Duluth/Lawrenceville/Johns Creek CPA on Converting Your Georgia C Corporation or Georgia LLC to an S Corporation
Incorporating in Georgia
With changes over the last ten plus years in state law, more and more Georgia based businesses are incorporating as an LLC because of the ease of the initial set up of the business entity. However, frequently this may not be the best “tax choice” for the business as an LLC pays FICA and Medicaid taxes on all of its net earnings out of the business, whereas an active S Corporation owner will pay FICA and Medicaid taxes on its W-2. Tax law does require, however, that all S Corporation owners are to take a fair and reasonable salary given position and profit. Though the election is not in the best interest for all business’s as many LLC’s should stay an LLC for both legal and tax purposes, becoming an S Corporation is often a prudent decision for the following types of business:
-Trade Contractors such as builders, painters, landscapers, electricians, plumbers, etc.
-Retail shops such as boutiques, restaurants, clothing stores, furniture, appliances, video equipment, etc.
-Computer technicians such as contractors, retailers, repairs, programmers, etc.
-Sales Representatives including residential and commercial real estate agents, brokers, including those of most all types and territories.
-Distribution companies, resellers, wholesalers, and those in the distribution chain of a product of service.
-Service companies including consultants of all types, single owner physicians, dentists, doctors, chiropractors, etc.
C Corporations were once much more popular as an entity choice but as consumers and entrepreneurs became more aware and informed, C Corporations are much less pursued as a viable option as business owners sought to legally avoid the “double taxation” exposure of C Corporations as they are taxed first at the corporate level and then again at the personal level when monies are paid out of the corporation to the companies’ respective owners.
How S Corporations are Taxed
There is no income tax paid by as S Corporation when the annual tax return is filed to the IRS. However, as a part of the corporate return which is prepared, a Form 1120S, there is an attached schedule which shows each owners respective ownership percentage and via a Form K-1 for which each shareholder should reflect on their personal return. K-1 profits, losses, and shareholder distributions are all required by tax law to be issued based upon the each shareholders ownership percentage. In order for losses to be deductible a shareholder has to have a positive tax basis, which is a component of past profits, losses, and loans to and from the business. If a shareholder has no basis to cover losses reported on a K-1, they are by tax law considered to be “suspended losses” and can be rolled forward to future years when the shareholder has positive basis, which can be created by future years profits or the shareholder loaning money to the business.
An owner should report the K-1 profit, which is based upon their share of the business and not the amount of their shareholder distributions. This is a common misnomer about S Corporations and often leads to confusion for the new business owner. To that end it is best to remember that you pay taxes on the profits when you make them and not when you take them. For example generally speaking if your business nets $100,000 and you are the sole owner, you will pay taxes on $100,0000 whether you take zero dollar of shareholder distributions, a $100,000 or any number in between. Thus if you were to have a $100,000 profit in any given year and take no distributions then you would be able, absent any other issues, to take shareholder distributions in subsequent years with no additional tax responsibility as these monies would have already been taxed.
The rules of being an S Corporation are only four and many businesses will qualify. To be an S Corporation you must have:
- Have a December 31st year-end.
- Have less than 100 shareholders.
- Shareholders have to be U.S. citizens or resident aliens.
- Only one class of stock
For LLC’s that change from an LLC for legal purposes to an S Corporation for tax purposes, the LLC remains an LLC with the Georgia Secretary of State along with all other legal purposes. Thus, your LLC makes solely a tax election which affects none of the other contracts, licenses, trademarks, legal filings, and legal obligations of the LLC.
Contact HIS CPA PC (A Christian CPA Firm) today.
To learn more about tax entities and the taxation thereof visit http://www.hiscpa.com/article2.html There you will also discover a wide host of resources for American Entrepreneurs
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