Unlocking the 20 Percent Pass-Through Deduction: Your Comprehensive Guide to Section 199A
- Gustaf Rounick, CFP®, ChFC®
- Oct 1
- 5 min read
Overview.
Section 199A—often called the Qualified Business Income (QBI) deduction—allows most owners of sole proprietorships, partnerships, S corporations, and certain trusts to exclude up to 20 percent of their net business profit from federal income tax. Because the write-off comes after you take the standard or itemized deduction, it can drop the top individual rate for eligible income from 37 percent to an effective 29.6 percent for 2025 filers, putting many “Main Street” firms on something closer to the 21 percent corporate footing.IRS
Policy Roots.
Congress created the deduction in the 2017 Tax Cuts and Jobs Act (TCJA) to prevent pass-through entities from being disadvantaged after the corporate rate fell to 21 percent. While corporations received a permanent cut, the original TCJA language scheduled Section 199A to expire after 2025; lawmakers viewed the provision as a temporary measure while they monitored revenue effects and business behavior.IRS
Permanent Extension.
The One Big Beautiful Bill Act (OBBBA)—signed on July 4, 2025—swept away that looming sunset, making the 20 percent deduction a permanent part of the Internal Revenue Code and paving the way for broader phase-in ranges and a small “safety-net” deduction starting in 2026. Importantly, nothing in OBBBA changes the mechanics or thresholds you will use on your 2025 return, but its permanence turns Section 199A from a use-it-before-it-expires perk into a long-term planning tool. bost.house.gov
How the 20 Percent Really Works
You start with your qualified business income—gross receipts minus ordinary business deductions, but excluding items such as reasonable owner salaries, guaranteed payments, capital gains, dividends, or foreign-source income [2]. Multiply that net figure by 20 percent, then add 20 percent of qualified REIT dividends and Publicly Traded Partnership income. Finally, compare the total to 20 percent of your taxable income after subtracting capital gains; the lower of the two is the deduction you report on Form 1040 via Form 8995 or 8995-A.
Illustrative Example: Section 199A in Action
Picture a California-based sole proprietor who runs “Golden Coast Digital,” an online marketing agency. In 2025, she nets $150,000 of qualified business income (QBI) after deducting all ordinary expenses but before paying herself. She has no capital-gain income, claims the standard deduction, and files as a single taxpayer.
Calculate the tentative deduction.
20 percent × $150,000 QBI = $30,000.
Check the taxable-income ceiling.
Her taxable income after the standard deduction is $135,000. Twenty percent of that figure is $27,000, which is lower than the tentative $30,000.→ Allowed Section 199A deduction: $27,000.
What it saves her.
The $27,000 write-off reduces her federal taxable income to $108,000, resulting in a reduction of roughly $8,100 in federal income tax at the 24 percent bracket. If she expects her QBI to grow next year, she might elect S-corp status so future W-2 wages will help her stay within the wage limit once she surpasses the $197,300 single-filer phase-out threshold.
Who Can Claim It in 2025
Virtually all domestic trades or businesses qualify, except for C corporations and employees. However, Specified Service Trades or Businesses (SSTBs)—think health, law, accounting, consulting, athletics, and financial services—lose the deduction once taxable income climbs above the phase-out ceiling. Non-service businesses also face caps but can still claim a partial benefit at higher incomes if they meet the wage-and-property tests discussed below [2].
Key Income Thresholds for 2025
For returns filed next April, the phase-out begins when taxable income exceeds $197,300 for single or head-of-household filers and $394,600 for married couples filing jointly. The deduction fully phases out for SSTBs with incomes of $50,000 (single) or $100,000 (joint) above those amounts. At the same breakpoints, non-SSTBs become subject to the wage-and-property limitation described in §199A(b)(2) [3].
The Wage-and-Property Cap Explained
Above the threshold, your 199A deduction is limited to the greater of (a) 50 percent of the W-2 wages your entity pays or (b) 25 percent of those wages plus 2.5 percent of the unadjusted basis of qualified depreciable property. This rule encourages owners to pay reasonable wages and to place income-producing assets—especially real estate or equipment—inside the same entity that earns the revenue.
Strategies for Service Businesses Near the Line
If you operate an SSTB and expect to brush against the ceiling, year-end moves can preserve the break. Common tactics include deferring client billings to January, accelerating deductible expenses, increasing retirement plan contributions, or splitting income with a spouse employed by the firm, so long as compensation is reasonable under §162. Keeping reported taxable income inside the safe zone is the only way an SSTB retains the full 20 percent write-off.
Planning Around the Wage Test for Asset-Light Firms
Rental real estate investors, online sellers, and consultants with minimal payroll often satisfy the alternative “25 percent wages + 2.5 percent property” test by buying and holding depreciable assets within the same entity. For example, a landlord with $300,000 of QBI, no employees, and a $2 million unadjusted cost basis in buildings can unlock a $15,000 deduction, even without payroll. This is achieved by applying a 25 percent deduction to $0 in wages, plus a 2.5 percent deduction to the $2 million basis, which equals $50,000, exceeding 20 percent of the QBI. Detailed fixed-asset records and cost-segregation studies often increase the available basis and the deduction.
What the One Big Beautiful Bill Act Changed
Signed July 4, 2025, the One Big Beautiful Bill Act (OBBBA) makes §199A permanent by repealing its original 2026 sunset. The new law widens the phase-in range beginning in 2026—from $50,000 to $75,000 for single filers and from $100,000 to $150,000 for joint filers—and guarantees a minimum $400 deduction (indexed) for owners with at least $1,000 of active QBI. Crucially, none of these tweaks affect 2025 returns; the familiar thresholds and wage tests still govern this filing season [4].
Action Steps for the 2025 Tax Year
Project your year-end taxable income now. If you are trending above the threshold, consider: raising W-2 wages to meet the 50 percent test; purchasing depreciable assets before December 31 to boost the basis cap; bunching deductible expenses; or making retirement plan contributions that lower taxable income. Update bookkeeping so every revenue line and expense is clearly tied to a specific trade or business—Form 8995 demands it.
Looking Beyond 2025
Because the deduction is now permanent and the phase-out ranges widen next year, multi-year tax modeling matters more than ever. For some owners, shifting income or deductions into 2026 may result in a greater overall benefit. Others may revisit their entity structure, electing S-corp status to generate W-2 wages or forming qualified real estate ventures that meet the safe harbor requirements. Expect new IRS regulations and a revised Form 8995 to reflect OBBBA changes; stay alert for those drafts later this year.
Call to Action
Want a personalized roadmap to capture every dollar of the 199A break? Reach out to Westlight Wealth today and let us translate these complex rules into real tax savings for your business.
Gustaf Rounick CFP®
Disclosure
Westlight Wealth is a registered investment advisor. This material is for educational purposes only and should not be construed as individualized tax, legal, or investment advice. Consult your tax professional for guidance on your specific circumstances.
Works Cited
[4] https://engagecpas.com/blog/your-complete-guide-to-the-one-big-beautiful-bill-act-2025-tax-law-changes-from-business-deductions-to-family-credits/
