Money Talks
Group for Investment talk and ideas to stick and move through the gauntlet of bills
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Sometimes Seeing is Believing
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Sometimes Seeing is Believing
<div>I think I am going to try and offer some solutions on here to demonstrate the effect of tax planning. I should note that all the information being presented is made up and fictitious, however the results are accurate and representative of actual benefits one could expect; also I am not attempting to advertise or solicit my services, nor provide tax or financial advice in any manner – just want to open some eyes and help the common man/women think outside the box.
</div><div>Background Info:
A married couple has a business that is set up as an LLC owned by 1 person or a single member LLC (SMLLC) and does mostly residential painting, repair & maintenance and owns a trailer to haul construction disposal.
Their bottom line profit is $128K for the year. If no change is made, they will have to file a Form Sch. C Business Profit & Loss on their tax return. They could make a change and elect to be an S Corp instead.
But like everything in life to save a lot, you sometimes have to spend a little. In this case there are additional costs associated with being an S Corp. You may have to pay yourself payroll or assign income to yourself in the form of a 1099-NEC, and an S Corp has to file its own tax return so there are usually extra costs related to that as well.
Here is a graphic to demonstrate 3 scenarios, the tax effect, and a projected cash outflow.
A) represents leaving everything as is
B) represents converting to an S Corporation and not doing payroll or assigning 1099 income to yourself [This a bit risky as the IRS wants you to pay yourself reasonable compensation. They want their medicare & social security taxes on your income]
C) represents scenario B above, but with a 40% of profit assigned to yourself [Less riskier; precedent has been set in tax courts where the ruling was in favor of the tax payer as the court didn’t see the difference at the end of the day in reasonable compensation]
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5 Replies
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Thanks. Very useful information. I’m thinking of starting my own business soon and currently doing my research.
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I made the change to S Corp and saved a good bit…prep costs more but worth it…my CPA said he was seeing an uptick in audits on C’s and sole proprietors!? Any activity of this you’ve seen?
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Yes agreed. There’s a lot of mom & pop business’ that fit into this category and many times the record keeping and bookkeeping is not setup correctly to uphold the “vail” or protection that the LLC was initially set up to provide. Having an LLC with an S Corp conversion is a good one-two punch for liability protection and provides a pretty good corporate veil as far as audit protection; however you have to have the books set up correctly and operate your business accordingly.
For instance, only have income and expenses going through business accounts titled under the business. Many mom & pop’s start out using personal bank accounts or credit cards to get the business going and never switch or transition things over to only use business accounts. The more you use personal assets to operate your business, the more that corporate veil disintegrates and opens you up for audit.
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I should also add that this particular example does have a couple other benefits. For instance, many people are in the situation where this is their main or only source of income.
If you are trying to buy a house or get financing for some other investment, usually financiers will want to see what your two year average income will be to determine how much financing you can afford.
This puts people in this situation in a precurious position as they want to bolster income as much as possible and not be too aggressive on maxing out business deductions; all while trying to minimize their tax exposure.
Performing this conversion not only helps you lower your tax exposure but does not affect your total income figure. Best of both worlds!
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I wanna look into this for the future. I was looking to push more of my personal expenses tied to the business as business expenses of an LLC/SCorp/whatever but that is way off at the moment. Like pushing stuff like lunches (but I eat like once or twice a day so no idea how to not do that without it looking stupid). It is work from home digital goods stuff. I know you can write off the room you work in, like your office, as well as other business expenses. It gets wierd because hardware like RTX graphics cards(and tons of other tech stuff pc stuff)are directly tied to what I am doing, both projects, and video production. I am guessing if it is directly tied to the work it is acceptable? Gotta ask my tax guy on that, whenever this ends up making any money LOLOLOL
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