To amend the Internal Revenue Code of 1986 to allow a deduction for certain small business income.

SECTION 1. DEDUCTION FOR QUALIFIED SMALL BUSINESS INCOME.

    (a) In General.--Paragraph (1) of section 199(a) of the Internal 
Revenue Code of 1986 is amended to read as follows:
            ``(1) In general.--There shall be allowed as a deduction an 
        amount equal to the sum of--
                    ``(A) 9 percent of the lesser of--
                            ``(i) the qualified production activities 
                        income of the taxpayer for the taxable year, or
                            ``(ii) taxable income (determined without 
                        regard to this section) for the taxable year, 
                        and
                    ``(B) in the case of a qualified small business for 
                a taxable year beginning in 2010 or 2011, 20 percent of 
                the lesser of--
                            ``(i) the qualified small business income 
                        of the taxpayer for the taxable year, or
                            ``(ii) taxable income (determined without 
                        regard to this section) for the taxable 
                        year.''.
    (b) Qualified Small Business; Qualified Small Business Income.--
Section 199 of such Code is amended by adding at the end the following 
new subsection:
    ``(e) Qualified Small Business; Qualified Small Business Income.--
            ``(1) Qualified small business.--
                    ``(A) In general.--For purposes of this section, 
                the term `qualified small business' means any taxpayer 
                for any taxable year if the annual average number of 
                employees employed by such taxpayer during such taxable 
                year was 500 or fewer.
                    ``(B) Aggregation rule.--For purposes of 
                subparagraph (A), any person treated as a single 
                employer under subsection (a) or (b) of section 52 
                (applied without regard to section 1563(b)) or 
                subsection (m) or (o) of section 414 shall be treated 
                as 1 taxpayer for purposes of this subsection.
                    ``(C) Special rule.--If a taxpayer is treated as a 
                qualified small business for any taxable year, the 
                taxpayer shall not fail to be treated as a qualified 
                small business for any subsequent taxable year solely 
                because the number of employees employed by such 
                taxpayer during such subsequent taxable year exceeds 
                500. The preceding sentence shall cease to apply to 
                such taxpayer in the first taxable year in which there 
                is an ownership change (as defined by section 382(g) in 
                respect of a corporation, or by applying principles 
                analogous to such ownership change in the case of a 
                taxpayer that is a partnership) with respect to the 
                stock (or partnership interests) of the taxpayer.
            ``(2) Qualified small business income.--
                    ``(A) In general.--For purposes of this section, 
                the term `qualified small business income' means the 
                excess of--
                            ``(i) the income of the qualified small 
                        business which--
                                    ``(I) is attributable to the actual 
                                conduct of a trade or business,
                                    ``(II) is income from sources 
                                within the United States (within the 
                                meaning of section 861), and
                                    ``(III) is not passive income (as 
                                defined in section 904(d)(2)(B)), over
                            ``(ii) the sum of--
                                    ``(I) the cost of goods sold that 
                                are allocable to such income, and
                                    ``(II) other expenses, losses, or 
                                deductions (other than the deduction 
                                allowed under this section), which are 
                                properly allocable to such income.
                    ``(B) Exceptions.--The following shall not be 
                treated as income of a qualified small business for 
                purposes of subparagraph (A):
                            ``(i) Any income which is attributable to 
                        any property described in section 1400N(p)(3).
                            ``(ii) Any income which is attributable to 
                        the ownership or management of any professional 
                        sports team.
                            ``(iii) Any income which is attributable to 
                        a trade or business described in subparagraph 
                        (B) of section 1202(e)(3).
                            ``(iv) Any income which is attributable to 
                        any property with respect to which records are 
                        required to be maintained under section 2257 of 
                        title 18, United States Code.
                    ``(C) Allocation rules, etc.--Rules similar to the 
                rules of paragraphs (2), (3), (4)(D), and (7) of 
                subsection (c) shall apply for purposes of this 
                paragraph.
            ``(3) Special rules.--Except as otherwise provided by the 
        Secretary, rules similar to the rules of subsection (d) shall 
        apply for purposes of this subsection.''.
    (c) Conforming Amendments.--
            (1) Section 199(a)(2) of such Code is amended by striking 
        ``paragraph (1)'' and inserting ``paragraph (1)(A)''.
            (2) The following provisions of section 199 of such Code 
        are each amended by striking ``(a)(1)(B)'' and inserting 
        ``(a)(1)(A)(ii)'':
                    (A) Subsection (d)(2).
                    (B) Subsection (d)(6)(B).
                    (C) Subsection (d)(7).
    (d) Effective Date.--The amendments made by this section shall 
apply to taxable years beginning after December 31, 2009.

Summary: Amends the Internal Revenue Code to allow a small business that employs 500 or fewer employees a tax deduction in 2010 and 2011 for 20% of the lesser of its qualified small business income or its taxable income. Defines "qualified small business income" to include income which is from sources within the United States and which is not passive income.