might still work.

Our advice right now is to form an LLC for your business if there is a chance you will go over the threshold. If you’re close or you’re under the threshold, it won’t matter. Over that and you may need to elect to be taxed with S Corporation status so that you can pay yourself a salary. The LLC can do a late election, but if you don’t have the LLC in place first, you’re just going to be out of luck!

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8 Comments

  1. Diane Kennedy says:

    Hi John D –

    The 20% pass-through reduction is only applicable to INCOME. As long as your business isn’t a hobby, you have active participation and sufficient basis, you can take the loss against your other income.

    My guess from what you’ve said is that you have a deduction.

  2. John Disterdick says:

    I do video productions and have had losses against other income from my schedule c due to travel and studio deductions in my home – will the new law remove this loss and only allow me 20% of the video income as a deduction? The video income is around $5,000 but my deductions are over $7,000

  3. Diane Kennedy says:

    The Schedule C still exists. You may or may not be able to additionally get the 20% income reduction on that. That will be determined by whether you are over the income threshold ($315K/$157.5K) and whether it is a service or product company. From what you said, I suspect it’s a service company.

    In general, though, yep, taxes are going up for a lot of people. There are strategies, though, and I think it’s best to be proactive.

  4. John Leonard says:

    It looks like our taxes will go UP in 2018 due to a) no deduction for home office b) no Schedule C to write off gas mileage, etc. leaving only the $24,000 std. deduction + SET

    Is this about right? My wife, a real estate appraiser pays a contract trainee 50% of her appraisal fees which she could offset with Sched. C!? So much for ‘tax cuts’!?

  5. Diane Kennedy says:

    The answer is “it depends”. 🙂

    If you have a passive real estate investment, you would report on Schedule E. If that’s the case, then yes, your example is accurate.

    If you have a business, it would depend on whether on you have a service or product business and what your taxable income is. If you have a service business that owns real estate and your taxable income is over the second threshold amount, you won’t be able to reduce your taxable income at all.

    The first threshold is $315K (Married, filing joint) and $157.5K (single). The second threshold is $415K (MFJ) and $207.5K (S).

  6. Diane Kennedy says:

    Your Schedule C business expenses won’t change much. The local taxes related to your business, for example, are still fully deductible. There is a reduction of deductibility for interest expense, but if you have a small business that won’t impact you.

  7. Anita says:

    I’m a small bakery owner LLC. What is Part II, Expense section going to look like for schedule c 2018? For example:
    Interest on credit?
    Employer, sales and state license taxes & fees?

  8. Cynthia Smith says:

    For a sole proprietorship that owns one multifamily building with depreciable value of $1,000,000 and taxable income of $100,000 per year. Owner has no employees. The calculation would be

    20% of earned income= $20,000
    .025 x $1,000,000.= $25,000.

    The smaller of the two is $20,0000

    Sole proprietor can take a $20,000 deduction. In this case, there is no need to change the ownership structure.

    Please correct me if I am wrong.

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