I don’t know about you guys but has anyone else searched the internet endlessly for how to choose to between an LLC, C Corporation, or an S Corporation?
I know that I have typed in LLC vs. C Corporation vs. S Corporation many times into google or youtube but always come away conflicted.
If you want to take action and get started quickly then an LLC is the easiest, cheapest, and fastest way. However, I have tried to make a case that more often than not the S Corporation is the more appropriate choice if you plan on growing your business.
Three Awesome Reasons to Choose the S Corporation
- Limited Liability – Limited Liability is available with an LLC or C Corporation but you are exposed to liability issues with a sole proprietorship or general partnership. With that said S Corp shareholders are generally liable on to the extent of their investment except for their own negligence.
- No Double Taxation – For the S Corporation, all income, losses, and credits are passed through to the shareholder’s personal tax return at their tax rate. This is great because corporate losses can offset other non-corporate income on the shareholder’s personal taxes. In a C Corporation the losses and credits are trapped in the corporation and dividends are taxed twice (Corporate Tax Return as Income and Shareholder’s Personal Tax Return as a dividend).
- Pass Through Income & Distributions are not subject to Self-Employment Tax – This in my opinion is the biggest reason to choose an S Corp. Shareholder’s who perform services for the corporation are employees and must be paid “reasonable salaries” subject to withholding and payroll taxes. Any net income above and beyond the “reasonable salary” is not subject to Self-Employment Tax on the shareholder’s personal tax return thus providing possible tax savings. The good rule of thumb for “reasonable salary” of ⅓ of the net income and let the other ⅔ flow through as a “dividend” to your personal tax return. Conversely, the net income of a proprietorship and partnerships are entirely subject to self-employment tax (SE Tax) in addition to income tax, which turns out to be roughly 7.65% (15.3% SE Tax minus 7.65% as deductible under adjustments on the personal return).
Self-Employment Tax Calculation
So you may be asking what are the steps to calculate the self-employment tax? Well you are in luck.
- Business Net Income x 92.35% (Taxable Percentage of Net Income)
- SE Taxable income x 15.3% (12.4% FICA & 2.9% Medicare)
- Total Self-Employment Taxes – 7.65% (Deductible Portion under Adjustments on Form 1040)
- Self-Employment Tax Owed
Please note that for social security, the maximum amount of taxable earnings was $117,00 in 2014 and $118,500 in 2015.
Of course there are other reasons that the S Corporation is the best answer and reasons why other business entities may better suit your business needs however I want to make sure that everyone understands the power of the above reasons.
What other reasons to choose the S Corporations?