Tax Advantages of Being an S Corp
by John C Dillard, CPA
TO THE SUCCESSFUL BUSINESS OWNER
When looking at what type of entity your business should be, I strive to balance the legal protection issues vs. the tax savings. Over the years, I have developed the mindset that there is no perfect election but there are ones that are better than others. The below and the assumptions are based upon the fact that my clients tell me that they want to pay as few tax dollars as legally possible. Below are some very specific rules as well as some generalities. As such, I suggest that you sit down with a tax professional to see how these guidelines relate to you.
RULES OF BEING AN S CORPORATION
You can have no more than seventy-five shareholders and they all need to be U.S. citizens or resident aliens. You almost always have to have a calendar year as your fiscal year. S Corporation rules have been around since the 1950's and were set up to simplify the rules and regulations of being a business owner. When you file your corporate return you do not pay any income taxes as the profits of the business are reported on your personal tax return. As long as you pay yourself a reasonable salary, you may also take shareholder distributions out of the business that are devoid of FICA/Medicaid taxes. An S Corporation like a C Corporation affords the business owner personal liability protection from business risks. Some of the keys to maximizing that protection is to treat the corporation like one by doing all your business in the corporate name, signing all of your documents listing your corporate title, not co-mingling any personal issues/bills in the corporation, and by having your annual Board of Directors and Annual Shareholder Minutes Meeting.
Another advantage of being an S Corporation is that if you have corporate losses, and You fund (you put the money in the business) those losses personally, then you can deduct those losses on your personal return. Any losses that are funded be the bank (a direct loan from the bank to the corporation) or by trade creditors are not deductible. Often you can set up a loan so that the bank lends to your personally and then you could do a personal loan to the company which will result in you having contributed basis/the dollars to the business, thus making any losses that you fund deductible.
BEING A C CORPORATION
This type of corporation is perfectly set up for those to whom do not qualify to be an S Corporation such as a public held company that has thousands of shareholders, lots of classes to stocks, and sells it's stock to anyone (corporations, individuals, retirement plans, etc). A C Corporation pays taxes on all its profits first at the corporate level and then when the dollars are paid out to the owners in subsequent years, the owners pay tax again at the individual level. C Corporations, therefore, are exposed to a "double taxation" that none of the other entity types are exposed to. If you think taxes are bad enough paying them once, try paying them twice. OUCH!
A C Corporation can make a timely tax election to become an S Corporation and start taking advantage of tax advantages of being an S Corporation. Care should be taken to ensure that all shareholders understand and agree to become an S Corporation and that there are no or relatively insignificant net operating losses that might still be utilizable if you were to stay an C Corporation.
Then after these are utilized/considered, I would effect the change.
LLC's, LLP's & PARTNERSHIPS
All of these entity types would be poor selections for a print shop as they will all result in higher taxes with no additional advantages for the printer. I have personally developed a mindset that if you do not need to be another entity type that you need to be an S Corporation. For example, generally speaking a printer that was an LLC, LLP, or Partnership will pay higher taxes with no additional advantages as opposed to being an S Corporation.
Some of the reasons you might want to be an LLC or LLP are:
- If you were a lawyer or physicians practice then all of the partners personal assets are at risk if one partner does something wrong, while if an LLC or an LLP, only the offending partners personal assets would be at risk. This is because of the professional service statues for these type of professionals but these rules do not relate to our printer.
- If your were an real estate developer and you had a piece of land that had dramatically increased in value, you can transfer that property to an LLC, LLP, or Partner ship without having to pay any capital gains tax. Also, with these entity types, you can take shareholder distributions that are not based upon ownership whereas in an S or an C Corporation they have to be. Again, this does not relate to our printer client.
- These entities can be used also for estate planning purposes as well.
If you have set up as one of these entity types, you might be advantageous to consider a tax free merger into an S Corporation which will allow you to retain all the legal contracts, etc. of your present entity while switching to the tax advantages of being an S Corporation.
I would welcome meeting with you to discuss these and your personal tax situation in detail at your convenience.
C Dillard, Partner
HIS CPA, PC
John C Dillard, CPA, Winner of the Georgia's 1999 SBA's Accountant Advocate of the Year. You may reach me at 770-814-9304. Our Goal is "To Help you Accumulate and Keep Wealth" If you know anyone looking for a Good CPA, please let me know. Check us out on the web at www.hiscpa.com