On Wednesday, August 8, 2018, the Department of the Treasury released proposed reliance Regulations on Section 199A, also known as the 20% deduction on qualified business income (“QBI”). The words “proposed” and “reliance” are important and meaningful. “Proposed” means that these are draft Regulations that are open to public comment, and may change before they are finalized as a result of the comments of tax professionals received. “Reliance” means that although they are draft and subject to change, taxpayers can rely on these for the time being, which is helpful given that they take effect for the 2018 calendar year, which is more than half over at this point.

There are still many unanswered questions after these Regulations, but we at least can see how this will develop for our clients.


Section 199A was enacted in December 2017 as part of the Tax Cuts and Jobs Act of 2017 (“TCJA”). The TCJA reduced the tax rate on “C” corporations to a flat 21%, and Section 199A was largely enacted to provide some tax relief to those businesses who are not organized as “C” corporations. Generally, that relief is a deduction for 20% of QBI from a “qualified trade or business.” These rules begin in 2018 and end after 2025. Note that you are not in a business for these rules if you are only a W-2 employee.

Rule for Smaller Income Taxpayers If the taxpayer has taxable income (before the deduction) of $315,000 or less when filing as married-filing-jointly (“MFJ”), or $157,500 as single, Section 199A provides that a deduction is available (whether or not the taxpayer itemizes deductions) equal to 20% of QBI. It’s just that simple.

Rule for Larger Income Taxpayers Here, the rule is anything but simple. If the taxpayer has taxable income (before the deduction) of more than $415,000 when filing jointly, or $207,500 as single, then Section 199A also provides a deduction equal to 20% of QBI, but adds two qualification tests.

1. The business cannot be a “specified service trade or business” (“SSTB”), discussed below.
2. The deduction cannot exceed a wage test, discussed below.

Rule for Medium Income Taxpayers For those with taxable income in the phase-out range (before the deduction) of between $315,000 and $415,000 when filing as MFJ, or between $157,500 and $207,500 as single, a Section 199A deduction is allowed based on a pro-rata computation of the smaller taxpayer and larger taxpayer rules.

Details We Knew Before the Regulations

For larger taxpayers, the business must not be a specified service trade or business (“SSTB”). For larger taxpayers, the QBI cannot be generated from an SSTB. The law tells us that a SSTB is in the fields of health, law, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of the business is the skill or reputation of one or more persons. That statement leaves a lot of gray area that was needing discussion. For example, how far does the prohibition in each of these businesses extend into other supporting businesses? And what does the “skill or reputation of one or more persons” mean? Does that mean that using a particularly HVAC contractor based on their local reputation becomes a SSTB?

The Wage Test For larger taxpayers, the QBI deduction cannot exceed a wage test, which is the greater of two amounts –

1. 50% of wages expense from the QBI activity, or
2. 25% of wages expense from the QBI activity plus 2.5% of the unadjusted basis of depreciable property used in the QBI activity.

Where a taxpayer owns multiple businesses, these limitations are imposed separately on each business. These definitions left many unanswered questions in the definition of QBI wages. Also, how is the unadjusted basis of depreciable property computed?


From the above explanation of the deduction for the smaller versus larger taxpayers, it is important to reiterate that the deduction is a simple 20% of QBI for the smaller taxpayers. It does not matter, for a smaller taxpayer, whether they are in a SSTB or what about of business wages expense they have. These two limitations are applied only on larger businesses and, to some extent, to business in the phase-out range.

Also, if the business is a partnership or S corporation, the business will need to provide information on the limitation tests (SSTB, qualifying wages, 2.5% of the unadjusted basis of qualifying depreciable property) to all owners. The business will not necessarily be in a position to know if the underlying taxpayer(s) will qualify under the smaller taxpayer rule and be exempt from the tests. Remember that the tests are imposed based on total taxable income for joint filers, and few businesses really know how much income their owners’ spouses generate.

What We Learned in the Proposed Reliance Regulations

Is my business an SSTB? Here is a list that comes directly from the Regulations.

