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Pass Thru Deduction Explained

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  • Avatar spiritrider 
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    I was curious as well about whether as a sole proprietor it makes sense to form a C Corp. since double-taxation won’t be eliminated in this bill, my guess is no?

    Click to expand…

    Not on a purely taxation basis.

    If you are in the highest tax bracket your sole proprietor net self-employment earnings will be taxed at 37%. Your C-Corp profits will be taxed at 21% and dividend distributions will be taxed at 20% + 3.8% for a total of 44..8%.

    However, the difference is now closer, so there are likely a lot more situations where the specific circumstances justify it.

    This tax bill is going to be a veritable boon to tax and financial planning professionals. As people and small businesses try to navigate the new landscape.

    #88151 Reply
    Avatar ShahMD 
    Participant
    Status: Physician
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    Joined: 02/05/2016

    I feel so dumb. I thought I had a handle on it but am more confused than ever. Need someone smarter than me to help please

    Say I am making $500k as an IC and doing MFJ next year. Plan was to create an S-corp next year and give myself 250k salary and 250k distribution in order to save approx $7.5k on the 2.9% medicare tax.

    How will this affect me or will it even affect me at all with the pass thru deduction? Will it just affect the salary portion of my income or will it affect all $500k? If someone could help with this I would be eternally grateful.

    #88161 Reply
    Vagabond MD Vagabond MD 
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    Status: Physician
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    Joined: 01/21/2016
    I am wondering if our imaging center business, in which we are investors with other parties in a separate corporation, which passes through income through an LLC, to the tune of about $50k/investor per year, would be eligible for this deduction. Currently, we pay ordinary income tax on these distributions. (Our salaries are otherwise above the $315k number, but I do not know if I am mixing apples and oranges) 

    Click to expand…

    I have the same question as it applies to my Surgery Center income.

    Click to expand…

    Based on my reading of the Kitces re-explanation of the tax law, yes and no.

    Yes, if your income from the surgery center and all other sources is less than $315k, phasing out in $50k chunks at $415k (MFJ). So if your total income is greater than $415k (including professional and surgery center income), there will be no benefit. (Lower thresholds apply for single filers.)

    So for me, it won’t apply.

    "Wealth is the slave of the wise man and the master of the fool.” -Seneca the Younger

    #88179 Reply
    Avatar spiritrider 
    Participant
    Status: Small Business Owner
    Posts: 1866
    Joined: 02/01/2016

    ShahMD: If your taxable income is >= $415K, there will be no benefit regardless of which business entity type.

    #88185 Reply
    Liked by docnews
    The White Coat Investor The White Coat Investor 
    Keymaster
    Status: Physician
    Posts: 4479
    Joined: 05/13/2011

    Now that I’ve had more time to process this, I think this is going to be huge for WCI, LLC even though it won’t help with my practice income at all (although going to half-time, I would have qualified for that if not for WCI, LLC). It should be good for at least a $50-60K discount on our taxes. I could hire somebody else with that. Between that and the lower tax brackets and the elimination of the Pease phaseout, this should more than overcome the loss of most of our state income tax deduction.

    Apparently Congress likes engineers, architects, and bloggers, but doesn’t like doctors, lawyers, accountants, and financial advisors.

    Site/Forum Owner, Emergency Physician, Blogger, and author of The White Coat Investor: A Doctor's Guide to Personal Finance and Investing
    Helping Those Who Wear The White Coat Get A "Fair Shake" on Wall Street since 2011

    #88194 Reply
    Liked by Zaphod, docnews
    Avatar docnews 
    Participant
    Status: Physician
    Posts: 409
    Joined: 01/09/2016

    I feel so dumb. I thought I had a handle on it but am more confused than ever. Need someone smarter than me to help please

    Say I am making $500k as an IC and doing MFJ next year. Plan was to create an S-corp next year and give myself 250k salary and 250k distribution in order to save approx $7.5k on the 2.9% medicare tax.

    How will this affect me or will it even affect me at all with the pass thru deduction? Will it just affect the salary portion of my income or will it affect all $500k? If someone could help with this I would be eternally grateful.

