If you’re a new small business owner or self-employed professional, you’ve had that moment where you saw your Self Employment Tax (SE Tax) on your tax return and been in shock. Many business owners pay more in SE Tax than they do in Income Tax. The most common way to save money on SE Tax is to switch from a Schedule C sole proprietorship to an S-Corporation (S-corp).
But when is the right time to switch if it all? Some accountants just want to sell you on filing as an S-Corp, without looking at the cost benefit analysis. The answer depends on your income, goals, and how much time you are willing to spend jumping through hoops. Let’s break down the pros and cons.
The Pros of Filing as an S-Corp
Save on Self-Employment Taxes:
One of the biggest benefits of an S-corp is the potential for tax savings. As an S-corp owner, you can pay yourself a reasonable salary and take the remaining profits as distributions, which are not subject to self-employment or FICA tax.
Lower Audit Risk:
S-Corps historically have had lower audit rates than a schedule C business, though this can be overstated.
Tax Planning Opportunities:
There are some unique tax planning opportunities for those who choose an S-Corp. You may be able to take advantage of additional tax deductions.
The Cons of Filing as an S-Corp
Increased Paperwork and Compliance:
Running an S-corp means filing payroll, maintaining corporate records, and meeting other IRS and state requirements. It’s more involved than filing a Schedule C on your personal tax return.
Reasonable Compensation Requirements:
The IRS requires you to pay yourself a fair market salary for the work you do. Figuring out what’s “reasonable” can be confusing, and paying yourself too little can attract IRS scrutiny.
Lowered Social Security benefits
You may have lowered social security benefits. Based on your age and historical earnings, this could matter very little or quite a lot.
Apply for our Tax Planning Services for a business entity evaluation
Wondering if an S-corp really makes sense for your situation? Our Tax Planning package includes evaluating your business entity for tax purposes, supporting the tax requirements of your chosen entity, income tax projections and consultations. Our goal is to help you identify opportunities to minimize your current and future tax liabilities.
We’ll run the numbers and compare what you’d pay in taxes as a Schedule C business versus as an S-corp and see:
- Potential self-employment tax savings
- Estimated federal tax impact.
- Present value of future Social Security benefits
- The break-even point where switching starts to make financial sense
- We’ll help you make a data-driven decision about your business structure, without guessing or doing complex math on your own.
You can apply for services today!
Need Help with Reasonable Compensation?
If you decide to make the switch, we’ve got you covered there too. We offer Reasonable Compensation Studies in our Tax Planning package to help you determine exactly how much you should pay yourself as an S-corp owner. Our analysis uses the many hats approach to get you the lowest justifiable salary. We look at your industry, varying roles, and region to ensure your salary meets IRS guidelines and supports your tax strategy.
The Bottom Line
Choosing between an S-corp vs. Schedule C business isn’t always clear-cut, but the right choice can make a big difference in your tax bill. Our Tax Planning package gives you a simple way to see potential savings, understand the trade-offs, and decide if an S-corp is right for you.