Tax Advice for Independent Financial Advisors

Financial advisors are compensated differently depending on how their business is structured. There are W2 employee advisors, 1099 self-employed advisors, and those that own their own firms or are partners in one. Like other small business owners, financial advisors are looking to maximize revenue and minimize expenses and taxes.

When it comes to tax deductions, W2 employee advisors don’t really have many options, since the Tax Cuts and Jobs Act got rid of the unreimbursed employee expense deduction. However, W2 employee advisors may still be able to deduct some unreimbursed employee expenses on their state income tax returns, subject to limitations.

On the other hand, advisors who are considered self-employed, such as those that receive a 1099 from the registered independent advisor firm or broker-dealer that they’re affiliated with, or those that own their own firms or are partners in one, have many more options when it comes to tax deductions.

Whether considered a sole proprietor or set up as an LLC, C corporation, partnership or S corporation, there are many business deductions that advisors can take advantage of, some of which are available to all business owners and some that are unique to their business.

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Common Tax Deductions for Financial Advisors

A financial advisor who is an independent contractor and receives a 1099 from an RIA firm or a broker-dealer is considered self-employed and files a Schedule C form to report a profit or loss from business with their individual tax return. An owner or partner of an RIA files a return for the business — Form 1120 for a C corporation, 1120-S for an S corporation, and a 1065 for a partnership — and an individual return where income paid by the business to the individual advisor is reported.

In addition to common deductions available to all small business owners, such as rent, utilities, marketing and advertising, phones, salaries, employee benefits, etc., financial advisors may be able to deduct expenses unique to their business. Below are some of the most common deductions unique to financial advisors:

— Financial planning software.

— Risk tolerance software.

— CRM (client relationship management) software.

— Errors and omissions insurance.

— FINRA and SEC fees.

— Broker-dealer fees.

— License renewal fees.

— Continuing-education fees.

— The cost of obtaining a certification, like the CFP designation.

— Costs to attend conferences.

— Association membership dues.

What Advisors Need to Know About Self-Employment Taxes

Self-employment taxes are separate from income taxes and are a combination of Social Security and Medicare taxes. The self-employment tax rate is a combined total of 15.3%. It is composed of 12.4% for Social Security and 2.9% for Medicare.

A W2 employee pays half of this amount in payroll taxes, while the employer pays for the other half. However, individuals with self-employment income have to pay both halves for a total of 15.3% on their net self-employment earnings. For tax year 2021, the maximum amount subject to the Social Security portion of the tax is $142,800, and it is $147,000 for tax year 2022. All of your income is subject to Medicare tax, with an additional 0.9% for those with income above $200,000 if a single filer, and $250,000 if married filing jointly.

Advisors can be set up under a wide range of entity structures. C corporations, which are usually larger, are subject to “double taxation” since they pay corporate taxes on their profits and then individual shareholders pay taxes on the dividends received by the corporation. Typically, smaller firms are set up as “pass-through” entities, which are not subject to corporate tax, and instead the share of profits is allocated to the individual owners or members. Examples of pass-through entities are sole proprietorships, partnerships, limited liability companies and S corporations.

How an S Corporation Can Help Advisors Reduce Self-Employment Taxes

S corporations give advisors an opportunity to save on self-employment taxes. Provided that they pay themselves what the IRS considers a reasonable salary, distributions from S corporations are not subject to self-employment taxes. LLCs can elect to be taxed as S corporations.

Here is an example of how an advisor can save on self-employment taxes if set up as an S corporation:

Let’s say an advisor has net income of $100,000 after all expenses. If the advisor is a sole proprietor, a general partner of an LLC or limited partner with guaranteed payments, or a single-member LLC, the entire $100,000 is subject to the 15.3% self-employment tax.

In the same example as above, if the financial advisor is set up as an S corporation and pays themselves a reasonable salary, only the salary portion is subject to self-employment taxes, while the profit is not. For example, if the advisor paid themselves a salary of $75,000 and had a profit distribution of $25,000, that would result in a savings of $3,825 since the 15.3% would not apply to the profit portion.

To determine whether it makes sense to elect to be taxed as an S corporation, advisors should take into consideration the legal and tax preparation costs. There is also more room for scrutiny from the IRS if a salary is not considered reasonable, like paying yourself $20,000 salary and having an $80,000 distribution in the example above.

Qualified Business Income Deduction for Financial Advisors

The Tax Cuts and Jobs Act, or TCJA, created the qualified business income, or QBI, deduction. This deduction is also known as the Section 199A deduction. Advisors may be familiar with the deduction when providing their clients a copy of their 1099 combined statement if they have any dividends from real estate investment trusts or qualified publicly traded partnerships. However, the deduction can also benefit financial advisors themselves on their tax returns.

The deduction allows individuals to deduct up to 20% of QBI beginning with tax year 2018. The TCJA is currently set to expire in 2025, unless Congress extends it or makes it permanent. The IRS defines QBI as “the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business, including from partnerships, S corporations, sole proprietorships, and certain trusts.”

The QBI deduction is subject to limitations, depending on the individual’s taxable income, type of trade or business, the amount of W2 wages paid and any unadjusted basis immediately after acquisition of qualified property that is held by the trade or business.

Financial advisors are considered a specified services trade or business and are therefore subject to limitations of the QBI deduction after certain income levels. For 2021, advisors married filing jointly are subject to the phaseout beginning with income of $329,800, or $164,900 for single filers. These phaseouts are based on taxable income, not only business income but rather taxable income in total, so a married advisor who has taxable income under the threshold whose combined income with their spouse exceeds the threshold amounts will be subject to the limitation.

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Tax Advice for Independent Financial Advisors originally appeared on

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