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Starting a business means discovering which type of business structure is right for you. An S Corporation provides a limited liability while offering pass through income.
Not just a few Americans are wondering just how far reaching President Obama’s many stimulus and tax packages will be. Inasmuch as President George W. Bush added to the national debt, our current president will easily dwarf his efforts, putting a heavier debt burden on backs of the populace.
We already understand that the president plans on “taxing the rich” — which is a loosely defined category of income earners making $250,000 or more annually — to help pay down debt. This may sound like a reasonable move, but when that figure includes people whose businesses meet that income threshold but pay themselves far less, than it is apparent that tax increases will likely pummel the middle class too.
Fortunately, there is a nice break in the Internal Revenue code which can help business owners protect their assets without losing their shirts. An “S Corporation” may be the answer, a type of business structure which protects the personal assets of the owner(s) while paying taxes as if you were the sole proprietor or partner.
Pass Through Income For S Corporations
Compared to the standard C Corporation where the company itself is taxed on it business income, an S Corporation lets business profits to pass through to the business owner, thereby only taxing income once.
S Corporations do not pay income taxes though the individual owners do. An informational tax return must be filed annually, however, if two or more people own the business. That form simply spells out each person’s share in the business.
Most states follow IRS guidelines when it comes to S Corporations and taxation. However, some states including California, assess a special franchise tax. In the Golden State that tax starts at a minimum of $800 per business, but can eat up 1.5% of income for larger businesses.
Some local jurisdictions, such as New York City, also charge the full corporate tax rate, removing the advantage of establishing an S Corporation. Then again, these sort of tax policies demonstrates why so many people flee California and big cities for greener pastures.
Taxable Gains Are Lower
Compared to selling a C Corporation, if you choose to sell your S Corporation business, your taxable gain on the sale can be lower. A lower taxable gain, of course, means a lower tax burden. And, when compared to a limited liability company (LLC), shareholders don’t pay self-employment taxes (such as Medicare and Social Security) a 15% chunk that can easily add up.
Should you establish an S Corporation in a bid to avoid paying taxes? Well, you won’t avoid paying taxes altogether, but you may be able to limit your tax liability if your current business structure doesn’t offer to you the benefits of operating such an entity.
Start Your Own Business
Clearly, the changes in tax policy coming down will have a lot of business owners examining how best to run their operations without getting hammered by the IRS. If you plan on starting a business this year, why not learn what benefits an S Corporation has to offer compared to other business structures.
If you’re interested in buying an established business, then visit the National Association of Certified Business Brokers (NACBB) and check out their current listings.
Photo Credit: Steve Woods
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