Most small business owners wonder what they can do to decrease their taxes.  The best answer for all small business owners is simple:  Focus on growing revenue and you will find taxes will not matter. Following this philosophy is all the more important for start-ups. In the first five years of business, growth can fix most issues. Growth, not decreased taxes, is the lifeblood of your business.

Regardless, it is important to discuss tax issues when forming a business.  When you form a business in Pennsylvania, you have several options.  The most basic form of business in PA is the sole proprietorship. The IRS treats sole proprietorships as a disregarded entity. If you’re unfamiliar with the legal jargon, you may ask “a what entity?”  A disregarded entity is one where the owner files both business taxes and their self-employment taxes on the same return. For most, this is the easiest option for running their business since there is less formality and government entanglement.

The complexity changes when it comes to corporations. Forming a corporation is the most secure option for small business owners looking to limit lawsuit losses at a personal level. Why?  Because with a corporation, the company owns the assets and services that might be subject to a suit – not the board, managers, or individuals like the sole proprietorship. Corporate liability, while important, is a topic for another day. 

So, what about the taxes on a corporation? In this business form there are two levels of taxation. The first is at the corporate level. Here the company pays 21% tax on its profits. The second level is for business owners and investors. These individuals are subject to income taxes on their salaries. Investors are subject to taxes on any dividends and a capital gains tax if they sell shares. So, while it has its place, a corporation is often not ideal for start-ups because of the tax complexities and corporate formalities. 

Now is an appropriate time to discuss S-Corps. A lot of questions and requests focus on S-Corps. An S-Corp is not a business structure; it is a tax election. It will come up in our next corporate entity discussion - the LLC.

From a legal standpoint, a limited liability company or LLC is a newer business structure. An LLC provides much of the same protection from liability as a corporation without the formalities. It also gives its members a couple of different tax options. This is where the S-Corp election comes into play. Whether a single member or multi member, an LLC is a disregarded entity. At formation the IRS treats it as a sole proprietorship or a partnership for tax purposes. In many instances, this works best. Those concerned with taxes have the option to elect to be taxed as an S-Corp. The difference in choice determines how the members pay themselves.

If the members elect taxation as an S-Corp, they will have to follow certain tax rules. The LLC may only have one class of stock, may not have more the 100 owners, and cannot have outside corporate owners.  Members are also required to take a reasonable salary, subject to all standard taxes. Members can make distributions that are not subject to self-employment taxes. The catch is that the IRS has never provided any insight about what is “reasonable”. This could mean more costs for accountants and lawyers to pay less taxes. 

At The Skeen Firm, we are passionate about small business growth and are here to help all small businesses achieve their goals.  Let us help you choose the right tax election for your situation, so you can focus on growing your business!  Contact us by phone at 724-550-6970 or by email at info@theskeenfirm.com to schedule your free consultation today.

*Disclaimer: the advice provided is for informational purposes and is not intended as legal advice.  It should not be relied on, nor construed as creating an attorney-client relationship.