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Partnership advantage over S Corp practice setup with 199A deduction?

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  • Partnership advantage over S Corp practice setup with 199A deduction?

    Does a partnership practice setup have advantage over an S corp practice setup given the new 199A deduction? I have moderate familiarity with how S corps run, with primary tax benefit saving 2.9% medicare tax on distributions, but little understandings of partnerships.

    In the theoretical world where one can keep their taxable income below the $315k phaseout, as a full time physician with requirement for a "reasonable" salary, and then allowing for some call pay, taxable interest, dividends, etc, there's not much room left for S corp distributions and therefore little to no QBI deduction.

    How does this work for a partnership setup? Advantages, disadvantages over the S corp setup?

  • #2
    Be aware that guaranteed payments from a partnership are treated similar to an S-Corp 2% shareholder-employee's W-2 wages for purposes of the 199A deduction. In both cases they do not qualify as Qualified Business Income subject to the 20% deduction.

    So for a partnership to have maximum advantage over an S-Corp for the 199A deduction, most of the partner's income should be paid as a distributatble share of net profits.

    Note: The partnership is considered the employer and the partner an employee for retirement plan purposes. Only the partnership may adopt an employer retirement plan and never a partner. This means any employee elective contributions must come from employee compensation (guaranteed payments). This also means any employer contributions must come from annual addition space which is limited to 100% of compensation and in 2018 <= $55K. So in order to make $55K in annual additions, guaranteed payments must be >= $55K. Still likely less than an S-Corp reasonable compensation.

    This is just the tip of the iceberg. I have renamed the 20% pass-thru deduction, the CPA job security act. The proposed regulations are 184 pages.

    Comment


    • #3
      Yes $55k in compensation is far less than reasonable compensation for a full time practicing physician in my field.

      Can a partnership have a non-owner non-highly compensated employee?

      Comment


      • #4
        Many partnerships have non-partner W-2 employees. A typical practice partnership often has Non-HCE staff (administrative, financial and nursing).

        Comment


        • #5
          Please pardon my ignorance regarding partnerships.

          It would seem at least on the surface then that the potential for greater QBI deduction outweighs the Medicare tax savings of an S Corp, in the case of an S Corp that isn’t paying much in distributions.

          Is this correct?

          Is there some other advantage of S Corp setup over partnership that I’m not aware of?

          Comment


          • #6




            Please pardon my ignorance regarding partnerships.

            It would seem at least on the surface then that the potential for greater QBI deduction outweighs the Medicare tax savings of an S Corp, in the case of an S Corp that isn’t paying much in distributions.

            Is this correct?

            Is there some other advantage of S Corp setup over partnership that I’m not aware of?
            Click to expand...






            Be aware that guaranteed payments from a partnership are treated similar to an S-Corp 2% shareholder-employee’s W-2 wages for purposes of the 199A deduction. In both cases they do not qualify as Qualified Business Income subject to the 20% deduction.

            So for a partnership to have maximum advantage over an S-Corp for the 199A deduction, most of the partner’s income should be paid as a distributatble share of net profits.

            Note: The partnership is considered the employer and the partner an employee for retirement plan purposes. Only the partnership may adopt an employer retirement plan and never a partner. This means any employee elective contributions must come from employee compensation (guaranteed payments). This also means any employer contributions must come from annual addition space which is limited to 100% of compensation and in 2018 <= $55K. So in order to make $55K in annual additions, guaranteed payments must be >= $55K. Still likely less than an S-Corp reasonable compensation.

            This is just the tip of the iceberg. I have renamed the 20% pass-thru deduction, the CPA job security act. The proposed regulations are 184 pages.
            Click to expand...


            So there should be business income earned from material participation that is not necessarily a guaranteed payment, correct?  And as such would be reported on 1065 K-1 in both Box 1 and Box 14, but not Box 4?  ...and as such would be included in QBI?

            Could it likewise be excluded from SS/MCR, or would you simply end up eating the SE tax on it in order to get it to count as QBI, like a sole proprietor would?  I guess I'd have to wonder if the amount in Box 14 vs boxes 1&4 can be adjusted similarly to the parallel wages vs distribution W-2 vs K-1 for an S-corp and depends on how much income would have been considered to have been the part performed by the individual's services rendered versus simply material participation in the business (are those the same thing?).

            Comment


            • #7
              There is no avoidance of SE taxes as in an S-Corp. Distribution of net profits is subject to SE taxes.

              You are essentially looking at the trade-off between the FICA tax savings of an S-Corp vs. the increased QBI deduction of a partnership.

              Comment


              • #8




                There is no avoidance of SE taxes as in an S-Corp. Distribution of net profits is subject to SE taxes.

                You are essentially looking at the trade-off between the FICA tax savings of an S-Corp vs. the increased QBI deduction of a partnership.
                Click to expand...


                And to maximize partnership QBI deduction, you would keep guaranteed payments low, in favor of pay as a distributable share of net profits.

