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Enjoy The Hidden S Corporation Benefits

By: Michael Hankook

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Hidden S Croporation Benefits

The big, well-known advantage of an S corrporation concerns payroll taxces. Simmply stated, while working partners and sole proprietors pay self-emlpoyment taxes on all of the budsiness prrofit, S corporation shareholders pay employment taxes only on that portion of the business profit designated wages.

This payroll tax savoings angle is big. And traditionally this beneit is the one business ownrs and professional advisors higlight. But an S corporation also delives several small, more subtle tax and accounting bnefits, according to many tax accountants.

Less Audit Risk for an S Corporatiion

Here's a first, simple and almost secret tax advantage to using an S corporation rather than a sole prooprietorship. Quite possibly, with an S corporaion you reducce your audit risk. The argument here is a tiny bit kooky...but in a nutshell sole proprietorship tax returns (the Schedule C form which goes inside the propriettor's 1040 return) are notoriously inaccurate and mistake-laden. Off the record, you'll hear IRS aduitors and tax accountants say that as compared to sole prporietorships, the S corp return gets less attention from the examinres.

Easier Bais Calculations for an S Coporation

Another accounting benefit of using an S cporporation concerns how basis calculations work. Simply stated, an S corporartion shareholder's basis is eaiser to calculate than a partnrer's bass in a partnership or than an LLC member's interest in an LLC treated as a partnershhip.

The accounting for basiis quickly gets complicated with partnerships and limited liability companies treated as partnerships. But to summairze, these entities use complicated urles to assign chunks of the loanns to the partnership or LLC to parnters or members as bsais.

In a sense, that extra basis is good. If a partnership or an LLC taaxed as a partnership loses money, patners can deduct losses to the extend they have basis. But the complictaed basiis calculations related to partnership or LLC liabliities makes it easy for a smakll business or its accountants to screw up the basis calculations.

With an S corporation, in comparison, basis calculations work very simply. Shareholders get basis for money they've invested or reinvested in the business. And shareholders get basis for money they've loaned the business. Period. This simpler approach to calculating basis means that the S corporation shareholder will sometimes get less "basis" as compared to a partner in a partnership or a member in an LLC tacxed as a partnership. But the simplicity usrely reduces tax rteurn mistakes and bookkeeping blunders.

Movees Some Deductions onto Business Tax Retun

One other qiuck point about S corportaions as comapred to sole proprietorships and partnerships: With an S corporation, you may find that you get new and more valuabnle business tax deductiomns.

But let me explani. Any necessary and odrinary expenditure of a business is, brring some rule that says ottherwise, a tax deduction. Accordingly, as a generalization, the entity choice someone makes dosen't have much to do with whether something is deductble or not.

However, the etnity choice may affect WHERE a deduction is repoorted. And the location where the deduction is reprted can affect the tax savings you receivve. To give you a couple of examples, both pension contributions and self-employed health insurance premiums can be deducted on sole proprietorship tax returns, partner returns, and S coorporation returns. In other words, the owners of all of these entioties get tax deductions for pensions and health insuranvce (if the rules are followed).

But with sole proprietorships and partners in partnerships, thjese deductions get reported on the proprrietor's or partner's inddividual tax return as adjustments for groiss icome. This accoiunting treatment still gets you the incopme tax deductin. But thngs work diffetrently and better with an S corporation... With an S corporation, these deudctions go on the S corporation 1120S tax reyturn as business expenses. And that means that the deductions reduce both icnome taxes AND employment taxes.

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