Recently in LLC Formation Category

October 15, 2007

S Corporations: A [Fill-in-the-Blank] Tax Dodge

Business formation websites, business books and magazine articles, and self-help hotel seminars still flog the S corporation as a clever way to avoid paying self-employment taxes on earned business income-namely, by reducing your S corporation salary and paying out S corporation profits to yourself as unearned income, which is not subject to self-employment (Social Security) taxes. Just form a corporation, then fill in the blanks on a simple-to-use one-page IRS tax-election form and voila, you're home free (tax-free).

I don't agree. First of all, the IRS sometimes [fill in the blank: "challenges on audit, "successfully sues," "seizes corporate profits paid out to"] business owners who work for their S corporation for free (that is, without paying themselves any or much of a corporate salary).

Second, this S corporation tax strategy seems penny-wise and pound-foolish ["dollar-dumb," converted to US currency].

Even if a Social Security payout cannot, by itself, adequately fund retirement, the fully-funded, top Social Security benefit of [fill in your projected maximum benefit as shown on your most recent Social Security Administration earnings and credits report mailing, such as "$1,500" or more per month, ] can put a serious dent in what you owe for [insert basic household necessities, such as "groceries, utilities, high-speed Internet, digital cable TV, cat food, etc."].

A typical riposte is "It doesn't make sense to pay into Social Security since the fund will go broke by the year [insert worst-case scenario date, such as 2040], after payouts to retiring boomers and excessive borrowing from the fund by the feds have drained the fund dry."

Again, I don't agree. Even if the fund needs replenishing to make up for a flood of baby-boom claimants and years of deficit-driven borrowing by other federal agencies, the majority of federal legislators have consistently expressed and shown their resolve to protect it, come hell or high-water or [insert other future fund-balance challenges, such as occasional pushes for privatization, investment-industry lobbying for opt-out alternatives, and the like].

In short, I think Congress will keep the fund functioning and afloat, and I believe it makes sense to plan ahead for the best possible Social Security payout after you reach the mandatory Social Security retirement age (even if you decide to continue working).

Copyright 2007 by Anthony Mancuso

This article is provided as information and opinion. Please check with a legal or tax advisor for legal or tax advice.

September 27, 2007

LLCs: Still in the Headlines

I was interviewed recently by Kelly Spors of The Wall Street Journal for a Q & A piece ("Steps to Take to Form an LLC," published in the WSJ, March 13, 2007). After going through the usual informational spiel I am accustomed to providing to reporters, it occurred to me that since LLCs are no longer the new kid on the business entity block, having reached at least adolescent age among its business entity peers, it was time to take inventory of its current pluses and minuses:

+ State-law limited liability law still provides relatively cheap protection against personal liability for business debts and claims.

- In some states, LLCs are charged an extra $500 or more annually to do business as an LLC. In California, for example, an LLC can be charged up to $12,000 annually in state fees and taxes if it has significant gross receipts.

+ Forming an LLC will not normally change the current tax status of a business. A sole owner of an LLC continues to file Form 1040 Schedule C to report profits and losses; a co-owned LLC continues to file a 1065 partnership tax return.

- Any co-owned business is treated and taxed as a partnership. Partnership tax law is no piece of cake, and it takes a real tax expert - someone who normally charges a lot - to handle these taxes and tax calculations correctly. Further, co-owned LLC treatment under the partnership tax rules is even more complicated. You'll need to find a good tax person, steeped in partnership taxation, to handle a co-owned LLC's taxes.

+ LLCs are good for setting up special management arrangements among co-owners. LLC law is flexible and allows an LLC operating agreement to be custom-tailored to fit special management needs (with special member-managed or manager-managed rights and responsibilities).

Bottom Line: I usually conclude all interviews with the following tagline: Make sure to tell people to decide they definitely need an LLC before they form one ("if it ain't broke, don't fix it"). If your business is reasonably insured and not subject to special risks, and if you don't need to set up a special type of management structure to suit your special business needs, you can probably get by just fine without filing LLC formation papers with the state.

Copyright 2007 by Anthony Mancuso

This article is provided as information and opinion. Please check with a legal or tax advisor for legal or tax advice.