Grouping and Aggregation: Structuring for Tax Efficiency

The Qualified Business Income (QBI) deduction provides a valuable opportunity for owners of pass-through entities to reduce taxable income. At the same time, grouping and aggregation elections under the Internal Revenue Code offer essential tools for structuring how that income is calculated and reported.

These rules affect many businesses in the real estate, construction, and manufacturing sectors, where ownership structures often span multiple entities. Understanding how these elections interact can lead to more consistent reporting, stronger compliance, and, in many cases, a larger deduction.

Grouping allows taxpayers to treat two or more related activities as a single trade or business for tax purposes. The election is typically used to determine whether an owner participates in an activity materially and whether losses are passive or non-passive.

In practice, grouping means combining operations that form an “appropriate economic unit.” The IRS looks at common ownership, shared facilities or employees, and how financially interdependent the activities are.

For example, a business owner who holds several manufacturing sites under separate LLCs could group them if they operate under one management team and share supply-chain functions. Similarly, a real estate investor might group multiple rental properties managed through the same system.

Once a grouping election is made, it generally must remain in place in future years unless a significant change occurs. This consistency is important for sustaining eligibility for deductions and maintaining defensible reporting.

The QBI deduction, established under Section 199A, allows qualifying owners of pass-through entities to deduct up to 20% of their qualified business income. Eligible structures include sole proprietorships, partnerships, S corporations, and certain trusts and estates.

The deduction does not apply to wages, guaranteed payments, or investment income. For higher-income taxpayers, the amount may also be limited by W-2 wages paid or the unadjusted basis of qualified property.

In sectors like construction and manufacturing, where owners often hold operating and asset-holding entities, these limitations can significantly affect the result. For real estate owners, the treatment of rental income, whether it rises to the level of a trade or business, can determine if the income qualifies at all.

Understanding these boundaries allows owners to plan their entity structure and compensation approach before year-end, rather than adjusting after the fact.

Aggregation is an election available under Section 199A that allows owners to combine multiple qualified trades or businesses when computing the QBI deduction.

To aggregate, the businesses must:

For example, a construction firm that owns a related equipment-leasing company could obtain a higher deduction by aggregating the two to combine wages and qualified property. A manufacturer with a separate real estate entity that owns its production facility could do the same, as could a real estate group operating multiple interrelated management entities.

Aggregation is optional but powerful. When used properly, it allows the business owner to align operations and optimize how income, wages, and property interact in the QBI calculation. Like grouping, once elected, the aggregation must be applied consistently in subsequent years.

Because grouping and aggregation both affect how income and losses are reported, inconsistent or poorly documented elections can create long-term challenges. Common issues include:

Each of these can lead to confusion or potential IRS examination. For construction and manufacturing companies that often manage multiple entities under shared control, clear documentation is essential.

(adapted from the Regulations (Treas. Reg. Sec. 1.199A-1(d)(4), Examples 7 & 8))

F: Unmarried Individual with Income from 3 Businesses + Wages

F, an unmarried individual, owns as a sole proprietor 100 percent of three trades or businesses, Business X, Business Y, and Business Z. None of the businesses hold qualified property. F does not aggregate the trades or businesses under § 1.199A-4.

After allowable deductions unrelated to the businesses, F’s taxable income is $2,722,000.

Because F’s taxable income is above the threshold amount, the QBI component of F’s section 199A deduction is subject to the W-2 wage and UBIA of qualified property limitations. These limitations must be applied on a business-by-business basis. None of the businesses hold qualified property, therefore only the 50% of W-2 wage limitation must be calculated. Because QBI from each business is positive, F applies the limitation by determining the lesser of 20% of QBI and 50% of W-2 wages for each business.

Next, F must then combine the amounts determined in paragraph (d)(4)(vii)(B) of this section and compare that sum to 20% of F’s taxable income. The lesser of these two amounts equals F’s section 199A deduction. The total of the combined amounts in paragraph (d)(4)(vii)(B) of this section is $200,400 ($200,000 + zero + 400). Twenty percent of F’s taxable income is $544,400 ($2,722,000 × 20%). 

Thus, F’s section 199A deduction for 2018 is $200,400.

If, however, we assume that F aggregates Business X, Business Y, and Business Z under the rules of § 1.199A-4, F’s section 199A deduction will be $400,400 in 2018, or $200,000 higher!

Because F’s taxable income is above the threshold amount, the QBI component of F’s section 199A deduction is subject to the W-2 wage and UBIA of qualified property limitations. If the businesses are aggregated, these limitations are applied on an aggregated basis. 

Thus, F’s section 199A deduction for 2018 is $400,400.

Grouping and aggregation are more than compliance exercises; they are strategic decisions that influence tax efficiency and long-term structure. For real estate investors, manufacturers, and contractors, reviewing these elections annually ensures the chosen structure still fits the business’s current operations.

Before making or modifying these elections:

Our team works with clients across real estate, construction, and manufacturing to evaluate these structures in context, helping owners align tax strategy with business goals while maintaining consistency and compliance.

For guidance tailored to your situation, contact Sensiba’s Tax Advisory team.