At first glance, the computation of total W-2 wages under Sec. 199A appears daunting because three possible methods are available. But before determining which method to use, practitioners must understand the meaning of "total W-2 wages." Regs. Sec. 1.199A-1(b)(16) provides that W-2 wages "means W-2 wages of a trade or business (or aggregated trade or business) properly allocable to [qualified business income] as determined under [Regs. Sec.] 1.199A-2(b)." The regulations explain:
Thus, the term W-2 wages includes the total amount of wages as defined in section 3401(a) plus the total amount of elective deferrals (within the meaning of section 402(g)(3)), the compensation deferred under section 457, and the amount of designated Roth contributions (as defined in section 402A). [Regs. Sec. 1.199A-2(b)(2)(i)]
Wages paid to statutory employees (on Forms W-2, Wage and Tax Statement, where "Statutory Employee" is checked in box 13) should not be included in calculating W-2 wages. Further, the taxpayer includes only those Forms W-2 that are for the calendar year ending with or within the tax year. So, for example, an S corporation with a tax year ending Sept. 30, 2018, would be required to include in its total wage computation for purposes of the W-2 wage limitation those forms filed for the calendar year ending Dec. 31, 2017.
When a taxpayer has a short tax year, the general rule that taxpayers include only the W-2 wages for the calendar year ending with or within the tax year does not apply. Instead, W-2 wages for the short tax year include only those wages actually paid, elective deferrals actually made, and compensation actually deferred under Sec. 457 during the short tax year for the taxpayer's employees for employment by the taxpayer. Using the tracking-wages method for computing total W-2 wages is mandatory for a taxpayer with a short tax year.
Qualified W-2 wages for purposes of Sec. 199A must have been filed on Form W-2 with the Social Security Administration within 60 days after the due date for that filing and must be with respect to employees of the taxpayer for employment by the taxpayer. A taxpayer may include any W-2 wages paid by another person and reported by the other person on Forms W-2 with the other person as the employer listed in box c of the Forms W-2, provided that the W-2 wages were paid to common law employees or officers of the taxpayer for employment by the taxpayer. In those cases, the person paying the W-2 wages and reporting the W-2 wages on Forms W-2 must exclude those W-2 wages from the computation of its own Sec. 199A attributes.
As pointed out in Rev. Proc. 2019-11, there is a correlation between Form W-2 codes and those amounts potentially includible as W-2 wages. The revenue procedure notes that elective deferrals under Sec. 402(g)(3) and the amounts deferred under Sec. 457 correlate to box 12, codes D (elective deferrals under Sec. 401(k), including a SIMPLE 401(k)); E (elective deferrals under Sec. 403(b)); F (elective deferrals under Sec. 408(k)(6) for a SEP); G (elective deferrals in a Sec. 457 plan); and S (an employee salary reduction in a Sec. 408(p) SIMPLE plan). Designated Roth contributions are reported in box 12, codes AA and BB; however, since these are also included in box 1, "Wages, Tips, and Other Compensation," one will not find separate mention of these codes' inclusion in any of the three prescribed methods for calculating total wages. Essentially, only deferrals that currently reduce federal income tax withholding require adjustment. Since Roth contributions are always current wages subject to federal income tax withholding, they do not require adjustment.
For a detailed discussion of the issues in this area, see "Tax Clinic: Computing Qualified W-2 Wages for Sec. 199A Purposes" in the May 2019 issue of The Tax Adviser.
― Andrew J. Kramer, CPA
The Tax Adviser is the AICPA's monthly journal of tax planning, trends, and techniques.
Also in the May issue:
- An in-depth look at qualified opportunity zones.
- An analysis of the impact of Sec. 199A on the substantial-understatement penalty.
- A discussion of the new due-diligence standards for head-of-household filing status.
AICPA members can subscribe to The Tax Adviser for a discounted price of $85 per year. Tax Section membership includes a one-year subscription to the The Tax Adviser.
