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I know this has been asked before, but I would like some fresh input. I specialize in custom remodels and additions. We are doing most of our own design work and are picking up more jobs where we are the G.C. for the project. Right now my crew consists of myself and a helper handling the job evaluations, proposals, and construction. My wife takes care of answering the phone and picks up materials sometimes.
I am expecting our business volume to exceed $150,000.00 next year. I am currently set up as a sole proprietorship.(sp?) Are the benefits of incorporating enough at this small volume enough to warrant the expense?
Thanks in advance for the help.
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The only benefit incorporation offes is limited liability. From a tax standpoint, it sucks since your end up being double taxed at corporate and personal levels. So if available where you are, form a limited liability company (LLC) which gives you the benefit without the detriment.
SHG
*SHG, Thanks. I know that it is possible to set up an LLC here in Georgia. I did not realize that it would be the business structure that would be beneficial to me. I had been under the impression that it was geared toward companies with much higher volume. Again thank you.
*Tim, properly run LLC's and C corps limit your liability to the assets of the corp. If you don't have anything to lose, you don't need either. If you plan on being successful, you need protection.Don't automatically rule out a C Corp because of the double taxation issue. There are some reasons that make a C Corp desirable, mostly for benifit allocation to officers (you). I have been a C Corp for years and have never been taxed twice because I always empty the Corp of all assets each year. Actually, I've been stupid and should have let my Corp pay taxes on some of the cash and left it in. Corps have a lower tax rate!The LLC allows money to flow through. They are invisible as far as the IRS is concerned. They also have less demanding corporate requirements. It could very well be a good choice for your business.A better tax strategy might involve the use of both. For instance, you might do all your design services with the C Corp, thus providing a minimum amount of income that would allow you to reap the benifits of the C Corp laws, without leaving excess cash that would be double taxed. Then, you could funnel the higher cash business through an LLC, which allows the income to flow to you personally. Don't overcomplicate your life, but keep in mind that if you are willing to invest the time to run one Corp properly, the second is not that much more trouble. The tax savings will easily pay the accounting bill...Note: if you don't follow the Corp or LLC requirements, you lose the liability protection safty net. Board meetings, Stock issuances, etc.blue
*tim .. i was a sole prop for over 20 years.....i chose S-corp...after looking at different scenarios.. and talking to my lawyer & accountant..... i don't believe that C, or LLC affords any more protection in this day & age than S- Sorp... and at my volume and cash flow.. i like the ability to keep my books on the CASH BASIS as far as the IRS is concerned ....the ACCRUAL basis was too brutal for my potential tax liabilities...incorporating has put discipline into my business structure and working habits that didn't exist before.. #1..i take a check every week before i pay anyone else.. as a sole prop. i usually paid myself last.. guess what ?i c
*TimCheck with your attorny, but I think that you will find that neither a LLC or incorporation will offer you much protection.Say you cut throught a main support beam and don't fix it. Of course Tim Thompsom construction company will be sued, but also will be the INDIVIDUAL that did the damage, Tim Thompson.Incorporation will never protect you from errors that you personally make. What protection it gives you is if your employee did something that was against company rules. For example you had explained proper way to tie down materials on a truck and seen that it did it correctly, but one time he picked up a load and did not tie it down and caused an accident.Keep GOOOD insurance.
