This is the fifth in a series of Law in the Marketplace columns with practical tips on how to use federal and New Hampshire laws and orders to deal with the COVID-19 pandemic.

Despite the devastation currently being wrought by the coronavirus pandemic, many New Hampshire business owners are still making money. But of course, their good fortune may not last if the pandemic continues too much longer. What should these owners do to address that possibility?

For many New Hampshire business owners who own interests in “pass-through businesses,” the answer is to ensure that they are structured to maximize the amazing annual federal income tax deductions available to them under Internal Revenue Code section 199A. “Pass-through businesses” include sole proprietorships, S corporations and businesses that, like most multi-member LLCs, are taxable as partnerships. Business owners can qualify for this deduction simply because they have ownership interests in these businesses, even if they are entirely passive owners, even if they hold their interests through trusts, and even if they aren’t U.S. citizens but do pay federal taxes.

If you are a New Hampshire business owner, here the main things you should know about section 199A:

— The maximum section 199A deduction is 20% of the net business income of your business (less certain IRS reductions).

— However, your deduction will be less than 20% if you file your federal tax return jointly and if your taxable income exceeds your section 199A “threshold amount.” For 2020, your section 199A threshold amount will be $326,600 if you file your federal tax return jointly and $163,300 if you file it separately.

— However, many New Hampshire business owners must restructure their businesses in order to maximize their section 199A deductions.

— For example, if your taxable income exceeds your threshold amount and if your business is taxable as a sole proprietorship or a partnership, you should, in most cases, convert it to an LLC or business corporation taxable as an S corporation.

— By contrast, if your taxable income does not exceed your threshold amount but your business is taxable as an S corporation, you should, in most cases, convert it to an LLC taxable as a sole proprietorship or as a partnership.

— Finally, if your business is taxable as a C corporation, you can’t get a section 199A deduction unless you convert it to a pass-through business.

— If your business is a multi-member LLC taxable as a partnership, you may be able to make substantial Social Security tax savings by taking advantage of a little-known IRS regulation called Prop. Reg. § 1.1402(a)-2.

As currently written, section 199A will expire at the end of 2025. However, many tax professionals believe that well before then, Congress will extend the section indefinitely in order to help small businesses. Tragically, even in 2025 and thereafter, many of these businesses will need this help because of the pandemic.

 

 

John Cunningham is a Concord tax and businesses lawyer and estate planner. He has published Drafting Limited Liability Company Operating Agreements and Maximizing Pass-Through Deductions under Internal Revenue Code Section 199A. Both are the leading books in their fields. If you have business or tax questions you’d like addressed in this column, call John at (603) 856-7172 or e-mail him at lawjmc@comcast.net