Most farmers assumed that their Section 199A deduction would simply be 20% of their Schedule F income. However, the Final Regulations and the instructions are very firm in stating that your Qualified Business Income is after several deductions that many think would not apply.
We surmised that several deductions would be deducted such as the self-employment tax deduction, SE health insurance and retirement plan contributions.
However, the instructions now indicate that you must reduce QBI for unreimbursed partnership expenses, business interest for purchasing S corporation or partnership interests.
It also added that farmers who pay any charitable contributions out of their business account must also reduce it for these items.
Finally, if a farmer receives a Section 199A(g) DPAD deduction from a cooperative, it must reduce QBI by that amount.
Let's see how all of these deductions may affect bottom line QBI:
Jerry farms with his son in a partnership. During 2019, he receives a $50,000 guaranteed payment and line 1 income on his Schedule K-1 of $200,000. His guaranteed payment includes self-employed health insurance of $20,000. He contributed $40,000 into his 401(k) plan. $35,000 of cooperative DPAD was passed through to Jerry and he had $15,000 of unreimbursed partnership expenses and incurred $20,000 of business interest to buy his partnership interest. The partnership also paid $20,000 to charity and his share is $10,000.
Let's calculate his Qualified Business Income:
- Start with Line 1 income of $200,000, then subtract
- Schedule S tax deduction is $11,587 but we only subtract 80% of this number or $9,270, then subtract
- Self-employed health insurance deduction of $16,000 (again only deduct 80%. We believe this should not be deducted, however, the IRS seems to indicate it has to be deducted even though it was included as part of the guaranteed payment), then subtract
- Retirement plan contribution of $32,000 (80%), then subtract
- $35,000 of cooperative DPAD, then subtract
- $15,000 of unreimbursed partnership expenses, then subtract
- $20,000 of business interest, and finally subtract
- $10,000 of charity.
We started with $200,000 of farm income and ended up with QBI of $62,730 which results in a QBI deduction of $12,546. But we then get to add the DPAD of $35,000 to arrive to total QBID of $47,546.
However, if we did not have to subtract all of these items, we would end up with QBID of $60,000 plus $35,000 or $95,000.
As you can see, this is a substantial reduction in the QBI deduction. We shall see if this still remains true with the final instructions for the new From 8995 and 8995-A.