*Mike, I'm not aware that LLC's and C Corp's are required to use the accrual basis. Are you sure that wasn't changed in 1987 with the new tax laws? That is an excellent point however. It forced me to re-visit my Dyches Boddiford Corporate Fortress material. Thanks for the challenge.By the way there is no discernible difference between the liability protection afforded by any of the three (C, S Corp or LLC). Dyches warns however that there is very little case law available for LLC's and therefore might be open to new challenges that need to be explored. You might end up being a test case for some enterprising lawyer!There actually are many tax benefits(some are relatively sophisticated-check with your accountant) avaialable for corps and LLC's. It just doesn't make sense to operate as a sole proprietor in this litigious society, escpecially when it costs you more to do so. Here's a few tips that Dyches gives for getting money out of a C corp and avoiding self employment or Fica taxes: Rent your corporate office space from yourself, make loans to the corp and get interest, take dividends instead of salary, deduct the mileage from the corp office to the job, deduct life, health and disability insurance, deduct medical expenses not covered by insurance, rent equipment from your children. There's more....split income into multiple corps, thus keeping below the 50k threshold and therfore incur minimum corp tax...Dyches also advises startup business to choose S corp if they have a doubt about the need for a c corp.blue
*Bill, you are way out in left field with those comments. Your one correct statement is "keep good insurance". An umbrella policy will do wonders too.blue
*Actually I'll have to disagree with those who say the primary benefit to incorporation is liability protection. In fact being a Sub S(the most common small business incorporation form) provides very little liability protection. That is because most lenders, vendors, etc are going to require you to sign contracts and such both as the corp and as an individual. Plus, if you are a one-person corp, very common also, you get hit because you are the one doing the work. Having been on both sides of this believe me don't count on a Sub S to save you come lawyer time.As for the tax benefits; there are substantial Federal Tax benefits. First off; if you are in a Sub S you are an employee of the Corp. So, the employer part of Federal Taxes becomes an operating expense. That reduces your net income. Because the net income is lower your tax bill is lower. The general rule is to pay for everything possible with before tax dollars because that reduces your Federal Tax bill.There may, or may not, be substantial tax benefits at the State and Local levels. There are so many different sets of rules there that you need to talk to a Tax Accountant in your area for correct information. But, most of the time there is also a tax benefit there too.Plus, as a Corp you can pay yourself a small, but liveable wage and accumulate assets in the Sub S. Check with your Tax Accountant for the details on the math. Plus, many expenses become corporate expenses thus reducing your bottom line and your taxes.Bottom line: Unless you live in one of the States or Municipalities that has horrible taxation there is no question becoming a Sub S as a small business pays dividends. Pay for a couple hours of a Tax Accountant's, preferably an EA, time to show you how the math works. It will be well worth it.
*BlueFrom http://www.quicken.com/cms/viewers/article/small_business/42977b Liability for your own actsi If Andrea herself had dropped the case of cans, the fact that she is a shareholder, officer and director of the corporation wouldn t protect her from personal liability. She would still be personally liable for the wrongs (called torts, in legal lingo) that she personally commits. So much for theory. In practice, incorporating may not actually give you broad legal protection.
*When I formed my LLC,the lawyer was carefull to explain that "you are always resonsible for acts of your own hand"I was not really concerned about my screw-ups,rather I was looking for protection regaurding the screw-ups of employees and subs.My LLC plus an extortionate insurance policy handles this nicely.A sole prop. with an insurance policy lacks the same level of protection.The guy who started this thread is smart to consider all of this.When you are first starting out with a few tools,no money and no employees you are not too concerned about this since you have nothing to lose-----your big concern is hustling up enough work.Eventually,as you accumulate employees,assets,additional family responsibilities,substantial investments in equipment and advertising,and your business begins to take on a life of it's own-----this issue becomes WAY more important to you.
