Key Takeaways
- Net profit = Gross receipts - COGS - Business expenses.
- QBI deduction (§199A) allows 20% deduction of qualified business income.
- QBI deduction is permanent (no longer expires).
- Tax Year 2024 QBI thresholds: $191,950 (Single) / $383,900 (MFJ).
- Business losses can offset other income (subject to EBL limits).
- EBL limits for Tax Year 2024: $305,000 (Single) / $610,000 (MFJ).
Calculating Net Profit/Loss
Why This Matters for the Exam
Net profit calculation is fundamental. The exam tests COGS, the QBI deduction, and loss limitations.
Expect at least 3-4 questions on net profit and QBI.
The Net Profit Formula
| Step | Calculation |
|---|---|
| Gross Receipts | All business income |
| - COGS | Beginning inventory + Purchases - Ending inventory |
| = Gross Profit | |
| - Business Expenses | Ordinary and necessary |
| = Net Profit | Line 31, Schedule C |
Cost of Goods Sold (COGS)
| Element | Description |
|---|---|
| Beginning inventory | Start of year |
| + Purchases | Goods acquired |
| - Ending inventory | End of year |
| = COGS | Cost of items sold |
Small Business Exception: Under $30M gross receipts can treat inventory as non-incidental materials and use cash method.
Qualified Business Income (QBI) Deduction (§199A)
The QBI deduction is one of the most powerful tax breaks for sole proprietors:
| Element | Tax Year 2024 |
|---|---|
| Deduction rate | 20% of QBI |
| Status | Permanent (no expiration) |
| Single threshold | $191,950 |
| MFJ threshold | $383,900 |
QBI Defined
| Included in QBI | Not Included |
|---|---|
| Net trade/business income | Capital gains/losses |
| Rental income (if trade/business) | Dividends |
| Schedule C net profit | Investment interest |
| Guaranteed payments | |
| W-2 wages |
QBI Deduction Calculation
| Taxable Income | Calculation |
|---|---|
| Below threshold | 20% of QBI (simple) |
| Above threshold | W-2 wage/UBIA limits apply |
| SSTB | Phase-out for specified service trades |
W-2 Wage Limitation (Above Threshold)
For taxpayers above threshold, QBI deduction is limited to the greater of:
| Test | Calculation |
|---|---|
| 50% W-2 wages | 50% × W-2 wages paid |
| 25%/2.5% test | 25% of W-2 wages + 2.5% of UBIA |
Business Losses
| Rule | Description |
|---|---|
| General | Can offset other income (W-2, etc.) |
| Not like capital losses | No $3,000 limit |
| EBL limitation | Excess Business Loss rules |
Excess Business Loss (EBL) Limitation
For Tax Year 2024:
| Filing Status | EBL Limit |
|---|---|
| Single | $305,000 |
| MFJ | $610,000 |
| Excess | Carried forward as NOL |
Net Profit Example
| Item | Amount |
|---|---|
| Gross Receipts | $100,000 |
| COGS | ($40,000) |
| Gross Profit | $60,000 |
| Business Expenses | ($20,000) |
| Net Profit | $40,000 |
| QBI Deduction (20%) | ($8,000) |
Real-World Scenario
Scenario: Sole proprietor has $150,000 net profit. Taxable income is $140,000 (single). No employees.
- QBI: $150,000 (net profit).
- Below threshold: $140,000 < $191,950 → no wage limitation.
- QBI deduction: $150,000 × 20% = $30,000, but limited to 20% of taxable income = $28,000.
- Final QBI deduction: $28,000.
On the Exam
Expect 3-4 questions on net profit/QBI, typically:
- Calculation Questions: "What is net profit with these numbers?"
- QBI Questions: "What is the QBI deduction for this taxpayer?"
- Threshold Questions: "What are the QBI thresholds?"
- EBL Questions: "What happens to losses exceeding the EBL limit?"
The key is to remember: Net profit = Gross receipts - COGS - Expenses. QBI = 20% deduction. Tax Year 2024 thresholds: $191,950/$383,900. EBL limits: $305,000/$610,000.
Sole proprietor: $100k receipts, $40k COGS, $20k expenses. Net profit?
What is TRUE about the QBI deduction for Tax Year 2024?
Single taxpayer: $50k QBI, $45k taxable income. QBI deduction?