Married filing separately - sole proprietor business expenses and QBI

[separate899]

I am filing married filing separately and live in California where all of me sole proprietor income is considered community property.  The IRS says my spouse can claim half of the business expenses of my sole proprietorship. Do I enter half of the business expenses in Turbotax?  Or do I enter the full amount of business expenses and make an adjustment to community income?

According to the IRS, I am to take the full self-employment income tax and not split it with my spouse, is that correct?

Also, I am receiving a QBI deduction for my sole proprietorship. Do I get to take the full deduction?  Or do I need to split this with my spouse?  If so, how do I enter this in TurboTax?

[ThomasM125 · Accepted solution]

You enter all of your business income and expenses in TurboTax. When you are done entering your tax information and numbers, you will be asked to enter a number that will adjust your income to community income. Since you are splitting your business income with your spouse, you need to allocate half of the QBI deduction with your spouse as well.

You are correct, you should not spilt your self-employment tax with your spouse, since you are getting full credit for that with your retirement account maintained with the Social Security Administration.

[separate899]

Hi Thomas, I have a few more clarification questions:

- The business income I am splitting with my spouse and need to adjust on community income is the net business income (after expenses), correct?  I just wanted to make sure since I’m entering all of the expenses
- Would you happen to know if I need to split the self employment tax deduction too? Or can I take all of that since I’m paying the self-employment tax?

Thank you!!

[ThomasM125 · Accepted solution]

Yes, you would be splitting the net business income, as it will be combined with your non-business income to arrive at your taxable income. Since you are not splitting the self-employment tax, you would not have to split the self-employment tax deduction either.

[Alik]

I have a similar situation, also in California, and another poster claimed that that me and my spouse would no longer use Sch. C when splitting the sole proprietor but instead now have to treat it as a partnership and use form 1065. Does that sound right?
Thread link: https://ttlc.intuit.com/community/business-taxes/discussion/re-do-i-divide-sch-c-inventory-and-how-m...

[RpArp]

But, is it true that to calculate the taxes for the sole prop in california that you cannot claim 100% of the business expenses and that you only claim 1/2 and the spouse claims 1/2 even though it is a sole prop?  I thought it was based on NET income of the business and the business claims the entire write off/expense. 

[DaveF1006]

No that's not quite right. After the spouse complete their business return reporting income and expenses, you would need to split the net income/loss 50/50. According to IRS.gov: you must report your community income and separate income if you file Married Filing Separately.

Community income

1. Generally, community income is income from:
2. Community property;
3. Salaries, wages, and other pay received for the services performed by you, your spouse (or your registered domestic partner), or both during your marriage (or registered domestic partnership) while domiciled in a community property state; and 
4. Real estate that is treated as community property under the laws of the state where the property is located.

Generally, income from separate property is the separate income of the spouse (or the registered domestic partner) who owns the property. Separate property consists of:

1. Property that you or your spouse (or your registered domestic partner) owned separately before your marriage (or registered domestic partnership);
2. Money earned while domiciled in a noncommunity property state;
3. Property that you or your spouse (or your registered domestic partner) received separately as a gift or inheritance during your marriage (or registered domestic partnership);
4. Property that you or your spouse (or your registered domestic partner) bought with separate funds, or acquired in exchange for separate property, during your marriage (or registered domestic partnership);
5. Property that you and your spouse (or your registered domestic partner) converted from community property to separate property through an agreement valid under state law; and The part of property bought with separate funds, if part was bought with community funds and part with separate funds.

This may be a little more detail than you have intended to receive but hopefully this information was helpful.

@RpArp

[Alik]

it makes no explicit reference to a sole proprietorship business.
So again, is a Sole Proprietorship business operated by only one spouse in a  community property state treated as separate property or as wages-like (ie- community) income?

[Vanessa A]

Income from your sole proprietorship would be treated as wages, more specifically other income earned for services performed by you. 

[Alik]

I have same situation, but although I understand what I need to do, I can not find ANYWHERE on the actual tax forms where the SE tax is adjusted to 100% to the person who runs the business.
IRS rules are explicit that in community property state Sole Proprietor business income is split 50/50 for income tax purposes (Sch. C).
But it's also explicit that nevertheless SE tax is paid 100% by the person who actually runs the business.

Problem is Sch SE takes the income directly from Sc. C, so after it's already been split 50/50. And there is no place which I can find on any form where either the income for SE tax purposes nor simply the SE tax itself are adjusted back to the person who should pay the 100% of it.
Sc SE simply cuclutaes it based on that 50/50 split and then passes the info to 1040. Period.

[MonikaK1]

Enter the Schedule C information, income, and expenses, in the name of the spouse whose business is to be shown on the Schedule C. Self-Employment Tax is calculated on their net business income.

The community property split is a separate calculation. To find the interview for Federal Community Property Income, Form 8958, try the steps in this help article.

List on the community property income worksheet the net profit from the business along with other community property income. Allocate half of the community property income to each spouse. The worksheet will show how much to add to or subtract from each spouse's income on their separate returns.

When you live in a community property state and file separate returns, you generally each must report 50 percent of your spouse's income and half of the income generated by community assets, plus all of your separate income. The IRS has an allocation worksheet to simplify your calculations in Publication 555 Community Property. You also have to decide who will claim dependent children.

The Internal Revenue Service (IRS) created Form 8958 to allow couples in community property states to correctly allocate income to each spouse that may not match what is reported to the IRS. The rules for the state returns may differ.

If you are filing a joint return, you don't need to do a community property split.

Please see this TurboTax tips article and this help article for more information.

[Alik]

Form 8958 simply tells IRS what you allcoated to whom. It does not calculate it or  anything. None of the information is transferred to any other schedule or form.
On the contrary, it gets it's info form the other forms. So it has no effect on the SE tax calculations.

[Alik]

For anyone else running into same problem:
I finally called IRS and spent 2 hours on the phone with a special department for assisting professional accountants, during which even the rep admitted she was stumped. But after consulting with her boss for a while, they finally pointed me to pages 8-9 of Pub. 555 which they interpret as saying that even in community property situation, if we kept the businesses completely separately, we do not have to allocate the income/loss 50/50. That it should all go to the person running the business - income atax and SE tax.

Total contradiction to all other info, but so long as I have some publications that seems to say that and record of the time/date and rep. number who instructed me to do so, I figured i'm in the clear. So that's how I did it.