*>She would still be personally liable for the wrongs (called torts, in legal lingo) that she personally commits. Torts are a whole different area, and misses the point. Errors committed in the course of performance of work are not torts. Torts are the personal violation of a duty from one person to another, such as the duty of reasonable care. But the example given earlier, about cutting the beam, is off base. That is a contractual, not personal, duty and would not give rise to personal liability.The liability protection of an LLC has been well tested and it no different than corporate limited liability. Cash or accural basis accounting has nothing to do with the entity used. Fred's point is important, but does not distinguish between entities. Nobody will give you a loan if you lack the financial resources to back it up on default. So, if your entity does not have retained earnings, then you will have to sign personally as well because your business is essentially a shell. But this would be the case no matter what entity it is if it does not have assets.If your business makes enough money and is such that you want to keep retained earnings in the business, thereby being subject to only the corporate tax rate and not the personal rate, it makes sense to be a corporations, whether C or S type. For most people here, retained earnings aren't an issue and they don't keep a healthy corporate bank account but take all of the money out for personal use.An LLC was created as a substitute for an S type corporation. The benefits are that you don't have to pay franchise tax, file two returns and pay double tax on some earnings. Other than that, the two are relatively indistinguishable.One other important point, where most people screw things up: If you don't use the business formalities, you lose the limited liability protection. It's called piercing the corporate veil. I have seen this happen continually, and it's a shame that people don't take the entity seriously enough to use it properly.Last point, when I do business with an unfunded corporate entity or LLC, I require the person to indemnify the business. I won't do business with people who have nothing at risk. I do, they should too.SHG
*Thanks Shg for those clarifications.Stephen points out an important fact: when you start out, you really don't have anything to lose, but it's important to plan for success.For instance, I purchased some vacant land. All I had in it was a low down payment and a lot of liability in the form of a land contract. I purchased it in my own name. Well, I got lucky and the property rapidly appreciated. Now, I have something to lose and I'm worried. I have to transfer the asset into something to protect it (an LLC). I also want to sell some of the equity and do a 1031 tax exchange. Well, I've been advised that the quick "flip" will negate/jeapordize my ability to do the exchange. I'd have to leave the property in my name for a period of time, then put it into the LLC-preferrably in different tax years. The buyer wants it in the LLC now. I've decided to just pay the capital gains. This could have been avoided by putting the asset into the proper entity in the first place.Plan for success. Assume you will have something to lose. Protect yourself with entities, trusts and insurance. blue
*My homebuilding company has always been Sub S, but recently realized there are some benefits to C Corp, so I am shifting a small amount (50K)to the C Corp for purposes of having the fringe benefits paid with before tax dollars that you cannot do in a Sub S. The C Corp tax rate is 15% up to 50K in net income, which is of course very favorable. My C Corp is also on a fiscal year (July to July) rather than the required calendar year of S Corps, so you can take advantage of timing issues to one's advantage. One problem is you can only build up retained earnings to 250K before you get hit with penalties from IRS. There is also no easy way getting these retained earnings out of a C Corp without double taxes. Dividends are not an option since they are not deductible to the corp, and are recognized as ordinary income on a personal level. You can at some point dissolve the corp and pay capital gains of 20%. Liability issues are the same for C & S Corp's. Allan
*Allan, a C Corp can retain earnings beyond the 250k level, without being labeled a personal holding corporation (39% taxation) by having a good business reason for doing so. A resolution must be passed at a board meeting that states the reason and authorizes the retention. A good reason might be that the corp wants to pay save and pay cash for a building that might cost 800k.I'm researching the dividend issue. It's tricky but there are certain situations that would result in lower taxes by paying some dividends. How do I know? Dyches says so and has a chart.blue
*Blue:The 250K limit on retained earnings has nothing to do with being a personal holding company, which is another trap you want to avoid. I would like to know how paying dividends avoid double taxation if it is not a deductible expense for the corp (which it isn't) and if it is ordinary income for the individual (Which it is). I am always looking for ways to save money on taxes.Allan
*Ahhh, thanks for correcting me Allan. You're right, the 250k limit on retained earnings does not have anything to do with being a personal holding company. I confused myself because a personal holding company is taxed ani additional 39.6%. The 39.6% figure is what the i accumulated earnings tax is on amounts retained over 250k. I just saw those two same figures and spewed out the incorrect fact. Dyches mentions that paying dividends does not b automatically result in higher taxes. He states that as long as the corporation pays taxes below the 50k threshold, whick results in a 15% corp tax, then the effective rates are lower, than if all income were paid out as wages. It's only a few points difference, but what the hell, I'm game for saving some money in taxes! He advises to run the numbers-don't automatically rule dividends out.blue
*Ah, Finally! Someone else is promoting my theme! Run the number! We can post here all day. But in actuality exactly what to do depends on several variables. You don't know how they are going to work for you until you run the numbers. Do alternative tax returns, Federal, State and Local. Figure out how the Estate will be handled in your State. Look at how a sale will be handled when you decide to retire.For Most people in a small business the answer is Sub S. But even then what I think most are calling a small business and what I call a small business may be different. So, define the term for yourself so you compare apples to apples.
