Debate: Should Congress Cap the Pass-Through Tax Deduction for Businesses?

Our two tax experts discuss how changing the QBI deduction rules could affect small businesses.

The 2017 tax overhaul significantly reformed the tax rules governing pass-through entities, including partnerships and sole proprietors. These small business reforms allow business owners to deduct up to 20% of qualified business income (QBI), subject to certain restrictions.

However, there is currently no limit on the amount of the deduction that could be allowed. Proposals would cap the value of the deduction that could be taken at $500,000 for joint returns, $250,000 for married taxpayers filing separately, $10,000 for trusts and $400,000 for other filers.

We asked two professors and authors of ALM’s Tax Facts with opposing political viewpoints to share their opinions about proposals to reform the tax rules applicable to pass-through entities by limiting the value of the QBI deduction.

Below is a summary of the debate that ensued between the two professors.

Their Votes:

Bloink
Byrnes

Their Reasons:

Bloink: The current system does little more than pad the pockets of the wealthiest American business owners. We should reform the current Section 199A deduction rules to benefit the taxpayers it was intended to benefit — small-business owners who aren’t raking in millions of dollars in profits each year. Changing the law to eliminate some of the complexities that also make it difficult for small business owners to know whether they’re getting it right is also a step in the right direction.

Byrnes: These proposed reforms will never become law. The Section 199A deduction is designed to reduce some of the disparity in the tax treatment of a corporation versus the tax treatment of a pass-through entity. It isn’t meant to provide a benefit only for small business owners, but to offer a benefit for all business owners who organize as pass-through entities.

Bloink: The QBI deduction gives the richest Americans yet another tax benefit. We have to be taking steps to ensure that all Americans pay their fair share. That includes wealthy taxpayers who can afford to run their income through a pass-through entity.

Byrnes: Putting an income cap on the amount of the pass-through deduction would only give business owners a perverse incentive to adopt business structures based on issues that may not be in the businesses‘ best interest. Democrats who think we’re going to raise revenue by capping the 199A deduction are kidding themselves. Larger pass-through businesses will simply organize as traditional corporations and take advantage of the reduced corporate rates.

Bloink: The limits and phaseouts that currently apply in the 199A deduction context are overly complex and make it extremely difficult for taxpayers to calculate their deduction. Simply capping the deduction at a round number would both simplify the tax code and ensure that the deduction is geared toward providing the greatest benefits to the small businesses that it was designed to help.

Byrnes: I’m all in favor of simplifying the tax code. This is not the way to simplify 199A. These proposals would have one impact: They would give the largest pass-through entities an incentive to organize as C corporations, which may not always be the smartest option. Business owners should be incentivized to opt for the business structure that best meets the needs of the business — not the structure that simply gives them the lowest tax rate.

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