S-Corps save Business Owners Money!
S-Corps Save Business Owners Money!
The primary benefit of an S corporation is that an S corporation minimizes employment taxes. An S corporation election allows a business owner to avoid Social Security, Medicare or self-employment taxes on a portion of the business profits.
I’ll illustrate how this works in a simple example: Suppose your small business makes 100,000 in profit.
You pay Federal and State income taxes on this profit. You would owe the IRS on average about $10,000 on this profit. If you live in a state with an income tax you probably pay an average of $5,000 in tax to your state government.
You have other taxes on earned income as well. If you operate your business as a sole proprietorship or partnership, you pay roughly 15.3% in self-employment taxes on your $100,000 of profit. So add roughly a 15% tax on the $100,000.
If you operate your business as a regular corporation and you extract the $100,000 as shareholder-wages, the tax law calls these taxes “Social Security” and “Medicare” and you also pay roughly a 15% tax on the $100,000.
Here’s how the Subchapter S election saves you money. An S corporation splits your business profits into two categories: “shareholder wages” and “distributive share.” Only the shareholder wages get subjected to the 15.3% tax. The distributive share is not subject to 15.3% tax.
For example, suppose you split your $100,000 of business profit into $40,000 of shareholder wages and then the balance of the profit is defined as a distributive share.
This way, only the $40,000 of wages is subject to the 15.3% tax. That means roughly $6,000 Social Security and Medicare tax expense.
But the remaining $60,000 of business profit — the non-wages called distributive share — is not subject to the 15.3% tax. That means you’re saving about $9,000 in self-employment taxes compared to a sole proprietor or partner. Similarly, you’re saving about $9,000 as compared to the owner that operates his or her business as a corporation and extracts all the business profit as wages.
This ability to avoid some Social Security and Medicare taxes or self-employment taxes is the big benefit of an S corporation.
To schedule an appointment to implement this strategy and others within the context of your unique tax situation, Contact Brown CPA Group, Ltd., at (847) 509-4100.
About the author: Ken Smith is an Enrolled Agent and Senior Staff Accountant with Brown CPA Group, Ltd. We know that success means different things to different people. While a business owner strives to maximize profits, increase efficiency and plan for succession; an individual client is more concerned with tax planning, wealth management, retirement and estate planning. At Brown CPA, we work with you on the total picture. Together, we succeed.
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