While some businesses choose to serve as s-corporations or c-corporations for their business, oftentimes people see those choices as either too complicated or not tax advantageous. Sometimes in certain practices such as real estate holdings, it doesn’t make sense to operate as an s-corporation or c-corporation. Therefore, sometimes businesses will be taxed as sole proprietorships or partnerships.
Choosing a tax entity for your business doesn’t need to be complicated.
When filing for an FEIN with the IRS for a corporation, the IRS will automatically default the corporation’s default filing status to a c-corp. It is then the responsibility of a business owner to either elect s-corp status to be taxed as an s-corporation or to elect disregarded entity status. But when a business first obtains an FEIN, if it is an LLC, there will be a prompt that inquires how many people own the LLC.
If the answer is “one”, then the LLC will automatically default to a sole proprietorship for tax purposes. Information related to a sole proprietorship are reported on the Schedule C of an individual that owns the business. One of the negatives to sole proprietorship is the self-employment tax. You usually must pay self-employment tax if you had net earnings from self-employment of $400 or more. Generally, the amount subject to self-employment tax is 92.35% of your net earnings from self-employment. You calculate net earnings by subtracting ordinary and necessary trade or business expenses from the gross income you derived from your trade or business. Conversely, owners of s-corporations can get a huge break on self-employment tax, but we’ll save that for another blog. An S corporation provides limited liability protection but also offers corporations with 100 shareholders or fewer to be taxed as a partnership.
When an entity is acquiring it’s FEIN and it chooses that these is NOT just one owner of the business, then the business will default to a partnership. LLCs are beneficial for sole proprietorships and partnerships. An LLC with multiple owners would be taxed as a partnership, meaning each owner would report profit and losses on their personal tax return. Partnerships file Form 1065 as an informational return to the IRS and state tax departments while providing its owners with a Schedule K-1.
Choosing a tax entity for your business doesn’t need to be complicated. It’s something that is highly recommended to consult with a professional tax attorney or accountant on to ensure that you’re following the proper procedure. If you have any other questions, please feel free to reach out to the professionals at Hampleman Law, LLC today!