Sikich Series on Tax Reform: IRS Issues Final Regulations for New 20% Deduction for Pass-through Businesses

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The IRS issued its final regulations on January 18, 2019 on the new 20% deduction for Qualified Business Income (“QBI”) for pass-through businesses (Section 199A). This new deduction was added as part of the “Tax Cuts and Jobs Act” (“TCJA”) enacted on December 22, 2017.


Congress enacted Section 199A to provide a deduction to non-corporate taxpayers of 20 percent of the taxpayer’s QBI from each of the taxpayer’s qualified trades or businesses, including those operated through a Partnership, S Corporation, or Sole Proprietorship. A deduction of 20 percent is also available for the taxpayer’s aggregate qualified REIT dividends and qualified publicly traded partnership (PTP) income. The actual deduction is claimed at the individual level.

Section 199A limits the amount of this deduction for a trade or business to the lesser of 1 or 2 below:

  1. 20 percent of the taxpayer’s QBI with respect to the qualified trade or business; or

  2. The greater of (a) or (b):

    a. 50 percent of the W-2 wages with respect to the qualified trade or business; or

    b. The sum of 25 percent of the W-2 wages with respect to the qualified trade or business PLUS 2.5 percent of the Unadjusted Basis Immediately after Acquisition (UBIA) of all qualified property.

  3. There is also an overall limitation of 20% of taxable income (without the QBI deduction).


Section 199A also indicates that the QBI deduction is not available for an employee’s wages, guaranteed payments paid to partners, and for income from a “Specified Service Trade or Business (“SSTB”). Generally, the SSTB are service type businesses. Even if income was earned from a SSTB, the deduction might be available if the taxpayer’s taxable income is less than an applicable threshold amount. We addressed these provisions in an earlier Insight article in the Sikich Series on Tax Reform (please click here for a link to this article) when the IRS issued its proposed regulations.

Final Regulations

The IRS issued proposed regulations on August 8, 2018. The regulations received many comments from taxpayers and tax practitioners. The IRS reviewed all comments and issued their final regulations on January 18, 2019 (please click here to view the final regulations). Here are several selected developments contained in these final regulations:

Rental Property and the New 20% Deduction

One of the major unknown features of Section 199A (when the law was enacted and with the proposed regulations) is how to treat a rental property for purposes of the new 20% deduction. Would this be treated as a trade or business or not? The IRS did not provide clear direction for the definition of a trade or business in the proposed regulations, but merely offered two principles to guide taxpayers based on prior case law for Section 162. First, the IRS noted that the taxpayer should “enter into and carry on the activity with a good faith intention to make a profit or with the belief that a profit can be made from the activity.” Second, the IRS focused on the scope of activities and said this would require there to be “considerable, regular, and continuous activity” carried out by the taxpayer. There was much discussion and uncertainty on this matter following the release of the proposed regulations, and the IRS offered some changes in the final regulations.

Taxpayers and practitioners, however, were unsure if a rental real estate activity was sufficiently “regular, continuous, and considerable” for the activity to constitute a Section 162 trade or business. Thus, as part of the release of the final regulations, the IRS also issued Notice 2019-07 (Please click here for a copy of this Notice) which offers a proposed “safe harbor” under which a rental real estate enterprise may be treated as a trade or business solely for purposes of Section 199A. “Under the proposed safe harbor, a rental real estate enterprise may be treated as a trade or business for purposes of Section 199A if at least 250 hours of services are performed each taxable year with respect to the enterprise. This includes services performed by owners, employees, and independent contractors and time spent on maintenance, repairs, collection of rent, payment of expenses, provision of services to tenants, and efforts to rent the property.”

  • Please note that other activities carried out by the investor are not under this safe harbor, and thus not included in this 250-hour threshold. These are also spelled out in Notice 2019-07.
  • Again, this 250-hour threshold is part of the IRS established safe harbor, and if a rental real estate enterprise does not meet the provisions of this Notice 2019-07, it does not necessarily mean the rental activity is not a trade or business; it just does not qualify under the safe harbor.

For the 2018 tax return, a taxpayer or RPE that satisfies the requirements spelled out in IRS Notice 2019-07 for this “safe harbor” must include a statement to this effect in their tax return and it must be signed by the taxpayer or authorized representative.

New Aggregation Rules

Another area of uncertainty in the proposed regulations is the new aggregation rules. The proposed rules allowed the aggregation only at the individual level. The final regulations, however, provide that this can also be done in some cases at the entity level: “the final regulations permit an RPE (a “relevant pass-through entity”) to aggregate trades or businesses it operates directly or through lower-tier RPEs. The resulting aggregation must be reported by the RPE and by all owners of the RPE.”

How to Determine Qualified Business Income

The IRS also added in the final regulations an explanation of how qualified business income is determined. The IRS indicated that all deductions attributable to the trade or business should be included in determining qualified business income. The preamble to the final regulations states: “deductions such as the deductible portion of the tax on self-employment income under section 164(f), the self-employed health insurance deduction under section 162(l), and the deduction for contributions to qualified retirement plans under section 404 are considered attributable to a trade or business to the extent that the individual’s gross income from the trade or business is taken into account in calculating the allowable deduction.” Treating these deductions in this manner was not clear under the proposed regulations, but with this addition in the final regulations it may result in a lower overall QBI deduction depending on the taxpayer’s situation.

What is a Specified Service Trade or Business (SSTB)?

Further, one of the key areas in the proposed regulations was the definition of what is and what is not an “SSTB” (“Specified Service Trade or Business”). The final regulations addressed many comments concerning each of the separate service disciplines that were covered in the proposed regulations and made several changes. For instance, one such change related to nursing care and assisted living facilities and indicated the following: “The Treasury Department and the IRS agree that skilled nursing, assisted living, and similar facilities provide multi-faceted services to their residents. Whether such a facility and its owners are in the trade or business of performing services in the field of health requires a facts and circumstances inquiry that is beyond the scope of these final regulations. The final regulations provide an additional example of one such facility offering services that the Treasury Department and the IRS do not believe rises to the level of the performance of services in the field of health.”

Finally, it is important to review each of these SSTB services to see what the IRS descriptions are for these services: learn what is treated as an SSTB and what is not. There are also some useful examples included in the regulations by the IRS to assist taxpayers and tax practitioners.

Key Takeaway

Again, there is much in these final regulations, and we will offer a more detailed analysis later. There were also some proposed regulations issued in conjunction with the issuance of the final regulations dealing with other aspects of Section 199A involving trusts (please click here for these proposed regulations).

These final regulations will impact many taxpayers and could have significant tax consequences in 2018, including additional complexity and compliance issues. But, there are also some opportunities for taxpayers to reduce their tax liabilities if they understand and plan with these new rules. Please contact your Sikich tax adviser with any questions or for any assistance.


This publication contains general information only and Sikich is not, by means of this publication, rendering accounting, business, financial, investment, legal, tax, or any other professional advice or services. This publication is not a substitute for such professional advice or services, nor should you use it as a basis for any decision, action or omission that may affect you or your business. Before making any decision, taking any action or omitting an action that may affect you or your business, you should consult a qualified professional advisor. In addition, this publication may contain certain content generated by an artificial intelligence (AI) language model. You acknowledge that Sikich shall not be responsible for any loss sustained by you or any person who relies on this publication.


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