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Old 03-16-2007, 03:47 PM
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C Corp vs S Corp

I have heard that there are advantages to sole proprietors forming C corps over S corps. Are there more deductions that can be taken in a C corp if income is greater than $200k and all income is distributed each year to avoid double taxation?

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Old 03-18-2007, 09:33 PM
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I think you may not be clear on advantages of C corporations over S corporations.

First of all, in terms of deductions one can generally deduct a valid business expense no matter what the choice of entity or simply remaining a sole proprietorship.

However, for the primary reason of limiting your liability one generally either incorporates into a C corporation and eventually converts to an S corporation through timely election of Form 2553 assuming you meet the legal requirements of an S corporation. The other choice of limiting one's liability is also forming an LLC (Limited liability Company).

Now, your question deals with advantages of a C corporation over an S corporation in the case where your Income (but I really think you mean profits) exceeds $200,000. One of the advantages is that you don’t have the net income pass through to your personal tax return, and thus increase your personal taxable income and expose you to potentially higher tax liability or AMT taxes! The major disadvantage of a C corporation though is that it is subject to double taxation!

This means that lets assume your corporation has taxable income of $200,000 and you don’t take a bonus check to eliminate this taxable income, then the corporation would be subject to corporation tax based on the graduated tax rate structure. The approximate corporate tax liability would be as follows:

The first $50,000 of taxable income is taxed at 15% = 7,500
The next $25,000 of taxable income is taxed at 25% = 6,250
The next $25,000 of taxable income is taxed at 34% = 8,500
The next $100,000 of taxable income is taxed at 39% = 39,000
The total tax liability $61,250 (30.0%)

Now, once the corporation has paid these federal taxes, (lets assume that there are no state taxes due), the residual amount left over after taxes is called RETAINED EARNINGS. This is the amount that can be distributed to the Shareholders as dividends subject to the normal tax rate of the individual shareholder. Thus retained earnings distributed get taxed again at the individual level. Hence Corporations are subject to double taxation.

This is not the case in the S corporations. The S corporations profit are treated as a K-1 distribution and not taxed at the Corporation level but simply passed through to the individual shareholders and taxed at his individual tax rate.

Thus, it is a generally accepted fact that S corporation's are generally more tax efficient than C corporations and majority of small businesses that are closely held eventually elect to convert to S Election, unless they are specifically excluded under the IRS code's.

The next question you asked is whether or not there are more deductions for a C corporation versus an S corporation. As such, the S corporations are very complicated entities when they making losses, the deductibility of losses to the individual shareholders are subject to very strict rules. C corporations losses simply remain with C Corporation and can be carried back or through election can be carried forward to offset against future possible profits.

Generally speaking valid business expenses are deductible irrespective of the choice of the corporation chosen. So, I would disagree with your premise that C corporations have more deductions available than S corporations, this is simply not factually accurate as per the current IRS codes.

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Ask TaxGuru Please refer to the legal disclaimer.

Last edited by TaxGuru : 03-18-2007 at 09:47 PM.

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