The following types of businesses that are an SSTB (they will not qualify for the deduction at higher levels of income) –

  • Health care – Physicians, pharmacists, nurses, dentists, veterinarians, physical therapists, psychologists, and other similar healthcare professional who provide medical services directly to a patient.
  • Law – Attorneys, paralegals, legal arbitrators and mediators.
  • Accounting – Accountants, enrolled agents, tax return preparers, auditors, and similar professionals.
  • Actuarial science – Actuaries or similar professionals.
  • Performing arts – Actors, singers, musicians, entertainers, directors, and similar professionals.
  • Consulting – Providing professional advice and counsel to clients.
  • Athletics – Athletes, coaches and team managers in most any sport.
  • Financial services – Management or advising in wealth, financial matters, retirement plans, wealth transition plans, valuations, mergers, acquisitions, dispositions, and restructurings. Raising capital by underwriting or issuing capital.
  • Brokerage services – Arranging transactions between buyer and seller of securities.

Businesses that are not an SSTB (will qualify for the deduction no matter the level of income). This is not an exhaustive list but is meant to show that some businesses in the prohibited industries can still work –

  • Health care – Health clubs, spas, research. Drug or medical device testing, manufacturing, or sales.
  • Law – Delivery services or stenography.
  • Accounting – Payment processing, billing analysis.
  • Actuarial science – Services of analysts, economists, mathematicians, statisticians who are not engaged in analyzing the financial costs or risk or uncertainty of events.
  • Performing arts or Athletics – Maintenance and operation of equipment, video or audio broadcasting.
  • Consulting – Services other than the provision of professional advice and counsel to clients.
  • Financial services – Banking, taking deposits, making loans.
  • Brokerage services – Real estate agents or brokers, insurance agents or brokers.

Remember – For the businesses that qualify for the deduction in concept, but the W-2 limitation test still must be considered.

If the nature of your business is not an SSTB (sales, for example), what if we also do some consulting with that? Does that taint our business as an SSTB? The answer is “no” if the consulting is truly minor. If a business has both SSTB and non-SSTB activities, the Regulations provide that we can ignore the non-qualifying SSTB activities if those receipts are less than 10% of total receipts. However, if gross receipts of the business exceed $25 million, the rule is reduced to less than 5%.

If you are a prohibited SSTB (doctor, lawyer, accountant), will you still qualify for the deduction for your related real estate rental entity? The answer is probably “no”. Assume that we have two related businesses, one is an SSTB (a dental practice, for example) and one is not (a rental LLC that owns the dental practice building, for example). The Regulations provide that if the two businesses have more than 50% common ownership, and if 80% or more of the revenue of one is from the other (all of the rents to the LLC are from the practice in this example), then both businesses are SSTBs. This would mean that there is no 199A deduction from either business for those of upper income.

  • If the two entities do not meet the 50% ownership test, then the entities are not considered related at all, and the non-SSTB can qualify for the deduction.
  • If the 80% test is not met, then part of that business could qualify. We would need to pro-rate the activity.

For the wage test, can I claim wages paid to my PEO or my management company? Generally “yes”.

Can I convert certain employee relationships to independent contractors and they can get this deduction? The answer is “no”. The Regulations provide that if a worker continues working for the same company, but only their status changes from employee to independent contractor, that will not qualify for the deduction.

What To Do Now?

Consider consulting with us about how we think this deduction will work for you. It could be quite helpful to know how the wage limitation and other hurdles will work in your fact pattern, before the year is over and the relevant facts are locked in.

R. Milton Howell III, CPA, CSEP
R. Milton Howell III, CPA, CSEP

Milton is a tax partner experienced in taxation issues including, tax research for both open and closed transactions, structuring complex tax transactions, estate and income tax planning, and representing clients before tax authorities. Milton regularly writes and reviews articles in local, regional, and national publications on tax matters and spends significant time monitoring current tax issues and legislation.

More posts