FAQ: "Should my company be an S-Corp?"
These days almost every new client consult starts the same "I want to talk about having you do the bookkeeping/payroll/sales tax/tax returns BUT I also really want to know if my company should be an S-Corp."
It's a very trendy question right now. It seems that many of you have been talking to the same person who has given you the advice that your company probably should be an S-Corp. From what I gather, this person is the neighbor of your brother's girlfriend's friend from work. He's very insightful, but nobody quite knows how or why he has the knowledge required to make such a broad recommendation. All we know is that he told you that you probably should S-Elect and now you are desperate to know more about it.
You see, the lore behind the S-Corp that was told to you is that you should elect to have your company treated as an S-Corp because it will save you TONS of money in taxes. Tons. Oodles. Did you let Joe, your brother's girlfriend's friend from work's neighbor look at your tax return? Of course not, that's nuts. But you do think he was on to something because Google also says that you stand to save TONS of money if you're an S-Corp. So, is it true?
Maybe. Maybe not.
There are a few factors that definitely need to be considered, which include but are not limited to:
How much revenue does your company have? While there is no minimum level of revenue that is required in order to file as an S-Corp (though that is a common myth), there does need to be a consideration as to whether or not the administrative burdens generated by the S-Corp are outweighed by the potential benefits of making the switch.
If you are the only owner of your company and have been filing the company as a Sole Proprietor or using your Social Security number, that likely means that your business has not had its own Tax Return in the past but instead has been filed as an additional schedule of your personal return. Once you elect to have your company treated as an S-Corp, the company now has to file its own stand-alone Tax Return (called the 1120S) which must be completed and filed before you can file your personal return. This is likely to be a significant expense, so if your company doesn't have very much revenue, you may spend more on the S-Corp Tax Return than you saved in taxes by becoming a Corp.
Are you ready to run payroll? The main way that people expect to save oodle-tons of money by converting their company to an S-Corp is through the elimination of Self-Employment Tax. Self-Employment Tax is a nice little 15.3% cherry-on-top of your normal tax rate for businesses that file as Sole Proprietors or Partnerships. Therefore, in theory, it's true that if you've previously been filing business income that was subject to Self-Employment Tax then you could yield significant savings by changing your company to a structure for which there is no Self-Employment. In the eyes of the IRS, S-Corp Owners are not Self-Employed and therefore are not subject to Self-Employment tax.
However, there's no such thing as a free lunch, so you can't just file to have your company treated as an S-Corp and then ride off into the sunset having eliminated all of your tax-related woes.
The trade-off is that when you are an Officer of an S-Corp you have to take "Reasonable Compensation" in the form of payroll wages paid to you by the Corporation. This will be subject to payroll tax and the company will issue you paystubs and a W2. While the wages and some of the payroll taxes to the company are deductible to the company, it's an expense that should be considered before making the switch.
If you're going that route, be sure to hire a legit payroll service and a REAL tax professional to tell you how much reasonable compensation should be in your situation and ensure that all payroll tax returns are timely and properly filed. (I suggest using us for both of those things, but if you're just here to read my wit and take your business elsewhere, I guess that's fine...). The liabilities associated with doing these things incorrectly can be huge, even if the payroll itself was pretty small, so I don't recommend trying to DIY.
Is this really a business, or is it more of a hobby? Look, I'm not trying to look down at your side hustle. That would be massively hypocritical of me; I started this company on my dining room table while working 2 other jobs.
BUT, the fact is, there's a bunch of filing requirements and extra hoops to jump through when you own an S-Corp, which in my opinion are not usually worth it for a side-hustle unless you're ready to take the plunge and make it your main-hustle. Along with tax filing and payroll, it's also time to start taking your bookkeeping REALLY seriously (if you haven't already) and working closely with a tax professional.
Moral of the Story: While he's a real cool dude, your brother's girlfriend's friend from work's neighbor probably doesn't know enough about YOUR specific tax situation to know for sure whether or not an S-Corp is the right choice for your company. Instead, you should really consult a Tax Professional who can help you weigh the costs vs benefits and also help you file all the paperwork properly if it is determined that becoming an S-Corp does make sense for you.
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