The third in our series on the qualified business income deduction, created by the Tax Cuts and Jobs Act (TCJA or the Act) as part of federal tax reform. To learn more about this deduction, check out our other posts in the series.


On its face, the qualified business income deduction (Section 199A) is pretty straightforward. The owners of qualified U.S. trades and businesses —i.e., sole proprietorships and pass-through businesses, but not C corporations — may claim a deduction for the qualified business income from these entities.

So, just what is qualified business income? The answer to that question is where it starts to get complicated.

General Rule

The proposed regulations define qualified business income, in general, as the net amount of qualified items of income, gain, deduction, and loss with respect to a qualified trade or business of the taxpayer. In other words, qualifying items of income and gains, minus deductions and losses.

This income is calculated separately for each of the owner’s businesses.

It also must be connected to a U.S. trade or business and must be included in taxable income. That means foreign income is excluded.

Other items that are specifically included or excluded are as follows.

bullet graphic: green arrow Included in Qualified Business Income

Qualified business income typically includes income from sole proprietorships, partnerships, S corporations, pass-through entities or trusts that themselves own a pass-through business, and REITs (real estate investment trusts).

bullet graphic: green arrow Excluded from Qualified Business Income

Income from businesses that essentially perform services as an employee does not qualify. Typically this includes independent contractors who were formerly employees, however it is a rebuttable presumption. A former employee who changed from employee to independent contractor status for a legitimate reason other than to reduce taxes — and typically made the change before tax reform — may still be able to qualify as an independent contractor with regard to the deduction.

Income received as a guaranteed payment by a partner or LLC member is excluded from qualifying business income, as is reasonable compensation to the employee/shareholder of an S corporation and payments to a partner for services rendered.

Capital gains and losses, dividend income, interest income not from business operations, and certain investment income are also excluded.

A gain resulting from the sale or exchange of property used in a trade or business and held for more than one year (1231 property) is excluded as a capital gain. However, a 1231 loss is considered an ordinary (not capital) loss and therefore not excluded. In this case, the loss does reduce qualified business income.

Importantly, the income that business owners receive from specified service businesses, including most professional services, does not qualify for the deduction. That applies whether the owner is active or passive in the business and whether the ownership is direct or indirect.

There is an exception if the business owner’s income falls below a specified threshold amount, and a de minimis exception may apply.

Specified Service Businesses

In defining specified service businesses, the Act equates them to businesses that are specifically excluded from the definition of a qualified trade or business elsewhere in the tax code. As a result, specified service businesses include:

  any trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, and brokerage services (Although engineering and architecture businesses were on this general list, they are specifically excluded from the list of specified service businesses for purposes of the qualified business income deduction.)

  any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its owners or employees

The Act also includes the following as specified service businesses: any trade or business that involves the performance of services that consist of investing and investment management, trading, or dealing in securities, partnership interests, or commodities

That leaves a lot of room for interpretation.

bullet graphic: green arrow Defined by Category

The proposed regulations provide additional guidance regarding the definition of a specified service business for those businesses that fall within the following categories:

Accounting Services

Includes Services provided by accountants, enrolled agents, return preparers, financial auditors, and similar professionals — including those who provide tax return and bookkeeping services
Excludes Payment processing and billing analysis

Actuarial Science

Includes Services by actuaries and similar professionals
Excludes Analysts, economists, mathematicians, and statisticians not engaged in analyzing or assessing the financial costs of risk or uncertainty of events


Includes Services provided by individuals who participate in athletic competition such as athletes, coaches, and team managers in sports such as baseball, basketball, football, soccer, hockey, martial arts, boxing, bowling, tennis, golf, skiing, snowboarding, track and field, billiards, and racing
Excludes Services that do not require skills unique to athletic competition, such as the maintenance and operation of equipment or facilities for use in athletic events. Also services by persons who broadcast or otherwise disseminate video or audio of athletic events to the public

Brokerage Services

Includes Services provided by individuals who arrange transactions between a buyer and seller with respect to securities, for a commission or fee — including services of stock brokers and similar professionals
Excludes Services provided by real estate agents/brokers and insurance agents/brokers


