If you own a business organized as a pass-through entity, the Qualified Business Income (QBI) deduction offers a valuable opportunity for tax savings. Under the Tax Cuts and Jobs Act, this deduction can allow sole proprietors, partnerships, S corporations, and some LLCs to deduct up to 20% of qualified business income. Unfortunately, as it stands right now, this provision is set to expire at the end of 2025, although some observers believe Congress may consider extending it.

Because there is an uncertain end date, it makes sense to consider strategies that could help you capture a larger benefit while it is available. The following guidance outlines important background information on the QBI deduction, along with strategies to help maximize your potential tax savings.

QBI basics

Qualified business income is essentially the net pass-through income earned from an eligible enterprise, excluding wages or salaries.

The QBI deduction is open primarily to non-corporate taxpayers, namely individuals, trusts, and estates, who receive their share of business income from pass-through structures. Businesses that are set up under C corporation status do not qualify.

Complicating this deduction are special rules for certain “specified service trades or businesses” (SSTBs). When you operate in fields such as health, law, accounting, financial services, performing arts, or consulting, there are significant limits or a complete disallowance of this deduction once your total taxable income exceeds specific thresholds. These thresholds vary by filing status and are adjusted annually.

Limitations and phaseouts

One of the primary hurdles with the QBI deduction arises when your taxable income before the deduction exceeds predefined thresholds. If you file jointly, your allowable QBI deduction starts getting phased out once your taxable income crosses a certain line, and for single filers or other filing statuses, there is a different threshold.

If you end up within the “phase-out” range, your ultimate deduction may be reduced. Once your taxable income shoots above the fully phased-out threshold, the deduction is eliminated.

For instance, in 2024, business owners with taxable income below $191,950 could claim the full deduction. Those with taxable income over $241,950 can’t claim the deduction. If income fell between those two thresholds, the individual could qualify for a partial deduction. The ranges for married filing jointly taxpayers are $383,900 and $483,900, respectively.

W-2 wage and UBIA limitation

For business owners with income that exceeds the threshold, the QBI deduction is limited to the greater of:

• 50% of W-2 wages paid by the business and properly allocated to QBI, or
  • 25% of those W-2 wages plus 2.5% of the original cost basis (unadjusted basis immediately after acquisition, or UBIA) of any qualified tangible property used in the business.

UBIA-based limitations help capital-intensive operations like real estate development, manufacturing, or hotels, where significant property investments support production. If you operate in a business with substantial depreciable property, you can potentially preserve a greater portion of the deduction, even when a lack of W-2 wages or high income levels otherwise threaten to limit it.

Rules for SSTBs

If you practice in fields such as health, accounting, financial services, legal services, performing arts, or consulting, you may be part of a Specified Service Trade or Business. SSTBs face additional, more stringent limitations. Once your taxable income exceeds the phaseout range for your filing status, the IRS disallows the QBI deduction for SSTB income altogether.

Strategies to increase your QBI deduction

Aggregate multiple businesses

If you own several pass-through entities, grouping them for QBI purposes can boost your deduction. By making an aggregation election, you can treat separate qualifying businesses as a single entity for purposes of calculating W-2 wages, UBIA of property, and QBI.

This approach often benefits owners whose different ventures complement each other in terms of wages or capital intensity. For instance, one activity might have high income but a low W-2 payroll, while another might have low overall profit but a sizable payroll. Combining them can boost the total W-2 wage factor, which in turn mitigates the QBI limitations. However, be aware that you generally cannot aggregate an SSTB with a non-SSTB; any attempt to merge them for QBI purposes is disallowed. There are also ownership and business commonality requirements to aggregate multiple entities.

Be strategic with depreciation

Depreciating assets reduces your taxable income but it also lowers QBI. If you’re near a threshold where QBI limits kick in, making certain depreciation elections could preserve a larger deduction. Balancing immediate tax savings with long-term benefits is key here.

