Qualified Business Income (QBI) Deduction

What is Qualified Business Income (QBI) Deduction?

The Qualified Business Income (QBI) deduction, or Section 199A deduction, was created by the Tax Cuts and Jobs Act of 2017 and lets eligible owners of pass-through entities such as sole proprietorships, partnerships, S corporations, and certain trusts and estates deduct up to 20% of qualified business income (plus certain REIT dividends and publicly traded partnership income). The deduction, once set to expire after 2025, was made permanent by the One Big Beautiful Bill (OBBB), which also updated some calculation rules, so taxpayers should review the latest IRS guidance when planning.

How the QBI Deduction Works for Different Business Types

The QBI deduction is available to a variety of business structures, but not to C corporations. Here’s how it applies:

• Sole Proprietorships: The owner reports business income and expenses on Schedule C of their individual tax return. The QBI deduction is calculated based on the net profit from the business.
• Partnerships and S Corporations: The deduction is claimed at the individual partner or shareholder level. The entity provides each owner with their share of QBI, W-2 wages, and qualified property information on Schedule K-1.
• Trusts and Estates: Certain trusts and estates may also claim the deduction, with special allocation rules for beneficiaries.
• Cooperatives: Most cooperatives are not eligible, but patrons of specified agricultural or horticultural cooperatives may qualify for a related deduction under Section 199A(g).

C corporations and income earned as an employee are not eligible for the QBI deduction.

Section 199A and Form 8995 Explained

Section 199A of the Internal Revenue Code is the statutory basis for the QBI deduction. It outlines the rules, limitations, and definitions for what constitutes qualified business income, who is eligible, and how the deduction is calculated.

Form 8995 (Qualified Business Income Deduction Simplified Computation) and Form 8995-A are the IRS forms used to calculate and claim the deduction. Taxpayers with taxable income below the annual threshold can use the simpler 8995 form, while those above the threshold or with more complex situations (such as specified service trades or businesses, or multiple businesses) must use Form 8995-A.

Key Limitations and Thresholds to Consider

The QBI deduction is subject to several important limitations:

• Income Thresholds: For 2025, the deduction is fully available to taxpayers with taxable income (before the QBI deduction) up to $394,600 for married filing jointly and $197,300 for single filers. Above these thresholds, additional limitations apply.
• Specified Service Trades or Businesses (SSTBs): For high-income taxpayers, income from SSTBs (such as health, law, accounting, consulting, and financial services) may be partially or fully excluded from the deduction.
• W-2 Wage and Qualified Property Limitations: For taxpayers above the threshold, the deduction may be limited to the greater of (a) 50% of W-2 wages paid by the business, or (b) 25% of W-2 wages plus 2.5% of the unadjusted basis of qualified property.
• Type of Income: Only qualified business income is eligible. Investment income, capital gains, dividends, and certain other types of income are excluded.
• Aggregation Rules: Taxpayers may be able to aggregate multiple businesses for purposes of the deduction if certain requirements are met.

Common Mistakes When Claiming the QBI Deduction

• Including Ineligible Income: Wages, capital gains, dividends, and interest not allocable to a trade or business should not be included in QBI.
• Misclassifying Rental Income: Not all rental activities qualify as a trade or business. However, the IRS provides a safe harbor for certain rental real estate enterprises.
• Ignoring Suspended Losses: Losses suspended under other tax rules (such as passive activity or at-risk rules) are not included in QBI until they are allowed in taxable income.
• Incorrectly Applying SSTB Rules: Failing to properly identify and apply the SSTB limitations can result in an incorrect deduction.
• Not Using the Correct Form: Taxpayers above the income threshold or with complex situations must use Form 8995-A, not the simplified 8995 form.

FAQ

What is the QBI deduction under Section 199A?

The QBI deduction under Section 199A allows eligible owners of pass-through businesses to deduct up to 20% of their qualified business income, plus 20% of qualified REIT dividends and PTP income, from their taxable income. This deduction is designed to reduce the effective tax rate on business income for non-corporate taxpayers.

Who qualifies for the QBI deduction?

Individuals, certain trusts, and estates with income from a qualified trade or business, such as sole proprietorships, partnerships, and S corporations, may qualify. C corporations and employees do not qualify. There are income thresholds and other limitations that may affect eligibility.

Is the QBI deduction available for rental income?

Rental income may qualify for the QBI tax deduction if the rental activity rises to the level of a trade or business under Section 162. The IRS provides a safe harbor for certain rental real estate enterprises, but not all rental activities will qualify automatically.

What is the income limit for the QBI deduction in 2025?

For 2025, the QBI deduction is fully available for taxpayers with taxable income up to $394,600 (married filing jointly) or $197,300 (single and other filers). Above these thresholds, the deduction may be limited or phased out, especially for specified service trades or businesses.

How do I report the QBI deduction on my tax return?

You must complete IRS Form 8995 or 8995-A, depending on your income and business complexity. The deduction is then reported on your individual tax return (Form 1040), reducing your taxable income. Attach the completed form to your return and retain supporting documentation.