LLC vs S Corp Tax Calculator: Everything You Need to Know
An LLC vs. S-corporation tax calculator can help you determine your tax obligations based on the type of business structure you want to create.6 min read
2. Why Structure Your Business As an S Corporation?
3. Tax Calculations for LLCs and Sole Proprietorships
4. Federal Income Tax and Employment Tax for LLCs and S Corporations
5. Considerations in Calculating S Corp Salary vs. Distribution
6. How to Declare S Corp Taxation for Your LLC
7. Comparing S Corporation and C Corporation Taxes
8. Additional Costs for S Corporations
Updated July 7, 2020:
An LLC vs. S corporation tax calculator can help you determine your tax obligations based on the type of business structure you want to create. This is an essential step to determining accurate financial goals and ensuring you have the capital you need to get started. Highlighted below are details on calculating the taxes owed for each of these business types and other expenses to consider when deciding to form an LLC or S corporation.
Starting a Business: Tax Considerations
Individuals form a business to protect their personal assets and enjoy greater financial visibility. There are also various tax benefits depending on which type of company you form. For example, a single-member LLC is taxed as a sole proprietorship, and sole members of LLCs file an individual tax return using Schedule C.
Tax considerations are a major factor that people consider when setting up a business, as the right type of structure for you will result in the lowest possible annual tax bill.
Why Structure Your Business As an S Corporation?
In most situations, enterprises can save the greatest amount possible by structuring the business as an S corporation. This is an option for S corporations and limited liability companies that decide to be taxed like an S corporation. For example, S corporations receive some tax relief in terms of self-employment and payroll taxes. Sole proprietorships and partnerships, however, are liable for these and other types of taxes.
S corporations are still accountable for taxes. To determine which structure is best for you, you'll need to carefully consider your business needs and the tax consequences associated with that business type.
Tax Calculations for LLCs and Sole Proprietorships
The following taxes apply to LLCs and sole proprietorships:
- Employment, payroll, and self-employment taxes: All individuals of an LLC — members and employees — must pay employment, payroll, and self-employment tax, also known as the FICA, Medicare, or Social Security tax. Self-employed individuals must also pay these taxes every year. Self-employed business owners pay a 15.3 percent tax rate on all income under $94,200 and a 2.9 percent rate on all income over that amount.
- Social Security and Medicare: Self-employed individuals must pay both Social Security and Medicare taxes. In LLCs and sole proprietorships, these tax obligations are shared between the employer and employees.
- Self-employment tax: For an S corporation, only the income the owner pays to employees is subject to self-employment tax. The income remaining, which the business may use for things such as reinvesting or distribution to shareholders, isn't subject to payroll taxes or self-employment tax. Unlike an S corporation, sole proprietorships, partnerships, and LLCs pay self-employment tax on a percent of shared profit instead of their individual salary. Some business structures, such as real estate LLCs, are exempt from self-employment taxes.
- Unemployment taxes: S corporations must pay unemployment taxes. Though rates vary based on location, if you make at least $7,000 per year, there's a minimum of $450 due for unemployment taxes.
Federal Income Tax and Employment Tax for LLCs and S Corporations
Federal income tax applies to an individual's total revenue. Total revenue is calculated by subtracting all expenses from the company's total profit. The tax rate that applies to this amount depends on your business structure, income bracket, and several other factors.
- Employers must pay federal income tax on their salary in addition to an employment tax.
- Standard LLCs pay employment tax on their entire salary.
- For S corporations, employment tax does apply to salaries. However, only federal income tax applies to revenue spent as a distribution. Dividing revenue in this way can enable S corporations to lower their tax burden and put more of their money back into the enterprise.
You can use an S corporation tax calculator to calculate how much income you take as a salary, how much income is spent as a distribution, and how this affects your annual taxes.
Considerations in Calculating S Corp Salary vs. Distribution
The idea of saving a substantial amount of money each year on self-employment taxes by setting up your business as an S corporation and taking distributions instead of salary is attractive, but is it too good to be true? When taking advantage of this loophole in the tax code, you must make sure to take a reasonable salary in addition to your distribution.
The IRS does not define “reasonable salary,” except to call it proper compensation for the type of work you perform. It's a good idea to do some research and determine the average salary for a person in your position who is an employee instead of a business owner. Anything you earn in excess of that amount may safely be claimed as a distribution.
The IRS keeps a close watch on S corporations for this reason, to prevent business owners from abusing the rules. Doing it improperly by taking too low of a salary can trigger an audit by the IRS, something nobody wants to deal with.
How to Declare S Corp Taxation for Your LLC
LLC owners can elect to have their businesses taxed as S corporations if they run the calculations and come to the conclusion that it will save money over the long run — that is, considering all of the administrative costs involved in running a corporation instead of the simpler methods used for an LLC.
To do this when first forming your LLC, you will need to file your declaration with the IRS no later than 75 days after the date the business is formed. This will allow the business to be taxed as an S corporation during the initial year the business is operating. If the form is not sent in time, the tax status will not take effect until the following tax year.
Election as an S corporation does not need to take place during a business' first year in operation. It can be done anytime by sending Form 2553 to the IRS.
Comparing S Corporation and C Corporation Taxes
A C corporation has much in common with an S corporation; it has shareholders and similar administrative requirements and expenses. However, many businesses will find several disadvantages to a C corporation status, including the issue of double taxation.
Unlike an S corporation, a C corporation's profits are taxed at the corporate level. The distributions, called dividends, which are paid to the company's shareholders, are also reported on the shareholders' income tax returns. This creates a situation in which the same income is taxed twice.
Dividends have their own tax rate, which may be either lower or higher than the tax brackets for income received as salary. The corporation can also repay an owner for an investment they have made into the company, in which case this is not considered a dividend or salary. It is referred to as a return of capital investment and is not subject to income tax at all.
Corporations sometimes try to avoid double taxation by failing to distribute shareholder dividends, and instead hold onto the money or re-invest the money into the company in hopes of increasing future profits. However, the IRS has a method of preventing this type of tax shelter; it's called the Accumulated Earnings Tax.
If the corporation does not distribute dividend payments to its shareholders, the IRS levies an accumulated earnings tax of 20 percent on corporate profits. This is in addition to the corporate income taxes it pays regularly. It does not allow a corporation to accumulate profits instead of distributing them to its shareholders without penalty.
Accumulated Earnings tax does not apply to every corporate organization, however. Personal holding companies, passive foreign investment companies, and non-profit organizations are exempt from this tax.
Additional Costs for S Corporations
In addition to taxes, you'll have to consider a few other expenses before deciding whether forming an S corporation is right for you. For example, depending on your state's rules, industry, and business size, you may need to provide short-term disability insurance. S corporations will also need to pay unemployment taxes, even though a business owner who is considered both employer and employee may have difficulty claiming unemployment benefits.
Other costs include running your own payroll or hiring a professional to do these services. Running payroll can be complicated because it involves many forms for federal, state, and local taxes. Making an error on these tasks can result in stiff penalties. These costs increase as your business grows, so many people find that sole proprietorships or LLCs are the more profitable choice.
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