Taxes and Business Structure: What You Need to Know

With tax time just a few weeks away, you need to know what your business structure means for filing and paying your taxes this year.  Here's a breakdown of taxes and business structure: 

 If You’re a Sole Proprietor

You’ll report your business income on your personal tax return. You’ll also have to pay self-employment tax on any profits you made last year. Since you don’t have to file your business taxes separately from your personal taxes as a sole proprietor, it’s relatively simple to file your taxes. But keep in mind, in some cases, sole proprietors may pay more in taxes due to that self-employment tax rate. And sole proprietorships have some of the highest audit rates with the IRS, so it might be time to consider incorporating or filing as an LLC this year.  

If You’re a C Corporation

Because a C Corporation is considered a separate business entity, it will file its own tax returns. That means you’ll have to file both a personal tax return and a business tax return. Your Corporation will be taxed on the profits in its corporate tax return. Then, if you take a dividend from those profits, those dividends will be taxed on your personal tax return at the qualifying dividend rate. This is what’s known as “double taxation;” it can be pretty hefty for small businesses. Most small business owners prefer the S Corp over the C Corp to avoid that double taxation, although the C Corporation can offer more flexibility and tax benefits in certain circumstances. If you want to invest your business’ profit to grow the business, a C Corp might be better.   

If You’re an S Corporation

You’ll be happy to know you can avoid double taxation as an S Corp. An S Corporation does not file its own taxes: the company profits are “passed through” and reported on the personal income tax return of the shareholders (you). You’ll pay taxes on your company’s profits based on the percentage of shares you own. For example, if you own 50% of an S Corporation, you’ll be taxed on 50% of the profits. If you own all of the company, you’ll be taxed on all the profits. If you operate as an S Corporation, your business itself will pay no income tax. If you work in the business, you need should pay yourself a reasonable salary for your role. This salary will be  subject to your personal income tax rate. If you like the sound of the S Corp tax benefits, you have until March 15 to elect S Corporation status for this tax year. Keep in mind, an S Corp cannot have more than 100 shareholders, and all shareholders must be individuals (not LLCs or partnerships) and legal residents of the United States.   

If You’re an LLC

You’ll be taxed as either a corporation or a sole proprietor, depending on what you’ve chosen. It’s  bit more flexible than a corporation in this regard. The LLC provides that liability protection you want with less formality than a corporation. To illustrate: you can structure your LLC as a single-member disregarded entity and it will be taxed as a sole proprietor; or you can structure it to be taxed like a C or S Corporation.  If you’re considering a change to your business structure this year and have questions, speak with a tax advisor or accountant.  

Are your taxes in order?  If yes, pat yourself on the back and give us a shout in the comments below. Or share your strategies for making tax time easier!