If you run your business as a sole proprietorship or as a limited liability company, all of the active income that comes through is subject to self-employment tax. This is an extra 15.3% that can be taxed on top of your ordinary income tax rates. Even a traditional corporation suffers from double taxation where corporate profits are taxed and then the dividends that are distributed are taxed as well.
When you make the S-Corp election on your limited liability company or traditional corporation, profits are no longer subject to self-employment tax but instead are tax free distributions. That is a savings right away of 15.3% on your taxes.
There are some disadvantages to an S-Corp. The entity requires a tax return and there are annual state filings required. Additionally, shareholders must pay themselves a reasonable salary. However, a reasonable salary is only around 20% of profits so there are still tremendous savings to be had.
Almost any business can benefit from the S-Corp election. Even with a net income of $10,000 a year, the numbers make sense to incorporate.
A sole proprietorship, the traditional business, has the highest audit risk of any business. According to Kiplinger, the average tax payer has a 0.5% chance of being audited. However, if you have a schedule C from a sole proprietorship, your risk of audit shoots up by 450% with a reasonable profit. That risk only continues to go up if you make perfectly legitimate and allowable deductions for home office, meals and entertainment, travel, and advertising.
An S-Corp in contrast is audited only 0.42% of the time. That is only 17% as often as a Schedule C sole proprietorship and even less than a traditional tax payer with only a W2. Unfair or not, an S-Corp provides tremendous advantages not only in lowering payroll taxes but also in lowering audit risk.
Payroll tax savings and lower audit risk are only the beginning of the advantages of making the S-Corp election. Having an S-Corp makes yours business permanent and transferable. It gives you a more professional image. The only real disadvantages, such as the annual fees and filing requirements, are more than outweighed by the savings and peace of mind that an S-Corp provides.
Now as S-Corp is not for everyone but it is very likely that as an entrepreneur, you can see significant advantages by forming your S-Corp. Call (619)462-6800 today to make appointment with a tax accountant at Daryl B. Fick, CPA.
The S-Corp Election – Saving Money On Payroll Taxes and Lowering Audit Risk
The primary purpose of organizing a business as a corporation or limited liability corporation is to protect your personal assets. However, by taking an additional step and making the S-Corp election, you can go a step further and get even more benefits of lowering taxes on business profits by up to 15.3% and cutting your audit risk in half. The tax accountants at Daryl B. Fick, CPA can help you see if making this election is the right move for you.