Should you switch business forms to utilize tax savings?

On Behalf of | Mar 6, 2017 | Tax Controversies

In order to provide the best advocacy for our clients, our Connecticut tax law firm closely follows proposed changes in state and federal tax law. A recent federal proposal may impact a company’s choice of business structure.

Several factors inform the choice of a business entity, particularly the decision to incorporate as a C corporation, or alternatively to select a pass-through entity, like an S corporation or an LLC.

In a C corporation, owners are insulated from personal liability for any debts or claims against the business. Other exemptions may also be available to a qualified small business, such as Section 1202 tax exemption on the sale of stock. However, there is double taxation on the same source of earned income in a C corporation, both at the corporate and personal level. For a pass-through entity, in contrast, there is only a single level of taxation.

President Trump has proposed a reduction in the corporate tax rate to a level that is significantly lower than the rate applied to pass-through entities. Some commentators question whether this proposal, if implemented, will prompt more pass-through businesses to incorporate. 

Before switching business forms, our tax law firm would review a company’s long-term goals. If the business model is to reinvest earnings, then a C corporation might result in paying less tax. If the company pays dividends, however, the analysis should compare the net income, after double taxation, to the pass-through model.

Of course, income taxes are not the only factor to consider. Access to capital, Social Security and Medicare taxes, accounting methods, whether there are tax exempt or foreign investors, and many other considerations should guide the selection of a business entity form.

Source: Accounting Today, “To LLC or not to LLC: Entity choice and tax reform,” Roger Russell, Feb. 28, 2017