Are you self-employed? Do you earn extra income by doing a side gig? Are you a small-business owner? Do you get paid in cash for your work?
More and more Americans are working for themselves, whether it be part-time or full-time, in the gig economy, as freelancers, or as small business owners. If you’re one of them, it’s important to know about the tax deductions available to you through the IRS that can save you big on your taxes.
In this guide, we’re going to focus on one key deduction that could end up saving you quite a bit come tax time—the qualified business income (QBI) deduction.
Keep reading to discover the tax-saving potential of the QBI deduction, which could get you a bigger refund. Our guide breaks down eligibility and calculation methods for self-employed people and small-business owners.
Qualified business income deduction: Do you qualify?
The QBI deduction is for you if you’re a small-business owner, or self-employed, allowing you to deduct up to 20% of your QBI from your taxes. This includes people who have “pass-through” income, which is business income that you report on a personal tax return.
Continue reading to find out about how to qualify and the various income thresholds for 2023.
Are you self-employed?
Before we delve into the details about QBI, let’s explore some of the ins and outs of what it means to be self-employed.
Self-employment simply refers to earning an income on your own, rather than through traditional employment. While being self-employed gives you more control over your work, it also means you are solely responsible for your own tax obligations.
You can be self-employed in many ways, including:
- Gig economy work. Engaging in the gig economy means taking on short-term tasks or jobs, often through apps or online platforms. Whether you're driving for a ride-share service or delivering groceries, you can fit this work around your schedule.
- E-commerce. You can run an online store, selling products that you're passionate about, or sell your products through an online marketplace. This could range from handcrafted items to vintage collectibles.
- Arts and crafts. As an artist or craftsperson, you create and sell your work, whether that's from a booth at an art show or farmers market, or online through your own website or Esty.
- Freelancing involves using your unique skills to tackle projects that interest you, from writing content to designing websites. As a freelancer, you have the freedom to choose your clients and projects while managing your own schedule.
- Consulting. If you're an expert in a particular area, consulting allows you to advise businesses that can benefit from your knowledge. You set the terms and have the flexibility to work with multiple clients or focus on specific projects.
- Independent contracting. As a contractor, you work independently on a contractual basis, offering your services in areas like construction, IT, or creative work. You enjoy a high degree of independence, choosing when and where you want to work.
- Small business ownership. As a small business owner, you oversee all aspects of running your store, café, office, or service-based business, from concept to customer service.
It's worth noting that even if you don't see yourself as self-employed or a small-business owner, you might still need to meet the tax obligations that come with it. This includes anyone who has been paid for their work through a third-party payment network, like Venmo, PayPal, or Cash App.
And let's not forget under-the-table cash payments that tend to fly under the radar—yes, those count too. Every dollar, whether it’s passed through a digital app or was handed over as cash, counts towards your income.
It's all part of the self-employment income spectrum, and it’s important to report it.
When you're self-employed, whether that's as a freelancer, a contractor, part of the gig economy, or a small business owner, the way you handle your taxes is different from those who work as traditional employees for a company. There are certain tax deductions you can take advantage of, such as the QBI deduction, which may help reduce the amount of tax you owe, potentially saving you money.
What is qualified business income?
The IRS defines QBI as “the net amount from qualified items of income, gain, deduction, and loss from any qualified trade or business, including income from partnerships, S corporations, sole proprietorships, and certain trusts.”
For those who do not speak IRS, that essentially means your net income from eligible business activities. This includes what you make from businesses you own, as well as some money from trusts. But it excludes W-2 income, capital gains and losses, income you’ve earned outside of the U.S., dividends, and income from interest (more on that below).
The QBI deduction allows you to deduct up to 20% of your qualified business income on your taxes, and it’s one of the most common tax write-offs for self-employed workers.
The QBI deduction in 2023
For tax year 2023 (filed in 2024), you qualify for the QBI deduction if you are self-employed and your taxable income falls below $182,100 for individuals, or $364,200 for joint returns, as well as certain taxpayers with higher business income.
If your taxable income is greater than $182,100, or $364,200 if filing a joint return, you may still be eligible for the deduction. It depends on the type of self-employment income you have, among other factors. And of course, above and beyond the QBI, if you're self-employed, you have many other deductions. See your Tax Pro for help if you are in this situation.
Who qualifies for the QBI deduction?
If you earn money from self-employment or run a small business, you might be able to reduce your taxes with the QBI deduction. If you qualify, it's available to you whether you itemize deductions on Schedule A or choose the standard deduction.
You can claim the deduction for tax years starting after December 31, 2017, and ending on or before December 31, 2025.
Does the QBI deduction reduce self-employment tax?
No, the QBI deduction won't change the amount you owe for self-employment tax, nor does it affect the adjustment to income for one-half the self-employment tax.
However, it does impact your income taxes. If you claim the QBI deduction, it decreases your taxable income, which means you could get a bigger refund, or at the very least, pay less in income taxes.
How to calculate the QBI deduction
It's always a smart idea to get help from a Tax Pro in your area when figuring out the QBI deduction and for any tax questions you have. In simple terms, this deduction generally lets you reduce your taxes by 20% of your qualified business income if you're a sole proprietor, or if you're part of a partnership, S corporation, trust, or estate that operates in the U.S.
However, there are some rules that might limit this deduction based on your total taxable income. These rules look at things like the kind of business you're in, how much you pay your employees, and the value of your business property when you first got it. Additionally, if you're involved with an agricultural or horticultural cooperative, this could also affect the amount of your deduction.
What isn’t included with QBI?
A Tax Pro can give you advice tailored to your situation, but in general, QBI does not include:
- Money that shouldn't be included in your taxable income.
- Profits or losses from investments, like when you sell stocks for more or less than you paid.
- Interest earned that doesn’t have anything to do with your business.
- Salary that you earn as an employee.
- Income from business activities that aren't carried out in the United States.
- Profits or losses from trading commodities or in foreign currency.
- Certain types of dividends and substitute dividend payments.
- Earnings or losses from certain financial contracts based on an underlying value.
- Annuities, unless they are part of the earnings from your business.
- Payments considered a fair wage for work you did as an S corporation owner.
- Guaranteed payments for services you provided as a partner, not as part of the partnership's profits.
- Payments to a partner for services that aren't related to being a partner in the business.
- Dividends from real estate investment trusts (REITs) that are considered qualified.
Is rental income considered QBI?
We often get questions surrounding rental income and QBI. There's a set of rules—known as a safe harbor—that lets you do this if you meet certain conditions. This means that the IRS will allow you to treat your rental income as business income, which could qualify for the QBI deduction. A Tax Pro can help you understand and meet these requirements to make sure you can take advantage of this deduction.
If you're an entrepreneur, self-employed, or part of the fast-growing gig economy in the United States, being aware of the tax deductions you could be eligible for can make tax time less daunting and give you a good reason to monitor your work-related expenses all year long.
Stay informed and stay on top of your taxes by finding an office near you. Our Tax Pros are happy to answer any questions you may have on QBI and other self-employment tax deductions.
