Entity Selection

 

C Corporation vs S Corporation

Corporation vs Partnership

Corporation vs PLLC




C Corporation vs S Corporation

C Corporation – Business Indicators *

  • The business wants to use a different fiscal year different than the calendar year – this can delay recognition of income, and eliminate additional costs for short-lived corporations
  • The business will will show a profit immediately and earn enough to fund desired specialized pre-tax benefit plans such as those listed below (and that must also be paid to these employees) – one person corporations can take full advantage of all these programs:
    • Disability insurance (key people only)
    • Up to $50,000 in life insurance (full time employees)
    • IRC §105 Medical-dental reimbursement plans (full time employees)
    • The business will have any non-resident alien shareholder

S Corporation – Business Indicators *

  • The business may show a net annual loss of over $50,000 per shareholder during the first five years
  • The business ultimately will be sold for a substantial amount, particularly if the goodwill on sale would be linked to the business name (not personally to the business owner)
  • The business plans to retain earnings for future business spending
  • The shareholders want to reduce payroll taxes by limiting their salaries to a “reasonable” amount and paying the remaining profits out as S corporation distributions (save 15.3% on amounts up to $106,800 in 2010, and 2.9% over that amount).
  • The preferred corporate form is not clear, and a future change in corporate status may be desired

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Corporation vs Partnership

Texas Corporation – Advantages *

  • Provides limited liability for owners (partnerships do not, although corporate partners provide limited liability for their shareholders).
  • May elect a non-calendar fiscal year, providing opportunities for shareholders to accelerate or delay recognition of income.
  • May obtain significant tax benefits not available to partnership (S corporation and C corporation have different benefits; see C vs S Corporations for details).
  • No income tax owed by shareholders of insolvent corporation for “cancellation of debt” (solvent partnership members of insolvent partnerships are generally taxed on the amount of bad debt cancelled).

Texas Partnership – Advantages*

  • Not subject to the annual Texas Franchise Tax (also known as the Margin Tax) only if owned entirely by natural persons. Partnerships with a corporate, partnership or LLC partner must pay these taxes, as do each corporation, nonqualified partnership and LLC.
  • Tax rate is 1% of the lesser of (i) revenue minus employee compensation/benefits, or (ii) 70% of revenue, discounted at various percentages from $300,000 up to $900,000.
  • Less annual paperwork (no annual minutes required).
  • Far more freedom to creatively arrange different capital contributions, profit distributions, loss allocations, preferential payments and voting arrangements between owners.
  • Far more freedom to creatively arrange different benefits and tax deductions for corporate partners.
  • Fewer limitations and burdens on trust ownership of partnership (dangers exist for trust ownership of S corporation).

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Corporation vs PLLC

Texas Corporation – Advantages *

  • May elect a non-calendar fiscal year, providing opportunities for shareholders to accelerate or delay recognition of income.
  • May obtain significant tax benefits not available to PLLC (S corporation and C corporation have different benefits; see C vs S Corporations for details).
  • No income tax owed by shareholders of insolvent corporation for “cancellation of debt” (solvent PLLC members of insolvent PLLCs are generally taxed on the amount of bad debt cancelled).

Texas PLLC – Advantages*

  • Less annual paperwork (no annual minutes required, and no separate PLLC tax return required for a one person PLLC).
  • Far more freedom to creatively arrange differential capital contributions, profit distributions, loss allocations, preferential payments and voting arrangements between owners.
  • Fewer limitations and burdens on trust ownership of PLLC (dangers exist for trust ownership of S corporation).
  • Creditors of members cannot seize membership interests (and thus take some management control to force extra distributions), but can only attach earnings of the member/debtor as previously authorized by the PLLC.
  • Loans personally guaranteed by members are added to basis, so if significant losses are anticipated those increased losses may be claimed as an additional tax deduction.

A Special Word on PLLCs Taxed as an S Corporation

Some professionals advise forming a PLLC while electing to be taxed as an S corporation. This election takes away some of the benefits of being a PLLC: (1) it requires the PLLC to follow S corporation rules (no “creative arrangements” or corporate members allowed, to name a few), (2) the level of initial filings, tax returns and other tax complexity is significantly higher, and (3) the increased potential for confusion and mistakes by members and professionals, due to state and federal laws that do not provide clear answers on the treatment of this hybrid entity.

Consider carefully whether the certainty of these burdens is worthwhile as compared to the relatively minor recordkeeping requirements of a straight S corporation and the (probably low?) chance of there ever being a charging order issued against a member.

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* This tax comparison of entity structure is intended to address a typical Texas startup of a small business organization. This comparison is not exhaustive, nor does it apply necessarily in each and every circumstance. The contents of this website are not intended to be, nor shall they be considered, legal advice or legal opinions. Please see your CPA and/or attorney for more thorough coverage of the subject.

DISCLAIMER: Pursuant to applicable federal regulations, we are required to inform you that any advice contained in this communication is not intended to be used nor can it be used for purposes of (1) avoiding tax penalties or (2) promoting, marketing or recommending to another party any transaction or matter addressed above.