If Taxes Rise, Should You Form An LLC or Incorporate?

Discussion in 'Economics' started by TraderZones, Jul 29, 2009.

  1. If Taxes Rise, Should You Form An LLC or Incorporate?

    Why, in this age of ever-increasing personal taxes, do business owners prefer to set up a limited liability company? With an LLC, profits are taxed at individual tax rates. Wouldn't it be better to form a C corporation, where profits are taxed at the corporate rate?
    -- Don Sutherland, Naples, Fla.

    Answer: No. In almost all cases, the LLC provides a distinct tax advantage over the C corporation – and that's likely to remain the case, even if individual tax rates do go up.

    Merl & Hanley accountant Michael Hanley tells Small Business Editor Colleen DeBaise the advantages and disadvantages of LLCs versus other types of companies.

    When you set your company up as an LLC, profits from the business "pass through" to your personal income tax return, so you're taxed at individual rates, the highest of which is 35% for 2009.

    When you set your company up as a C corporation, the business is technically a separate entity that pays taxes on its profits at the corporate rate, which starts at 15% for the first $50,000 of income, but can run as high as 39% for 2009. Then you're taxed again – the infamous "double tax" trap – at your individual tax rate when you withdraw some of those profits as a dividend. For that reason, "there's rarely a tax benefit with a C corporation," says Michael T. Hanley, a managing partner with Merl & Hanley in Smithtown, N.Y.

    In recent years, the LLC has become the entity of choice for most start-ups, largely because it allows pass-through tax treatment while shielding members from personal liability. The management structure of an LLC is also more flexible than that of a corporation, so owners can divvy up operational duties and split income as they see fit, says Alan C. Ederer, an attorney with Westerman Ball Ederer Miller & Sharfstein in Mineola, N.Y.

    However, the C corporation is often the best choice for business owners seeking venture capital, as its shares are easily transferrable to investors, he says.
  2. Daal


    As it currently stands it doesnt provide much of a advantage to own C corps. But a return to 1960-70 tax rates are possible. During that period it was better to your activities through a corporation since the top personal income tax rate was so absurd(70%, against a 50% corp)
    Most of the wealthy people might decide to do their lobbying to protect the corp rates
  3. what about offshore corporations. i don't know if you can do that in america.
  4. Bob111


  5. Bob111


    mmm..i'm still not sure about that..
    one may form C corp and take benefit of initial 15% tax rate on first 50K..but again-it's only 50K..maybe some sort of combo..i still unable to find any big tax benefits in incorporation or LLC..deduct some expenses, that are subject to 2% floor on regular return-yes, "protect" some of the capital-maybe, but that's about it.
  6. edpolton


    Income from an LLC is also subject to self employment tax (about 15%) on top of income tax.

    In my opinion S-Corp is still the way to go. Pay yourself a small base salary and take the rest as shareholder distributions and pay regular tax rate depending upon your bracket.
  7. tommintj


    A "C" corporation can setup a defined benefit program for its employees. The deduction for a defined benefit (DB) can get quite large. A DB is the way to go for older employees of the corporation. The DB deduction escapes the payroll taxes (Social Security, Medicare, unemployment). A DB trust account can have an active trader trustee (yourself).

    The way to avoid the C corp double taxation issue is to payout the corporation's earnings as payroll, bonuses, and benefits with emphasis on benefits (medical, DB). Corp expenses like a trading desk, books, classes, data services are all deductable from revenue.

    If you are not going to set a DB plan, LLCs are simpler.
  8. Bob111


    only if you meet certain criteria(something like 600 or more hours on job etc). and i'm not sure if passive profits from investment would qualify as an income
  9. I owned an S corp. You must pay out a salary that makes sense for the position, to get it by the IRS. You cannot pay yourself $16,000 a year as "President" and take out $100,000 a year as "distributions" from something like trading. It works until you are caught, then you will owe taxes, penalties and interest. And probably significant legal/CPA fees, trying to defend yourself.

    And still, it is a lot easier just to put yourself as "unemployed" and take cap gains. [Especially with futures trading using the 40/60 short/long term rule.] You have no self-employment tax and have lower taxes in general.

    Few traders need the "liability protection" provided by a corp/LLC. It does not protect you against anything not related to the trading of the biz. Not too many people slip and fall on your trading activities. And if you go into personal bankruptcy, the LLC/S corp is one of your assets, and will be taken. And few brokers will let you trade sch an account, unless you personally sign and guarantee against losses, as well.

    You can still use things like IRAs, HSAs and FSAs to get tax savings on healthcare, retirement, etc.

    For most people, trying to do LLCs or S corps is not the proper choice. It makes your life more complicated than using the current simpler methods.
  10. Bob111


    once in while i 100% agree with TZ
    #10     Jul 31, 2009