Discussion:Better corporate structure for high income?
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Discussion Forum Index --> Tax Questions --> Better corporate structure for high income?
| 3 September 2008 | |
| A friend is considering becoming a client of mine, and wants to incorporate to license his technology to various companies. He's telling me that he expects to gross 10-20 million revenue within 2 to 3 years, and wants to know which is better for that amount of income, a C corp or an S corp?
I've only dealt with small businesses, and have more experience in S corps, so I thought I'd check with everyone here! He says there will only by 6 to 8 shareholders, a small board of directors and only 4 or 5 employees. And he wants as much money to go to the shareholders as possible-he's not interested in keeping large amounts in the company. So which is better? The S corp allows the flow-through to the shareholders, so there's a big incentive for distributions, but the C corp has more potential employee benefits (I forgot to mention he wants the big shareholders to be directors AND employees!). | |
RoyDaleOne (talk|edits) said: | 3 September 2008 |
| With that amount of money, I would suggest you do a projection comparing the various options. The projection should cover the number of years in future as the client agees is reasonable.
I would guess that the S Corporation projections, will in the end, product more money to the shareholders. There are some posters to this board who would know better than I. | |
| September 3, 2008 | |
| And if you do what RoyDale suggests, go all the way to the end and liquidate it, too. That's where the hardest hit comes. I can't imagine a C coming out better in any way, except, if he'll consider selling stock publicly or have more than 100 s/h's. Or a foreign s/h. Otherwise, the high personal tax rates aren't different than the C corp's, but then the divs are taxed when they come over as well. And then there's still C corp AMT, right? S baby. | |
| 3 September 2008 | |
| Thanks for the input folks! He does not want to go public-ever! He's happy keeping it private and close. And he's incorporating for the usual reasons, obviously.
He's OK with paying the main officers/shareholders a good salary to avoid problems with the IRS (I'm figuring 100K+ for the main officers) and taking advantage of the generous pension opportunities, and then distributing the rest to the s/hs. I'm a little concerned about the 'reasonable compensation' issue when he gets to that level of income; any suggestions? I was leaning towards the S anyway; I suspect that losing the deductibility for the group health/life insurance benefits won't matter as much when the main shareholders are making this much-they can just pay for it themselves. Thanks for the fast and great answers! | |
| September 3, 2008 | |
| Your reasonable comp issue goes the other way as well if you picked C. IRS could conceivably want a much lower salary...as an S, it's pretty moot since you'll be over the SS ceiling anyway, so only medicare would be up for discussion. Document the reasonableness of the salary and don't look back. Nothing to backfire. | |
| 3 September 2008 | |
| Why would you lose the deductibility of the health insurance? | |
Death&Taxes (talk|edits) said: | 3 September 2008 |
| Stop: what are "the usual reasons?" In my part of the world we start with limiting liability, then comes limiting liability and finally limiting liability.
If he is accurate on his projections, the differences are fairly minor unless he has some huge medical expenses to run thru a 105 Plan for which he would take the 'C', and with an LLC, taking in new members can permit profit distributions not in line with ownership, which the S Corp forces. Biggest difference between S and LLC is the fact pension contributions come before FICA in the corporation but after in the LLC, but making this kind of income may mean the pension is the tiny tail on the dog. | |
| 3 September 2008 | |
| In my vast (just kidding) experience, the C corp is better than the S corp if:
- You want to reimburse owner/employees for large out of pocket medical expenses, and you don't mind the plan being nondiscriminatory. As for employee health insurance it's deductible in any scenario. - You want to have corporate owners, foreign owners, or more owners than are allowed. - You want to finance inventory or receivable buildup with after tax retained earnings taxed at the lower C corp tax rates. - You have large business meal and entertainment expenses that are only 50% deductible, and therefore wish to make use of the lower C corp tax rates. - You plan on paying out all of the income in the form of salaries, and therefore wish to avoid the cumbersome passing through of small income amounts to the owners. The C corp structure seems to almost never be better if there's any chance at all of ever selling the company. In fact, in the event the company is sold, if it's not an S corporation, you, as tax adviser, would want to have very good written notes as to why, including revisiting the decision every year. Interesting question! | |
| 3 September 2008 | |
| D&T I meant 'limited liability' when I stated "the usual reasons"! <grin> He's assuming he'll get sued sometime during all this, and wants to be protected. We're already discussing D&O insurance among other things. And distributions in line with ownership is just fine with him. I'm not sure the whole group health insurance is that big of a deal to him; as you pointed out, at this level of income the major s/hs could afford to self-insure anyway. And he doesn't want to deal with an LLC at all (which is fine because I have very little experience with them!).
Smokeytax, I think he'll be all right with salaries for the main officers being 100K to 500K (max at the 20 million level of income), since (it looks like) all the major s/h are going to be officers as well. I doubt they will ever get to more than 15-20 s/h, if that. And he's wanting to license technology products that he invented, so there shouldn't be any inventory anyway. Thanks for all the insightful answers! | |
| September 3, 2008 | |
| You do still get the health ins. deduction, tho', is Rkr's point. It just goes onto the W2 and then flows onto the 1040 rather than straight off the corp return is all. The end is the same. | |
| September 4, 2008 | |
| Your and your client's not wanting to deal with LLC's are not good enough reasons to skip over what is probably the best solution. | |
ReadMyLips (talk|edits) said: | 5 September 2008 |
| I think you should add LLC to the projections for comparison purposes; you are probably remiss if you don't. You can legally be an LLC, which has a lot of advantages re: recordkeeping, etc. and elect to be taxed as a c corp (then make an s election, if that's the winner). Entity choice and tax treatment can be optimized using the entity classification election via form 8832. | |
Death&Taxes (talk|edits) said: | 5 September 2008 |
| He is your friend who is considering becoming your client; if you are not comfortable discussing the pro's and con's of LLCs, you really should refer him to someone who can give him a broader picture. You'd be doing your friend a favor.
Fifty years ago, the two of you might have disregarded the S Corp because it was new and confusing. | |
RoyDaleOne (talk|edits) said: | 5 September 2008 |
| Actually, one might consider multiple entities to achieve the best results.
And I agree with D&T, you should at the best help your friend evaluate the suggestions of someone else. | |