    Click to expand…

    Spirit Rider is correct but your taxable income will not be $500k. If after deductions you are below $415k on income that is taxed you could benefit. The S Corp does not effect this unless you give yourself a salary of <40% of all business income (said another way not unless you make the distribution >60%).

    #88195 Reply
    Avatar docnews 
    Participant
    Status: Physician
    Posts: 409
    Joined: 01/09/2016

    Now that I’ve had more time to process this, I think this is going to be huge for WCI, LLC even though it won’t help with my practice income at all (although going to half-time, I would have qualified for that if not for WCI, LLC). It should be good for at least a $50-60K discount on our taxes. I could hire somebody else with that. Between that and the lower tax brackets and the elimination of the Pease phaseout, this should more than overcome the loss of most of our state income tax deduction.

    Apparently Congress likes engineers, architects, and bloggers, but doesn’t like doctors, lawyers, accountants, and financial advisors.

    Click to expand…

    When I thought about effects on you, I only thought about your medical practice. I didn’t really think about the blog as not a great service to me but I guess you are saying the government has deemed all your work relatively passive 😉

    #88197 Reply
    Dr. Mom Dr. Mom 
    Participant
    Status: Physician
    Posts: 574
    Joined: 02/27/2017
    I am wondering if our imaging center business, in which we are investors with other parties in a separate corporation, which passes through income through an LLC, to the tune of about $50k/investor per year, would be eligible for this deduction. Currently, we pay ordinary income tax on these distributions. (Our salaries are otherwise above the $315k number, but I do not know if I am mixing apples and oranges) 

    Click to expand…

    I have the same question as it applies to my Surgery Center income.

    Click to expand…

    Based on my reading of the Kitces re-explanation of the tax law, yes and no.

    Yes, if your income from the surgery center and all other sources is less than $315k, phasing out in $50k chunks at $415k (MFJ). So if your total income is greater than $415k (including professional and surgery center income), there will be no benefit. (Lower thresholds apply for single filers.)

    So for me, it won’t apply.

    Click to expand…

    V- Do you have a way to turn any of your active service income into passive income which would qualify for the 20% deduction without the income cap?  For us, we have an LLC that owns all of my husband’s ophthalmic equipment/toys.  We pay rent to it from his S-corp to use the equipment.  Another practice in town rents one of his lasers from us also.  My understanding, which is improving daily, is that the income that we can pay in rent would get the deduction without being subject to the 315K – 415K MFJ taxable income phaseout.  On the other hand, if it stayed in the S-corp and was taken as a dividend, it would be subject to it.

    #88890 Reply
    Avatar Caligas 
    Participant
    Status: Physician
    Posts: 68
    Joined: 12/19/2017

    I am a partner in an s Corp and get pass through distributions of $100k. On top of that, my w2 income is about $250k with my wife making another $20k part time.

    My main concern is having a very high marginal rate due to the phase out, I’ve heard it is effectively 70% or higher?

    #89004 Reply
    Zaphod Zaphod 
    Participant
    Status: Physician, Small Business Owner
    Posts: 6074
    Joined: 01/12/2016

    I am a partner in an s Corp and get pass through distributions of $100k. On top of that, my w2 income is about $250k with my wife making another $20k part time.

    My main concern is having a very high marginal rate due to the phase out, I’ve heard it is effectively 70% or higher?

    Click to expand…

    You’d be under the limit with just the standard deduction and contributing to your 401ks, cant imagine how you’d be negatively affected.

    #89012 Reply
    Liked by Caligas
    Avatar d9sccr 
    Participant
    Status: Physician
    Posts: 6
    Joined: 12/18/2017

    I think this s what you’re referring to:

     

    http://www.taxpolicycenter.org/taxvox/senate-tax-bill-would-impose-high-marginal-tax-rates-some-pass-through-owners

     

    Consider the example of a married couple whose entire income is “specified service” income generated by a pass-through entity and who claims the standard deduction. At an income of $524,000, the couple could take an $87,000 deduction (17.4 percent of the couple’s taxable income “without regard” to the deduction) that would reduce their taxes by $30,450 (since they are in the 35 percent tax bracket), but the deduction is entirely phased out at an income of $624,000. On average, that amounts to more than a 30% surtax on top of the 35% statutory tax rate over that range of income.