*>For Most people in a small business the answer is Sub S.No, it used to be a sub S. No longer the case since the creation of LLCs and LLPs. Too many of us, meaning lawyers, accountants and businespeople, get used to what has always been such that we don't keep up the knew entities. Just like builders, who like to use the materials they are most familiar with, accountants and lawyers like the entities they are most familiar with. Sub S corps were horrible, but the only game in town for a small business. That's no longer true.But the discussion above, relating to the extent of earnings, retained earnings, dividends, etc., is where the nuance comes into play. For most small contractors, the answer remains the same. And last, but not least, there is a cost to doing all of this, including crunching the numbers. For many, this is money better spent developing business instead of worrying about corporate entities. Remember, without revenues, tax rates don't matter. SHG
*Blue:If you make a $1,000 in a C Corp, and pay that out as a dividend, the C Corp still pays tax on that of (assuming the lowest tax bracket) of $150. You individually recognize that $1,000 as income, and pay according to your personal marginal tax bracket 15%-38.6%, meaning your total taxes are from 30%-53.6%. I still have not seen a desirable way to take money out of a C Corp without somewhat of a double tax. Having said that, I plan to shift 50K of income from my S Corp to my C Corp, saving $13,153 per year in taxes, for 5-6 years, building my retained earnings up in the C Corp to the $250K threshold. At that time I will be close to retirement, and will then worry as to how to get the money out without double taxation. I will have saved over $65K in taxes, and with interest that amounts to over $75K saved. There is also a little known provision that allows C Corp's to exclude 70% of dividends received from another corporation. If I invest this money into a stock paying high dividends (like utility stock) of say 5%,the Corp pays taxes of 15% on 1.5% of the yield (30% x 5%), at a rate of 15%. So if the corp earns $5,000 in dividends, it pays taxes of $225. If that same money were in my name personally, I would pay $1,930 in taxes ($5000. x 38.6%), another savings of $1,705 annually. It basically improves my rate of return from an after tax rate of 3.07% to $4.775%. I can also pay some pretty generous fringe benefits from my C Corp as a business expense that I cannot pay from my S Corp. Allan
*I tend to agree SHG. LLC's are so much easier, less formalities and have the same liability protection as a Sub S. I think it's wise to encourage incorporation however, due to the extreme hazardous nature of our business.blue
*Allan, you need to fly down and attend one of Dyches Boddiford's seminars. You and him are thinking along the same lines. He's good. It soundslike your juggling enough assets to need his stuff!blue
*Sorry I was not able to get back sooner. Thanks to every one that has provided answers to my questions. I am going to sit down with my accountant in December and look at all my options. With the info I have gathered here, and along with some of my other research, I have a much better idea of the questions I need to ask him. BTW I have operated as a sole prop. for the last 11 years, so I have accumulated a fairly large inventory of tools and equipment. As someone here mentioned though, it has been hard to take the time to worry about all the issues of sheltering income and minimizing tax liability when I spend most of my time either working or lining up more work. I guess that goes right back to the statement Blue has made in other threads about good carpenters being lousy businessmen. Thanks again and I hope you all have a great Thanksgiving. Tim
*Your welcome Tim and Happy T day to you too.The question of corps is a "fun" topic since I've just recently spent some time and money researching the ideas. At this point in time, I'm planning for success. This is a marked change from my first few decades in business.Don't forget to plan for success.blue
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I know this has been asked before, but I would like some fresh input. I specialize in custom remodels and additions. We are doing most of our own design work and are picking up more jobs where we are the G.C. for the project. Right now my crew consists of myself and a helper handling the job evaluations, proposals, and construction. My wife takes care of answering the phone and picks up materials sometimes.
I am expecting our business volume to exceed $150,000.00 next year. I am currently set up as a sole proprietorship.(sp?) Are the benefits of incorporating enough at this small volume enough to warrant the expense?
Thanks in advance for the help.