Atlanta CPA on the Tax Effects of Entity Choice

Atlanta CPA on the Tax Effects of Entity Choice

Among the different ways of incorporating your business - C corporations, S corporations, and Limited Liability Corporations - there are practical reasons for choosing a given method, such as the number of shareholders or liability considerations. For many small businesses that are going to consider incorporating in Georgia, the tax advantage of the S corporation should not be overlooked.

Tax Advantages of S Corporations

As a LLC, LLP, partnership or sole proprietorship, you are subject to the 15.3% Self Employment/FICA tax on all of your net earnings. The S corporation, on the other hand, pays you a deductible salary (which is subject to FICA), and then the profits flow through your personal return via a Schedule K-1. This K-1 income allows for permanent deferral of the FICA tax. The S corporation allows small business owners to legally save taxes as long as they pay a fair and reasonable salary to themselves.

Please take a look at the following comparison. It shows the tax effects on a single year's income for a LLC, LLP, partnership, or sole proprietor vs. a C corporation, and compares it to a subchapter S corporation. Due to the way C corporations are exposed to double taxation, the payments are spread out over two years, which is not the case for partnerships or S corporations.

LLC, LLP, Partnership, Sole Proprietorship C Corp. S Corp.
Income $190,000 $190,000 $190,000
Expenses ($100,000) ($100,000) ($100,000)

Gross Profit $90,000 $90,000 $90,000
Salary to Owner $0 ($50,000) ($50,000)
Taxable Income $90,000 $40,000 $40,000
Entity Tax $0 $6,000 $0

First Year
FICA/SE (15.3%) $13,770 $7,650 $7,650
Federal & State Income Tax (25%) $22.500 $12.500 $12.500
Tax on K-1 Profits (25%) $0 $0 $10,000
Total Tax $36,270 $20,150 * $30,150

Second Year
FICA/SE (15.3%) $0 $5,202 $0
Federal & State Income Tax (25%) $0 $8,500 $0
Total Tax $0 $13,702 * $0

2 Year Tax $36,270 $39,852 $30,150

Difference between LLC, LLP, Proprietorship and S Corporation
$36,270 - $30,150 = $6,120

* 1st year is tax on W-2, 2nd year is tax on $34,000
($40,000 prior year taxable, less $6,000 paid during the first year)

Please note this representation is only an example. It is being used for demonstration purposes; it does not take into consideration exemptions, deductions, fling status or any other significant tax matters. Your situation may not yield the same results. Please contact a tax professional before making any financial decisions.

We have helped hundreds of business owners select the proper entity choice for their business. By helping you chose the correct type of legal structure for your business we help you make/evaluate this most critical business decision. Please contact us today and we will get started.

To learn about incorporating in Georgia visit http://www.hiscpa.com/article6.html

John Dillard is an author and Certified Public Accountant (All Rights Reserved). To See how he takes Christ along with him to work visit http://www.hiscpa.com/  (a Christian CPA firm) and for his latest book Overcoming Life's 9/11's: Job's Journey visit http://www.john-dillard.com/

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