On the one hand, you may want a large deduction in the first year to lower your overall tax burden; on the other, you risk decreasing QBI to the point where your 20% deduction shrinks. This is especially tricky if your income hovers near the thresholds that tip you into a W-2 wage limitation zone.

Rather than automatically claiming the maximum possible depreciation in the current year, consider the trade-off. In some instances, spreading out depreciation via the usual MACRS schedule could preserve a more substantial QBI deduction in the year of purchase, and if your tax rates rise in the future, those postponed depreciation deductions could have greater value later. Deciding whether to fully claim, partially claim, or entirely forego bonus depreciation should be done carefully with an eye on optimizing your total tax liability, not just this year.

Optimize retirement contributions

Contributions to self-employed retirement plans reduce taxable income and QBI. While this can shrink your QBI deduction, it might still help if it lowers your income below the phaseout threshold. Be strategic about how much you contribute to ensure you’re getting the best overall tax result.

If your income is on the edge of a QBI threshold, a modest additional retirement account contribution might safely move you below the key figure that triggers QBI limitations. Each situation is unique, and you should weigh the long-term value of retirement savings against the near-term objective of maximizing your QBI deduction.

It’s worth noting that contributions to a personal IRA generally do not affect QBI since they are not tied directly to the self-employed activity.

Optimize your entity structure

Your choice of business entity can have a big impact on the final QBI calculations. A sole proprietorship might provide simpler bookkeeping, but you could miss out on added W-2 wages if you do not pay yourself a salary as an employee (which is only possible in certain corporate structures like S corporations).

In an S corporation (or an LLC taxed as an S corporation), part of the owner’s earnings can be taken as wages (subject to payroll taxes), and the rest flows through as income that counts toward QBI. However, you are required to pay yourself “reasonable compensation,” which will reduce that QBI portion. Yet paying a salary in an S corporation can also position you to harness the W-2 wage threshold for the QBI limitation.

If you run both an SSTB and a non-SSTB in a single entity, you might explore whether restructuring them into separate companies is possible and beneficial. Splitting them out could preserve QBI deductions on the non-SSTB revenue stream rather than letting the SSTB label overshadow the entire operation.

Manage taxable income levels strategically

There are numerous tactics to keep taxable income within the QBI-favorable range. Accelerating deductions or deferring revenue from year to year can help you manage your income. If you are nearing an important threshold, it can make sense to push some income into the following tax year or to pull forward some expenses (such as planned repairs or purchases) into this year.

For married individuals whose joint income crosses a crucial line, filing separately might yield a better QBI deduction for the spouse who operates the pass-through entity. Doing so, however, can backfire if it triggers other tax disadvantages, including the loss of certain credits or a reduction in itemized deductions. It’s important to run the numbers carefully.

Ensuring compliance and avoiding audits

As with all tax matters, accurate recordkeeping is critical. You should maintain meticulous documentation of:

• Business income and expense allocations
  • W-2 wage computations and disbursements
  • Depreciation schedules, including any elected Section 179 or bonus depreciation
  • Basis in qualified property for UBIA calculations
  • SSTB qualifications or non-qualifications (ensuring you are categorizing your operations correctly)

Consult with a knowledgeable CPA to confirm that you are on track and maintaining audit-ready documentation.

Navigating complexity: a balancing act

The QBI deduction can be a game-changer, but the rules are undeniably complex—especially for higher earners or those operating in Specified Service Trades or Businesses. Maximizing the deduction often requires balancing multiple factors, such as income thresholds, W-2 wages, depreciation decisions, and retirement contributions.

A seasoned CPA can help you evaluate your unique circumstances, weigh the trade-offs, and design a strategy that maximizes your deduction while ensuring full compliance with IRS regulations.

Don’t let this opportunity slip by. Contact our office to get the tailored advice you need to optimize your tax savings. Let’s work together to ensure you’re making the right moves now and for the future.