                Hypothetically a practice in an S corp setup would pay a reasonable salary of $250k, and $50k distributions, saving $1,450 in medicare taxes. QBI deduction is $10k. At a marginal rate of 30% = $3,000 tax reduction.

                Could the same practice in a partnership setup pay $100k in guaranteed payments, and $200k as a distributable share of net profits? In this case QBI deduction is $40k = $12,000 tax reduction. And a 401k-PS plan could still be filled to $55k limit?

                What am I missing?

                Comment


                • #9
                  As I said, the section 199A regulations are quite involved. So, I would like the professionals to weigh in on this, but that is my basic understanding.

                  I think Johanna mentioned that someone at her firm was putting together various scenarios.

                  Comment


                  • #10




                    As I said, the section 199A regulations are quite involved. So, I would like the professionals to weigh in on this, but that is my basic understanding.

                    I think Johanna mentioned that someone at her firm was putting together various scenarios.
                    Click to expand...


                    Yep, and Laura just posted the 2nd case study today. Mind you, if you are looking for in-depth analyses, that is very fact-dependent and these case studies are, while interesting, fairly basic.
                    Financial planning, investment management and CPA services for medical professionals | 270-247-6087

                    Comment


                    • #11
                      Spiritrider or Johanna,

                      Do sole proprietors have an advantage in this regard over partnerships and s-corps?  Sole proprietors w2 wages are $0 therefore do not reduce QBI.  And w2 limitation does not apply for taxable income below the threshold.

                       

                      Do we have clarification yet if retirement plan contributions (sep ira, solo 401k, defined benefit plans) for sole proprietors will reduce QBI, thus reducing the 199A deduction?

                      Comment


                      • #12


                        Do we have clarification yet if retirement plan contributions (sep ira, solo 401k, defined benefit plans) for sole proprietors will reduce QBI, thus reducing the 199A deduction?
                        Click to expand...


                        No, they do not reduce QBI.


                        Do sole proprietors have an advantage in this regard over partnerships and s-corps?  Sole proprietors w2 wages are $0 therefore do not reduce QBI.  And w2 limitation does not apply for taxable income below the threshold.
                        Click to expand...


                        I do not believe they do, but I'll defer to Laura, who is in a meeting and I'm about to leave for Nashville. Unfortunately, I am still trying to find time to really dig in and study this whole section.
                        Financial planning, investment management and CPA services for medical professionals | 270-247-6087

                        Comment


                        • #13


                          Do we have clarification yet if retirement plan contributions (sep ira, solo 401k, defined benefit plans) for sole proprietors will reduce QBI, thus reducing the 199A deduction?
                          Click to expand...


                          No, they do not reduce QBI.


                          Do sole proprietors have an advantage in this regard over partnerships and s-corps?  Sole proprietors w2 wages are $0 therefore do not reduce QBI.  And w2 limitation does not apply for taxable income below the threshold.
                          Click to expand...


                          I do not believe they do, but I'll defer to Laura, who is in a meeting and I'm about to leave for Nashville. Unfortunately, I am still trying to find time to really dig in and study this whole section.
                          Financial planning, investment management and CPA services for medical professionals | 270-247-6087

                          Comment


                          • #14
                            See the Draft 2018 Form 1040 Instructions, Line 9 Qualified Business Income Deduction (Section 199A Deduction), pages 34 & 36 and the 2018 Qualified Business Income Deduction—Simplified Worksheet on page 37.

                            If you do not qualify for the Simplified Worksheet because your income is in phaseout for a Specified Service Trade or Business (SSTB), you will have to use the worksheet from the 2018 Publication 535. Which has not been released yet.

                            A Sole Proprietorship does appear to have an advantage over an S-Corp or Partnership with guaranteed payments. S-Corp W-2 wages and Partnership guaranteed payments are listed as bullets 7&8 under Determining Your Qualified Business Income, Qualified business income doesn’t include any of the following:

                            • ......

                            • Reasonable compensation from an S corporation.

                            • Guaranteed payments.

                            Comment


                            • #15
                              I've been trying to learn more and sort out my S corp vs partnership question but I think the issue of partnership and what counts as QBI is still unclear. It is clear that QBI does not include "guaranteed payments" in the context of a partnership. But there is the issue of "any payment described in §707(a)" indicating that the Service intends that there are additional partnership income items that otherwise might be lumped into "distributable share of profits" rather than guaranteed payments, which are also excluded from QBI. From page 40 of the proposed regs:

                              e. Section 707(a) payments
                              Section 199A(c)(4)(C) provides that QBI does not include, to the extent provided
                              in regulations, any payment described in section 707(a) to a partner for services
                              rendered with respect to the trade or business. Section 707(a) addresses
                              arrangements in which a partner engages with the partnership other than in its capacity
                              as a partner. Within the context of section 199A, payments under section 707(a) for
                              services are similar to, and therefore, should be treated similarly as, guaranteed
                              payments, reasonable compensation, and wages, none of which is includable in QBI.

                              Comment

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