Includes Professional advice and counsel to assist clients in achieving goals and solving problems, including providing advice and counsel regarding advocacy with the intention of influencing decisions made by a government or governmental agency and all attempts to influence legislators and other government officials on behalf of a client by lobbyists and other similar professional
Excludes Services other than advice and counsel, as determined based on all facts and circumstances of the business

Financial Services

Includes services typically performed by financial advisors and investment bankers, wealth planners, retirement advisors and other similar professionals — including managing wealth, advising clients with respect to finances, developing retirement plans, and developing wealth transition plans
Also includes other services regarding valuations, mergers, acquisitions, dispositions, restructurings, and raising financial capital by underwriting, or acting as the client’s agent in issuance of securities, and similar services
Excludes Traditional banking services, including taking deposits and making loans

Health Services

Includes Medical services provided by physicians, pharmacists, nurses, dentists, veterinarians, physical therapists, psychologists and other similar healthcare professionals who provide medical services directly to a patient
Excludes  The operation of health clubs or health spas that provide physical exercise or conditioning, payment processing; or research, testing, and manufacture and/or sales of pharmaceuticals or medical devices

Law Services

Includes Services provided by lawyers, paralegals, legal arbitrators, mediators, and similar professionals in their capacity as such
Excludes Services that do not require skills unique to the field of law, for example, services by printers, delivery services, or stenography services

Performing Arts

Includes Services performed by individuals who participate in the creation of performing arts, such as actors, singers, musicians, entertainers, directors, and similar professionals
Excludes Services that do not require skills unique to the creation of performing arts, such as the maintenance and operation of equipment or facilities for use in the performing arts.
Also services by persons who broadcast or otherwise disseminate video or audio of performing arts to the public

bullet graphic: green arrow Defined by Reputation or Skill

The proposed regulations also provide additional guidance regarding the meaning of reputation or skill, which the Act included in the definition of specified service business.

These regulations indicate that the phrase is intended to be objectively and narrowly interpreted for businesses that are not already considered specified service businesses according to the above categories. Under this definition, additional specified service businesses include only those that receive income based on any one or more of the following:

endorsing products or services

licensing or receiving income for the use of an individual’s image, likeness, name, signature, voice, trademark, or any other symbols associated with the individual’s identity

appearance fees or income, including fees or income to reality performers performing as themselves on television, social media, or other forums, radio, television, and other media hosts, and video game players

bullet graphic: green arrow De Minimis Rule

Finally, there is a de minimis rule: A trade or business is not a specified service business if less than 10 percent of its gross receipts are attributable to the performance of services in a specified service activity. The rule changes to five percent for businesses with gross receipts greater than $25 million.

The de minimis rule applies at the individual business level, even if the business is part of an aggregated group for purposes of the deduction.

Rules for Estates and Trusts

The rules distinguish between grantor trusts — where the grantor remains the owner of trust assets —and nongrantor trusts and estates.

For grantor trusts, the trust’s qualified business income is treated as if it is received by the grantor of the trust.

On the other hand, nongrantor trusts and estates are required to allocate their qualified business income and W-2 wages between the trust or estate and the beneficiaries. This allocation is performed based on each beneficiary’s proportion of distributable net income, or DNI.

The trust/estate’s share is anything not deemed distributed to beneficiaries. In the absence of any distributable net income, all qualified business income and W-2 wages is allocated to the trust/estate.

Rules for REITs and Publicly Traded Partnerships

Publicly traded partnerships must report on Schedule K-1 the qualified business income for their businesses, including whether the businesses are specified service businesses. They must also report their qualified REIT dividends and any income/loss from another publicly traded partnership.

Note that W-2 wages and qualified property limitations (described below) do not apply to REIT dividend and publicly traded partnership income calculations. However, the netting rules do apply to the calculation of REIT dividends and publicly held partnership income/loss. If the calculations, after netting, result in a partnership loss, that loss is carried over to the next tax year.


The qualified business income deduction is an evolving and extremely complex area of the federal tax code. Although the IRS says you can rely on the information in the proposed regulations until final regulations are made available, there are still many unanswered questions. Consult with a tax advisor before making any business or financial decisions based on this deduction, including any change in business entity.


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