There is a federal tax deduction worth up to 20% of your business income that a surprising number of small business owners either don’t know about or aren’t using to its full potential.
It’s called the Section 199A deduction, sometimes called the QBI deduction, and for pass-through businesses in Illinois and Missouri it can be one of the most valuable pieces of your tax picture.
Like most things in tax law, the full story has a few layers. The deduction is not automatic, and two owners with similar revenue can land in very different places depending on structure, income level, and business type.
What follows is how Section 199A QBI deduction works, where the traps are, and what you can still do before year-end.
The Section 199A Deduction Takes Up to 20% of Business Income Off Your Taxable Income
Section 199A of the Internal Revenue Code, introduced by the Tax Cuts and Jobs Act in 2017, allows owners of pass-through businesses to deduct up to 20% of their qualified business income (QBI) from their federal taxable income. If your business generates $200,000 in qualified income, that points toward a $40,000 reduction in the income you’re taxed on federally. Only points toward: the deduction is capped at 20% of your taxable income minus net capital gain, so the headline figure and the one on your return can differ.
QBI is your net profit from the business after deducting ordinary business expenses, basically what ends up flowing through to your personal return from a sole proprietorship, partnership, S-corporation, or LLC taxed as a pass-through. W-2 wages you pay yourself as an employee of your own S-corp do not count as QBI. That deduction comes off your taxable income, not your adjusted gross income, which means it reduces the base your federal income tax rate is applied to.
The deduction was set to expire after 2025 under the original TCJA timeline, but the One Big Beautiful Bill Act of 2025 (OBBBA) made it permanent, so planning around it is no longer a short-term question. OBBBA also added a floor beginning with the 2026 tax year: if you have at least $1,000 of qualified business income from an active trade or business, your deduction is at least $400.
Which Business Structures Qualify for the QBI Deduction?
Most pass-through business structures qualify, which covers the majority of small businesses in Illinois and Missouri. Sole proprietorships (Schedule C filers), partnerships, S-corporations, and LLCs taxed as any of those three are all eligible. C-corporations do not qualify because they pay corporate-level tax and don’t pass income through to the owner’s personal return.
If you’re running a single-member LLC and filing Schedule C, you’re already in the pass-through bucket. Same goes for the business owner who elected S-corp status to manage self-employment taxes. Rental income from a rental real estate enterprise can also qualify, though the rules there are specific enough to be their own conversation. The common thread is that income flows through to you personally and gets reported on your Form 1040.
One thing to check: business income held through a trust or estate can qualify in some situations, but the rules differ from individual ownership. If your interest runs through a trust structure, that’s a detail worth walking through specifically, and it’s the sort of question our business tax planning work exists to answer.
Income Limits Determine How Much of the Deduction You Actually Get
For 2026, the wage, property, and service-business limits stay out of the picture entirely if your total taxable income is below $201,750 for single filers or $403,500 for married couples filing jointly. Below those thresholds, you take 20% of your QBI, subject only to the overall cap of 20% of taxable income minus net capital gain. Above them, it gets more involved depending on what kind of business you run.
Once you’re above the threshold, two additional limits can reduce your deduction: a W-2 wage limitation and a limitation based on the unadjusted basis of qualified property your business owns. The W-2 wage test looks at either 50% of the W-2 wages your business pays to employees, or 25% of wages plus 2.5% of the unadjusted basis of qualified property, whichever is higher. Your deduction is then capped at whichever of those calculations produces the lower number.
A business owner with few employees and limited property can see their deduction cut sharply above the income threshold, and a service business with no employees and no real equipment is most at risk. If that describes your setup, model it before year-end rather than discovering it on April 14.
Does the QBI Deduction Apply to your Illinois or Missouri State Return?
Partly, and the Missouri half is where owners get caught out. Neither state conforms to federal Section 199A itself, so the deduction you take on your federal return does not carry over to your state return. Illinois leaves it there. Missouri does not, because it has a separate 20% business income deduction of its own.
