Protecting wealth takes center stage for affluent owners facing intensified IRS oversight. For high-net-worth (HNW) business owners with pass-through income exceeding $5 million annually, Section 199A, the Qualified Business Income (QBI) deduction, may offer tax-saving opportunities, subject to complex compliance requirements. Thorough documentation strategies may help support these deductions during IRS reviews, aligning with your financial goals. Potential benefits include reduced taxable income; key risks include IRS audits, documentation errors, and regulatory changes. Outcomes depend on individual circumstances.
Understanding Section 199A for HNW Business Owners
Introduced under the 2017 Tax Cuts and Jobs Act, Section 199A allows owners of pass-through entities—such as S corporations, LLCs, and partnerships—to potentially deduct up to 20% of their QBI, subject to IRS eligibility rules. For incomes above $5 million, limitations apply based on business type, wages paid, and depreciable assets. According to IRS data, pass-through entities with income above $5 million face a higher audit rate (approximately 10%) compared to lower-income businesses (2%). Potential benefits include tax savings; key risks include audit scrutiny, ineligibility for certain businesses, and documentation challenges. Past performance does not predict future results.
Why Audit-Proofing Matters for HNW Owners
HNW business owners often manage complex portfolios, including income from businesses, real estate, and private equity. The IRS may scrutinize Section 199A claims for errors in QBI calculations or improper business classifications, such as “specified service trades or businesses” (SSTBs). Inadequate documentation could lead to disallowed deductions, penalties, or interest. A proactive, client-centric approach, tailored to your financial situation and risk tolerance, may support compliance and align with wealth preservation objectives.
Strategies to Support Section 199A Deductions
A disciplined approach may help address Section 199A compliance. Consultation with tax advisors is recommended, as outcomes are not guaranteed:
- Accurate QBI Classification (Months 1-3): Identify eligible QBI, excluding non-business income like investment dividends. For example, a real estate LLC with $6 million in income must separate QBI from non-qualifying sources. Detailed ledgers may support compliance, but errors could trigger audits.
- Wage and Asset Analysis (Months 4-6): For incomes above $5 million, deductions may be limited to 50% of W-2 wages or 25% of wages plus 2.5% of qualified property’s unadjusted basis. Document payroll and depreciation schedules using tools like QuickBooks or SAP. Inaccurate records may jeopardize deductions.
- SSTB Evaluation (Months 7-9): If classified as an SSTB (e.g., law, consulting), deductions may phase out at high income levels. Explore restructuring options, such as separating non-SSTB activities, but feasibility depends on business structure and IRS rules.
- Audit-Proof Documentation (Months 10-12): Compile records, including profit-and-loss statements and third-party appraisals. Maintain contemporaneous notes on operations to create a digital audit trail. Incomplete documentation may increase audit risk.
- Ongoing Compliance and Review (Ongoing): Conduct quarterly reviews to align with IRS guidance. Simulate audit scenarios to identify vulnerabilities, ensuring compliance with evolving regulations.
Potential benefits include tax efficiency and compliance; key risks include audit challenges, regulatory changes, and documentation costs. This is illustrative only and not a prediction of outcomes.
Hypothetical Example
Consider an HNW owner of a manufacturing S corporation with $8 million in pass-through income. By documenting QBI, wages, and assets, they may claim a Section 199A deduction, potentially reducing taxes, subject to IRS rules. Outcomes depend on compliance and business specifics. This example is for informational purposes only and does not constitute personalized advice.
A Word of Caution
Section 199A involves complex rules. Overclaiming deductions or inadequate documentation may lead to audits or penalties. As Warren Buffett noted, “Risk comes from not knowing what you’re doing.” Professional guidance is essential to align strategies with your needs. Potential conflicts of interest, such as affiliate relationships, will be disclosed upon engagement; alternatives considered include other tax strategies or forgoing deductions.
Clarity Roadmap®: Supporting Your Tax Strategy
At Nepsis, our Clarity Roadmap® offers a tailored approach to Section 199A planning for HNW business owners, focusing on compliance and documentation. We aim to align with your financial goals, but results depend on individual circumstances.
This is for informational purposes only and does not constitute personalized investment advice. Contact us to discuss your tax needs and explore strategies suited to your financial situation.
Advisory services offered through Nepsis, Inc., an SEC-registered investment adviser.