Understanding Form 8995: The Key to Claiming Your Business Deduction

As a business owner, staying informed about the various forms and deductions available to you is crucial to maximizing the financial benefits of your hard work. Among these tools is Form 8995, which is specifically designed to simplify the claiming of the pass-through deduction.

What is the Pass-Through Deduction?

The pass-through deduction, also known as the Qualified Business Income Deduction, is a significant benefit introduced by the Tax Cuts and Jobs Act. This deduction allows business owners who own pass-through businesses to deduct up to 20% of their share of qualified business income from their personal income taxes. This deduction applies to various business structures, including sole proprietorships, partnerships, limited liability companies (LLCs), and S corporations.

Eligible Business Structures

The pass-through deduction is available to business owners of the following structures:

Sole Proprietorships: Freelancers, independent contractors, and small business owners often fall into this category. Partnerships: General partnerships and limited partnerships. Limited Liability Companies (LLCs): Single-member LLCs and multiple-member LLCs. S corporations: Business entities that have elected to be taxed under Subchapter S of the Internal Revenue Code.

Claiming the Deduction on Form 1040

Business owners claiming the pass-through deduction may do so by using Form 1040. There are two potential tax forms you can use:

Form 8995: The simpler option, but it is only available to taxpayers who qualify. Form 8995-A: The expanded version, which is used if your income exceeds certain thresholds or if you have certain types of business ownership.

Who Can Take the Pass-Through Deduction?

The pass-through deduction is generally available to individuals whose 2020 taxable income before the qualified business income deduction falls below the following thresholds:

Singles: $163,300 Married Filing Jointly: $326,600

However, like any tax deduction, the pass-through deduction comes with its own set of rules and limitations. For instance, deductions are phased out at higher income levels. Form 8995 is designed for taxpayers whose total taxable income before the qualified business income deduction falls at or below these thresholds and who are not patrons of an agricultural or horticultural cooperative. If your income exceeds these thresholds or if you are a patron of a cooperative, you must use Form 8995-A.

Using Form 8995 to Claim the Deduction

Using Form 8995 to claim the pass-through deduction can significantly simplify the process. The form is relatively straightforward, with just one page and 17 lines. It is particularly useful for business owners whose total taxable income before the qualified business income deduction does not exceed the thresholds mentioned above and who are not patrons of agricultural or horticultural cooperatives.

Here's a practical example to illustrate this:

Case 1: If a married taxpayer's taxable income before the qualified business income deduction on Form 1040 is $300,000, they can use Form 8995 to claim the pass-through deduction. Case 2: If the same taxpayer had a taxable income before the qualified business income deduction of $350,000, they would need to use Form 8995-A instead.

Using the simplified form is not only easier but can also save time and paperwork. The more complex Form 8995-A has four sections and four additional schedules used to calculate qualified business income, potential deductions, phaseouts, and the resulting deduction.

Conclusion

Understanding the intricacies of the pass-through deduction and the different forms available can greatly impact your financial bottom line. Form 8995 is a valuable tool for business owners who qualify for the pass-through deduction. It simplifies the process and reduces the complexity of claiming this beneficial deduction.

Stay informed and maximize your deduction using the right form. If you have any questions or need further assistance, consult a tax professional to ensure compliance and accuracy.