Steve, thank you for your reply. This was helpful.

Determining whether an S corporation makes sense or not in light of the new Sec. 199A requires more info that you provide in your comment. But see if these comments help you…

First, you can make a late S election. So probably you should get help from a professional after tax season. Make sure the CPA knows both S corp tax law and Sec. 199A. BTW more info here: S election timing.

Second, in general you save more money by using S corp when you save FICA. We’ve got a blog post here that explains: S corporation shareholder salaries and Sec. 199A deduction. Also, we have a lot of information on this issue in our S corporation salaries monograph.

Third, you may want to rethink or get some help thinking more about your reasonable salary number. I can believe $120K is good number. But it may also be high. Check out this blog post that discusses S corporation salary safe harbors including billionaire Warren Buffet’s $100,000 salary.

Fourth, remember or note that the Sec. 199A deduction equals the lesser of your pass-thru income or your taxable income. Accordingly, you won’t get the 20% deduction on your entire income. In effect, this means that S corp wages you shelter with pension contributions, itemized deductions, self-employed health insurance and so on don’t reduce your Sec. 199A deduction.

Officer wages aren’t added back. The law is very specific.

Pass-thru entities need to understand the law’s mechanics and then look at any opportunities available for optimizing.

You might find this related post helpful: http://evergreensmallbusiness.com/s-corporation-shareholder-salaries-sec-199a-deduction/

I’m a little confused about the rules of the wages not being allowed to be added back to business income. Say I am a sole proprietor that makes 100k a year. I pull out 100k as distributions to myself. From your article it sounds like I would be allowed a deduction of 20% or 20,000 on my personal return.

Now say the business were formed as an S-Corporation and made the same profit of 100k before paying the owner/officer salary of 100k. The net profit of the business would be zero after paying the officer salary and the shareholder would not be allowed a deduction.

As you can see the only thing that changed was the structure of the company. It would make sense to me that if Officer salaries have to be added back, so do distributions from sole proprietors.

That makes sense. I am not surprised. (This approach matches what Sec.199 (the old “domestic production activities deduction” law) did.)

Good question. I spoke with the Vice President of Federal Government affairs at NAPEO regarding the W-2 wages and Sect 199a treatment for PEO clients. He told me that the law language does not specify that only the wage paying EIN as the party eligible for the deduction. He does not believe that was the intention and that company wages paid, even via a PEO or staffing arrangement could be used for the deduction calculation. A position paper is due on this next week and we will post news about this on our website staffmarket.com once the position paper is released.

You raise a number of issues in your comment–more than one of which requires a long answer. But here’s the quick answer you want or need most: You should get the Sec. 199A deduction on the pass-thru net rental income.

BTW, the elderly accountant does need, potentially, to do more work on the partnership returns that kick out the K-1s. But that’s his responsibility and the partnership’s responsibility… not yours (unless you’re the tax matters partner). If you think he can’t handle the returns, you should broach subject with him.

You want to look at the blog post on how the phase-out calculations work. I think you’re using numbers from one of the “draft” versions of the bill.

Here’s link to that post: Sec. 199A Deduction phase-out calculations