Illinois taxes individual income at a flat 4.95% and starts from your federal adjusted gross income. Because Section 199A is deducted below that line, it never reduces the Illinois base, and Illinois offers no comparable subtraction. Missouri, at a graduated rate topping out at 4.7%, allows a subtraction equal to 20% of Missouri-source business income on Form MO-A. That Missouri deduction is not Section 199A: the base is Missouri-source net profit from Schedules C, E, and F, positive income only, with no service-business test and no W-2 wage test. An Illinois owner is looking at federal savings only, while a Missouri owner gets a state-level break as well, calculated separately.
This state and federal split is why we run the full-picture calculation with clients rather than the federal deduction in isolation. What you owe across both returns is the only version of the number that matters.
Specified Service Businesses Face the Steepest Phase-Out Risk
The IRS has a specific category called a Specified Service Trade or Business (SSTB), which covers certain professional service fields: health, law, accounting, financial services, consulting, performing arts, athletics, and a handful of others. If your business falls into one of those categories, the QBI deduction phases out entirely once your income exceeds the threshold by $75,000 for single filers or $150,000 for married filers.
In other words, an accountant, attorney, or financial consultant with 2026 taxable income above $276,750 (single) or $553,500 (married) gets no Section 199A deduction at all. A business owner who lands inside that range keeps a partial deduction, reduced by the percentage of the way their income has travelled through the range rather than dollar for dollar.
Non-SSTB businesses like manufacturing, retail, construction, and the trades keep their deduction above the threshold, subject only to the W-2 wage and qualified property limits. Classification matters in real dollars.
How Do W-2 Wages Factor Into the QBI Calculation Above the Income Threshold?
For non-SSTB owners above the income threshold, the W-2 wage test decides whether you get the full 20% or something less.
The two alternatives are 50% of the W-2 wages your business paid during the year, or 25% of those wages plus 2.5% of the unadjusted basis of qualified depreciable property, and your deduction is capped by whichever produces the higher number. If your business pays no W-2 wages at all, a solo operator with no employees being the obvious case, both alternatives produce zero and the deduction disappears above the income threshold.
Let’s look at an example of something we’ve seen play out with clients: a single filer running a sole proprietorship with $300,000 in QBI and no employees. Taxable income that far above the top of the phase-in range, with no W-2 wages to show, means both alternative calculations produce zero, and the deduction goes away. Electing S-corp status and putting a reasonable $60,000 salary on payroll changes that, because $30,000 now sits in the 50%-of-wages column. The salary and its payroll costs also reduce the business’s QBI, so it is a trade rather than a free addition, and whether it nets out in your favor comes down to running the real numbers.
Year-round Planning Decides How Much of the Section 199A Deduction you keep
The Section 199A deduction is not something you optimize in March. The levers that matter, like your entity structure, how much you pay yourself in W-2 wages, your retirement contributions (which reduce QBI), and whether you’re approaching the income threshold, all get set during the year when there’s still time to move them.
Deductible retirement plan contributions attributable to the business, through a Solo 401(k), SEP-IRA, or SIMPLE IRA, reduce your QBI, which lowers the deduction slightly but also reduces your overall taxable income. Whether that tradeoff works in your favor depends on your specific numbers. Similarly, the decision between taking a distribution versus a W-2 salary from your S-corp has a direct impact on both the W-2 wage test and your self-employment tax exposure, so those two conversations belong together.
The owners who get the most out of Section 199A tend to have these conversations in the summer or fall, when there’s still runway to make adjustments. The ones who get the least tend to find out about the deduction when they’re reviewing a completed return and asking why the number looks the way it does. Year-round accounting gives you something a once-a-year filing appointment can’t: the chance to actually use the information.
If you have questions about how the QBI deduction applies to your business, or you want to run through the numbers before year-end, we’d be happy to sit down and walk through it with you.
Reach out to Thompson Flaherty and let’s take a look at your situation together.
Until next time.
