199A coordination with LTCG rates

[kathyc2]

Do we know how these two items will work together?

Say a single person has taxable income of 45K which includes 5K of items taxed at LTCG rates. Since they are over 38,600 the 5K would be taxed at 15%.

If a 199A of 8K would be deducted first, the taxable income would be 38K and LTCG rate would be 0%.

[ATSMAN]

Single Taxable Income
$ 0 to 38,600 maximum rate = 0%
38,601 to 425,800 maximum rate = 15%
425,801 and over maximum rate = 20%

Unless we get guidance to the contrary, if the taxable income drops below $38601 the LTCG rate is 0%.

[kathyc2]

I was looking at if we know for sure that any 199A deduction will occur first before the LTCG calculation.

[DaveinTexas]

Interplay

Do we know how these two items will work together?

Say a single person has taxable income of 45K which includes 5K of items taxed at LTCG rates. Since they are over 38,600 the 5K would be taxed at 15%.

If a 199A of 8K would be deducted first, the taxable income would be 38K and LTCG rate would be 0%.

A second limitation exists, too… You can’t deduct more than 20% of your taxable income after subtracting your net capital gains but before deducting the Sec. 199A deduction.

Say, for example, that you should theoretically get a $20,000 Sec 199A qualified business income deduction based on the qualified business income flowing out of a pass-through entity. If due to deductions your taxable income actually equals $80,000 and this $80,000 includes $30,000 of net capital gains, your deduction equals 20% of the net $50,000 ($80,000 taxable income minus $30,000 net capital gains), or $10,000.

In your example, you would subtract 20% of $40,000 (taxable income without net capital gains) or $8,000; that represents the limitation figure. This would make the final taxable income $37,000 (pretty darn close to your figures). I would then say only $1,600 of the gain would be taxed at 15% (threshold before the next tax bracket) and the remainder of the gain at 0%.

That's my guess, but we definitely need more guidance from IRS.

[kathyc2]

I had forgotten about the max 199A being 20% of taxable income. I'm going off on another tangent here, but doesn't that have the effect of making income other than SE income only 80% taxable up to the standard/itemized deduction?

Say a single person has all their income from SE. After deducting such things as 1/2 SE tax the amount is 45K. They take the 12K standard deduction making their taxable income 33K with a 20% max 199A deduction of 6.6K for a revised taxable of 26.4K.

If they were to convert 12K from a traditional to Roth, they would have AGI of 57K, less 12K standard for taxable income of 45K pre 199A. Then they can take the full 20% of SE income of 9K, reducing their taxable to 36K.

Difference of net taxable is 9.6K (36 - 26.4), or having the effect of 12K conversion being only 80% taxable.

Am I missing something here?

[DaveinTexas]

All I can tell you

is that they sloppily threw together the language in this bill and I can't decide if you are right or wrong with your assumption or not and honestly, that makes me uncomfortable.

Seriously, I hope there are better explanations in the future of how these things will play out....like, how will the deduction for a Self Employed person be affected by the 1/2 of SE tax, or Health Insurance, or a SEP contribution???

I don't know but I hope to figure it out soon; clients are already coming in filing their business returns and they want answers! Thank you Congress for passing this so late in the year with zero time to plan for it!