    The actual phase-out is much more complicated, as the bill’s text released Monday night makes clear, because the deduction continues to apply even as its benefit is phased out. (If that sounds convoluted, it’s because it is.) The couple’s marginal income tax rate would jump to 61.375 percent at $528,541 of income. And it would rise to 73 percent until their income reaches $624,000 and the deduction is fully phased-out, at which point their marginal tax rate would return to the 35 percent ordinary income tax rate. (Note that these calculations do not include the additional 3.8 percent in self-employment payroll tax or the net investment income tax).

     

    Maybe someone can shed some light on this

    #89022 Reply
    Avatar Caligas 
    Participant
    Status: Physician
    Posts: 68
    Joined: 12/19/2017

    I actually already subtracted out the $54k 401k profit sharing plan. So with standard deduction I think I’m over $315 taxable.

    #89042 Reply
    Liked by Zaphod
    cgossage cgossage 
    Participant
    Status: Financial Advisor, Website Sponsor, Spouse
    Posts: 485
    Joined: 09/12/2017

    I was curious as well about whether as a sole proprietor it makes sense to form a C Corp. since double-taxation won’t be eliminated in this bill, my guess is no?

    Click to expand…

    Not on a purely taxation basis.

    If you are in the highest tax bracket your sole proprietor net self-employment earnings will be taxed at 37%. Your C-Corp profits will be taxed at 21% and dividend distributions will be taxed at 20% + 3.8% for a total of 44..8%.

    However, the difference is now closer, so there are likely a lot more situations where the specific circumstances justify it.

    This tax bill is going to be a veritable boon to tax and financial planning professionals. As people and small businesses try to navigate the new landscape.

    Click to expand…

    It may eventually be a boon, but this financial professional is struggling to navigate the new landscape as well.

    Clint Gossage CFA, CFP, CPA
    cmgfin.com

    #89054 Reply
    PhysicianOnFIRE PhysicianOnFIRE 
    Moderator
    Status: Physician
    Posts: 1535
    Joined: 01/08/2016
    Now that I’ve had more time to process this, I think this is going to be huge for WCI, LLC even though it won’t help with my practice income at all (although going to half-time, I would have qualified for that if not for WCI, LLC). It should be good for at least a $50-60K discount on our taxes.

    Click to expand…

    Change your mind on the Donor Advised Fund in 2017 yet?

    40-something anesthesiologist and personal finance blogger @ https://physicianonfire.com [Part of the WCI Network] Find me on Twitter: @physicianonfire

    FIRE. Financial Independence. Retire Early.

    #89198 Reply
    The White Coat Investor The White Coat Investor 
    Keymaster
    Status: Physician
    Posts: 4479
    Joined: 05/13/2011

    Now that I’ve had more time to process this, I think this is going to be huge for WCI, LLC even though it won’t help with my practice income at all (although going to half-time, I would have qualified for that if not for WCI, LLC). It should be good for at least a $50-60K discount on our taxes.

    Click to expand…

    Change your mind on the Donor Advised Fund in 2017 yet?

    Click to expand…

    I don’t think I get why every one is so big on these. When I want to give money to charity, I just give it to charity. Sure, the tax break is great, but it doesn’t do the charity any good for me to put it in a DAF. A DAF is kind of a jerk move that way- you get the tax break, you give yourself a pat on the back, but the charity doesn’t get squat.

    So the only possible use for me would be to take money I have today designated for something besides charity, put it in a DAF, and give it next year to charity instead of the money I make next year that I would give to charity. It seems to me I’ll need the charitable deduction just as much next year as this year, so I see no point in doing that. In fact, it won’t be reduced by the Pease phaseouts next year, so it’s even better then. The difference between the 37% bracket and the 39.6% bracket just doesn’t seem like a big enough deal to me to give this year instead of next when you consider the opportunity cost too and the DAF fees. It’s not like it’s state taxes that I won’t be able to deduct next year.

    Site/Forum Owner, Emergency Physician, Blogger, and author of The White Coat Investor: A Doctor's Guide to Personal Finance and Investing
    Helping Those Who Wear The White Coat Get A "Fair Shake" on Wall Street since 2011

    #89213 Reply

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