- Trusts can also get a 20% Qualified Business Income Deduction
- Trusts will likely also get their own SALT deduction
- This can cause more deduction to be had overall
- Planning for asset protection and business succession including trusts, now also benefits client’s income tax planning
- Clients should consider using trusts to get the most out of these deductions and to create the best value plans
There are two topics of tax reform that are getting a lot of attention. These are the limitation on deduction of State and Local Taxes (SALT) and the special deductions for pass-thru entities. The deduction for pass-thru entities is governed by section 199A of the Internal Revenue Code. This section was meant to provide tax relief to businesses other than corporations. Corporations received a steep cut to their tax rate, and Congress didn’t want smaller businesses to miss out. This deduction was their answer.
High tax states like Minnesota tend to be hurt the most. Since their tax rates are higher, their citizens stand to lose hundreds of thousands of dollars in deductions on their federal tax returns. However, proper planning can help to alleviate these concerns. Trusts each can get their own 199A deduction and their own SALT deductions.
First, let’s look at how these deductions work for companies. Some companies will have pieces of property that add to this number and S-corporations must calculate theirs with some reference to the shareholder’s W-2 wages. For simplicity’s sake, so that the concept can be illustrated, we will deal with a company that does not have either of these issues. We’re going to look at a partnership between John and Sarah. They are married.
The partnership had qualified business income of $300,000.00. They may deduct $10,000.00 on their federal tax return for their SALT deduction. The couple will also receive a deduction of $60,000 (20% of their Qualified Business Income) under section 199A. Their total deductions under these two sections of the code would be $70,000.00.
Now, let’s look at what happens when trusts are partners. Let’s say that John made a trust for Sarah and Sarah made a trust for John. John, Sarah, and each trust owns 25% of the business. The business has a better year this time and there is $400,000 of qualified business income. Sarah and John will get to deduct $10,000.00 for SALT and $40,000.00 for section 199A. However, John’s trust can also deduct $10,000.00 for SALT and $20,000.00 for 199A (20% of its $100,000.00 share). The same can be said for Sarah’s trust. It can deduct $10,000.00 for SALT and $20,000.00 for 199A (20% of its $100,000.00 share).
The total deduction would be $80,000.00 under 199A and $40,000.00 in SALT deductions for the year. That is $120,000 in tax deductions compared to just $70,000 without the planning. The couple greatly enhanced their tax efficiency while also protecting their assets, planning for business succession, and passing on their legacy. If you or someone you know could benefit from these principles, speak to your trusted advisor, CPA, attorney, or give me a call.