At what income number does S-Corp save you money over a Sole Proprietorship
4 comments
I run an S-corp (one man) and wish there was a simple answer to this. There are way too many factors to consider before getting to any conclusion. The biggest advantage of an S-corp is the ability to save on the payroll taxes that the employer has to pay. But that really depends on how much you make, how much you take in salary/W-2 etc. But again, there are other costs of running an S-corp that add up really fast. For example, the accounting and taxes are much more complicated for S-corps and you certainly need a good CPA for it.
I suggest you talk to at least 2-3 CPAs and get an idea. Even the CPAs differ in their understanding and preferences. My CPA insists that S-corp is good for me while another one I spoke to kept telling me to switch to LLC.
In general, you need to consider the following factors:
1. Social security tax portion of employer. This has a cap at about 110K i think in 2012. So any income over that, does not matter anyway. FOr 2012, the rate was 6.2%. lets say you earned 100K but only paid yourself 75K with S-corp. At a high level, you will save almost 2K in ss taxes portion of the employer.
2. Medicare tax portion of the employer. This one is huge since there is no cap. So the less you pay in salary, more you save in tax.
I suggest you talk to at least 2-3 CPAs and get an idea. Even the CPAs differ in their understanding and preferences. My CPA insists that S-corp is good for me while another one I spoke to kept telling me to switch to LLC.
In general, you need to consider the following factors:
1. Social security tax portion of employer. This has a cap at about 110K i think in 2012. So any income over that, does not matter anyway. FOr 2012, the rate was 6.2%. lets say you earned 100K but only paid yourself 75K with S-corp. At a high level, you will save almost 2K in ss taxes portion of the employer.
2. Medicare tax portion of the employer. This one is huge since there is no cap. So the less you pay in salary, more you save in tax.
As an LLC, you may elect to file (with the IRS) as an S-corp within the first 75 days of your calendar year. You can't just yo-yo back and forth from one filing classification to another so you should take some time considering the consequences. See http://answers.onstartups.com/ for answers on this topic.
Some LLCs make this election so they can take a distribution at the end of the year at a lower tax rate. The IRS monitors this, and expects you take a "reasonable salary" as income. I recently made the election for similar reasons, but also to allow me to run my company more like a startup, and less like a consulting service.
There's enough information out there to make a decision, I think, but if you're still in doubt get an accountant.
Some LLCs make this election so they can take a distribution at the end of the year at a lower tax rate. The IRS monitors this, and expects you take a "reasonable salary" as income. I recently made the election for similar reasons, but also to allow me to run my company more like a startup, and less like a consulting service.
There's enough information out there to make a decision, I think, but if you're still in doubt get an accountant.
I assume most people use the regular calendar year, as their year?
Ask an accountant
The IRS does not treat a sole proprietorship as a "single-member". It ignores the existence of the sole proprietorship for tax purposes, as do the states (generally). In other words, you and the business are the same in the eyes of the tax codes. An S-Corp which has a single member is also treated as a disregarded entity by the IRS. However, states differ on their treatment of S-Corps. Most states follow the IRS in disregarding the S-Corp entity, but a few do not.
Fee-wise, the differences are immediate. You must pay fees to the state and federal government related to your corporate entity. The total amount depends on your state.
Tax-wise, the difference is minimal, but the S-Corp form does make it easier to take and support deductions because you will probably maintain separate records for your business. Sole proprietors are audited more frequently by the IRS because they generally do not keep proper or sufficient records delineating the business spending. States differ on the taxes they impose on business entities.
Liability-wise, the difference is immediate and substantial. S-Corps offer limited liability, meaning that generally the S-Corp's liabilities are not yours. In practice, banks won't make loans to S-Corps unless its owners agree to waive limited liability, and if the S-Corp is not properly capitalized (i.e., does not maintain proper insurance or reserves to cover liabilities) then courts will ignore the limited liability shield. However, sole proprietorships offer no liability protections--your liabilities and the business liabilities are one and the same: i.e., if your business goes under, creditors can go after your house.
Self-employment taxes: A sole proprietor owes self-employment taxes. These taxes include your social security contribution. You would not necessarily pay self-employment taxes if you use the S-Corp form, if for example, you pay yourself a salary up to the respected salary limit and properly treat the remainder of distributions as potentially self-employment income.
You really need to talk to an accountant and/or lawyer about this.
Fee-wise, the differences are immediate. You must pay fees to the state and federal government related to your corporate entity. The total amount depends on your state.
Tax-wise, the difference is minimal, but the S-Corp form does make it easier to take and support deductions because you will probably maintain separate records for your business. Sole proprietors are audited more frequently by the IRS because they generally do not keep proper or sufficient records delineating the business spending. States differ on the taxes they impose on business entities.
Liability-wise, the difference is immediate and substantial. S-Corps offer limited liability, meaning that generally the S-Corp's liabilities are not yours. In practice, banks won't make loans to S-Corps unless its owners agree to waive limited liability, and if the S-Corp is not properly capitalized (i.e., does not maintain proper insurance or reserves to cover liabilities) then courts will ignore the limited liability shield. However, sole proprietorships offer no liability protections--your liabilities and the business liabilities are one and the same: i.e., if your business goes under, creditors can go after your house.
Self-employment taxes: A sole proprietor owes self-employment taxes. These taxes include your social security contribution. You would not necessarily pay self-employment taxes if you use the S-Corp form, if for example, you pay yourself a salary up to the respected salary limit and properly treat the remainder of distributions as potentially self-employment income.
You really need to talk to an accountant and/or lawyer about this.
FWIW, the OP seems to be equating "sole proprietorship" and the disregarded entity status of their LLC. As such, the liability cautions you make might not apply directly to their situation.
Yup, that's right - I thought IRS treated a single member LLC as a sole proprietorship for tax purposes. I guess the correct term is disregarded entity. Either way the definitions were specific to the tax status and separate to the liability definition, which is yes a LLC.
Have formed a LLC in NYC. It is single member. Sole purpose is to sell mobile apps. Running business part time. From home.
Questions
1. At what income number do I pay less tax as a s-corp over a sole proprietorship Right now I believe it's very close to $133K in revenue. This is from following all the way through to after income taxes are applied. 2. What time period each tax year can I switch tax elections from S-Corp to Sole Prop or vice versa in future? 3. How often can I switch status? 4. If your selling software via the app store, but do all the development at home in NYC, does that constitute all sales from NYC?
My Models
Say for net income of $100,000
They key levers seems to be a) what I deem a reasonable salary for s-corp b) what of my income is deemed to be generated from outside of NYC
Filing as a Sole Proprietorship (which is what the IRS treats a single member)
• Self Employment Taxes = 13.3% (realize this rate would drop if earning over the $110,100 due to limit on SS tax)(as of 2012) (also realize that I can deduct 1/2 of SE tax against my income tax) • UBT (Unincorporated Business Tax) = 4% of net income over $35K • Filing Fee =$25
Social Security Tax (part of SE) $10,400 Medicare (part of SE) $2,900 UBT Tax $2,600 Filing Fee $25 Sole Propetiership: Net Income after filing + SE tax, but not before income taxes $84,075 rate of 15.93%
Filing as a S-Corp (which in NYC they treat as a corporation)
• NYC Corporate Tax - 8.85% of NYC net income or 8.85% of salaries + 15% of 30% of net income • SE Tax on "reasonable salary" - I'm using a number of $75K number, not sure if this is right. • Biennial Statement $4.50
Reasonable Salary $75,000 NYC Corporate Tax $6,969 SE Tax on Income $9,975 Biennial Statement $4.50 Claim none outside $83,051 rate of 16.95%