Tax Reform Friday: I.R.C. § 199A Roundup—Does Your State Offer a Deduction?


States are continuing to issue guidance on conformity to changes made by the 2017 Tax Act (Pub. L. No. 115-97) as it nears its first birthday. While guidance on foreign income continues to be the most popular topic, states are also rolling out further instruction on I.R.C. § 199A, the qualified business income (QBI) deduction.

I.R.C. § 199A offers individual taxpayers a deduction from taxable income for income received from an interest in a partnership, S corporation, or sole proprietorship. However, it is worth emphasizing that I.R.C. § 199A is a deduction from federal taxable income. Most states use federal adjusted gross income (AGI) as their starting point and, as a result, the effect of I.R.C. § 199A will be minimal at the state level.

A number of states have issued affirmative guidance clarifying that they do not conform to I.R.C. § 199A, either as a result of starting with federal AGI in computing state taxable income, having static conformity for the I.R.C. prior to tax reform, or having a different method of calculating taxable income. These states include Alabama, the District of Columbia, Georgia, Hawaii, Kentucky, Maine, Montana, New Jersey, Oregon, Utah, Virginia, and Wisconsin.

South Carolina would have otherwise conformed to the I.R.C. § 199A deduction by virtue of beginning its computation with federal taxable income, but the state affirmatively decoupled with recent legislation.

As of today, three states fully conform to the QBI deduction: Colorado, Idaho, and North Dakota. Colorado and North Dakota begin the computation of state taxable income with federal taxable income and automatically incorporate federal changes through rolling conformity with the I.R.C. Idaho also begins with federal taxable income and recently updated its conformity date to Feb. 9, 2018, incorporating the 2017 tax act changes. The Legislature chose not to specifically decouple from I.R.C. § 199A, therefore Idaho will allow the deduction.

The only state that allows a partial deduction is Iowa. For tax years beginning on or after Jan. 1, 2019, Iowa requires taxpayers to add back a percentage of the QBI deduction taken in computing federal taxable income. The add back is 75 percent for tax years beginning in 2019 and 2020, 50 percent for tax years beginning in 2021, and 25 percent for tax years beginning in 2022 or later.

Continue the discussion on Bloomberg Tax’s State Tax Group on LinkedIn: Should states make the I.R.C. § 199A QBI deduction available to individual taxpayers?

For more information on the impact of Pub. L. No. 115-97, examine Bloomberg Tax’s Tax Reform Roadmap, showing detailed comparisons between pre-reform law and impending changes, with pertinent cites attached.

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