by Anastasia Johnson, JD
On December 20, 2017, Congress passed H.R. 1, known as the Tax Cuts and Jobs Act (TCJA), which made major revisions to the U.S. tax code for both individuals and corporations. In fact, the bill represents the most significant tax changes in the United States in more than 30 years.1
TCJA contains a large number of provisions that affect individual and corporate taxpayers. The most significant changes have been to the corporate tax rate, which will go from 35% to 21%. Other changes include the elimination of the individual health care mandate2, changes to estate taxes, and state and local taxes deduction. The TJCA also introduced some changes for small businesses, including a new 20% deduction for “qualified business income.” Other changes include lower individual tax brackets, child tax credits, as well as personal and business exemptions. The majority of the changes are temporary and set to expire December 31, 2025. 3
Some of the most important considerations for Marriage and Family Therapists are discussed below.
It is not only corporations that stand to benefit from the new tax plan, but small businesses could benefit as well. However, what constitutes a small business has been up for debate. The Small Business Administration officially categorizes small businesses by industry, based on their size or income.4 Only certain types of small business that are organized as pass-through entities, which means that they pay business tax as an individual, are eligible to use the newly available 20% deduction for qualified business income, with some exceptions.
Pass through businesses like sole proprietorships, partnerships, limited liability companies (LLCs) and S corporations — are not themselves subject to federal taxation the way traditional corporations are.5 Instead, the net profit or loss after expenses, including salaries paid to employees, is reported on the Federal Form 1120S, and passed through to the owner or owners’ personal tax return(s) via Schedule K, where it is subject only to personal income taxes.
The TCJA represents the most significant tax changes in the United States in more than 30 years.
For tax years after 2017 and before 2026, individuals would be allowed to deduct 20% of qualified business income from a partnership, S corporation, or sole proprietorships. For more information on a marriage and family therapy professional corporations and S corporations, please see Ann Tran-Lien’s article on page 44. The purpose behind this is to put these types of small businesses in line with the new lower corporate tax rates, which is one of the defining changes made by the TCJA; lowering the corporate tax rate from 35% to 21%.
However, pass-through businesses designated as “specified service trades or businesses”, would only be able to use the deduction for business income below a certain monetary threshold.6
“Specified service trades or businesses” include any trade or business in the following fields:
- Financial services
- Brokerage services
Or any business where the principal asset of the business is the reputation or skill of one or more of its employees.
LMFT sole proprietorships, partnerships, and S corporations are included in the health category. What this means is that unlike other types of pass-through entities which are not subject to limitations, there is an exception for businesses designated as a “specified service business”; the 20% deduction will be subject to a deduction phase out if taxable income is above a certain threshold.
To be able to use the new 20% deduction for qualified business income, the taxable income must be below $157,500 for single filers or $315,000 in the case of a joint return. Single filers making more than $207,500 or couples making more than $415,000 are subject to different rules.7 They are allowed no deduction at all if their pass-through business is a “specified service business.”8 Those with incomes between these thresholds are only eligible for a partial tax benefit.9 The 20% deduction is phased out until it disappears once total taxable income hits $415,000.10 Qualified Business Income (QBI) Qualified Business Income (QBI) means: Income + Gains - Deductions - Losses, including deduction for reasonable owner compensation
QBI is determined for each qualified trade or business. QBI is the net income of a business and does not include any investment income (interest, dividends, capital gains, and losses). Reasonable compensation in a marriage and family therapy S corporation and guaranteed payments in the partnership reduce QBI. If the net amount of qualified business income from all qualified trades or businesses during the taxable year is a loss, it is carried forward and reduces QBI in the next taxable year. QBI includes both passive and active income. The exclusion from the definition of a qualified business for specified service trades or businesses does not apply for a taxpayer with taxable income less than a threshold amount. The “threshold amount” is $315,000 for married taxpayers filing jointly ($157,000 if single).
For LMFT sole proprietorships, S corporations, and partnerships, if your taxable income exceeds the threshold amount ($207,500 for individual taxpayers and $415,000 for married taxpayers filing jointly), then you lose the deduction completely. In that case, the old pass-through rules apply meaning you pay tax using your individual tax rate. The calculations for QBI as well as the 20% deduction are complex as they involve several personal and business financial factors, and for that reason should be discussed with an accountant, CPA, or tax attorney.
Income Tax Brackets
One of the other noticeable changes is to the individual income tax brackets. The bill maintains seven tax brackets, but reduces income tax rates for just about every taxpayer, with the highest rate dropping from 39.6 % to 37%. This is important because small businesses organized as pass-through entities are taxed at the individual rates, as discussed above.
|Tax brackets and rates for single filers
|Old Bracket (2017)
||New Bracket (2018)
|$0 - $9,325
||$0 - $9,525
|$9,325 - $37,950
||$9,526 - $38,700
|$37,950 - $91,900
||$38,701 - $82,500
|$91,900 - $191,650
||$82,501 - $157,500
|$191,650 - $416,700
||$157,501 - $200,000
|$416,700 - $481,400
||$200,001 - $500,000
For more information about the brackets and rates for married, or head of household please see the Internal Revenue Service website at www.irs.gov. Keep in mind that the new tax brackets apply to income earned in 2018. Ultimately, how the TCJA may affect each individual, family or business depends on income, family size, where you live, whether you own a home, among several other personal financial factors.
CAMFT staff attorneys are unable to provide personal tax or financial advice to our members. We strongly recommend that members consult with an accountant, CPA, or tax attorney on how the new Act affects your business.
Anastasia Johnson, JD, is a staff attorney for CAMFT. Anastasia is available to answer member calls regarding legal, ethical, and licensure issues.
1 Matthew Frankel, Your Complete Guide to the 2018 Tax Changes https://www.fool.com/taxes/2017/12/29/your-complete-guide-tothe- 2018-tax-changes.aspx
2 Sy Mukherjee, The GOP Tax Bill Repeals Obamacare’s Individual Mandate. Here’s What That Means for You http://fortune. com/2017/12/20/tax-bill-individual-mandate-obamacare/
3 The author would like to thank Amanda Machenheimer, Enrolled Agent (EA) with West Rhode & Roberts, Certified Public Accountants for her time and consultation on the issues presented in this article.
4 Small Business Association, sba.gov
5 Alistair M. Nevius, What the Tax Reform Bill Means for Individuals https://www.journalofaccountancy.com/news/2017/dec/tax-reformbill- changes-for-individuals-201718070.html and Kay Bell, How taxes on pass-through businesses would work under the GOP tax plan http://www.dontmesswithtaxes.com/2017/12/how-taxes-onpass- through-businesses-would-work-under-the-gop-tax-plan.html
7 Aaron Krupkin, Navigating The TCJA’s Pass-Through Deduction. http://www.taxpolicycenter.org/taxvox/navigating-tcjas-passthrough- deduction-0
This article is not intended to serve as legal advice and is offered for educational purposes only. The information provided should not be used as a substitute for independent legal advice and it is not intended to address every situation that could potentially arise. Please be aware that laws, regulations and technical standards change over time. As a result, it is important to verify and update any reference or information that is provided in this article.