Ep. 120 | Should I Be An S-Corp? - Teaching Tax Flow: The Podcast

Episode Transcript
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Intro (00:03):
Hey, everybody, and welcome back to the teaching tax
full podcast episode 120 today.The question at hand is, should
I be or should I not be an scorp? That is the question. So
today, we're gonna talk aboutit. We're gonna see when you
should elect to file as an scorp, but before we do that,
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John Tripolsky (01:16):
Alright, everybody. We are back here
again on the TTF, the teachingtax flow podcast. And obviously,
in the intro, we said it. We aregonna dive into when you should
elect to be an s corp. So whatdoes that mean?
I'm sure if you're in certain,certain business activities, you
may have heard that being an scorp is the best thing you could

(01:37):
possibly do, but you could bewrong or you could be right. So
we're gonna dive into this.Obviously, I brought my, better
looking smarter cohost, ChrisPacuro, to the party. Chris,
what's happening, man? How areyou?

Chris Picciurro (01:48):
I'm great. How are you doing?

I'm doing good. I'm doing good. I know this is a
topic again. You know, we saythat all the time because we
plan these out, and we base thecontent off what people are
asking. But this, again, reallyis something we hear a lot.
And, you know, myself not beingin the tax world, you know, like
you are and and some of ourcolleagues are, it it's almost
confusing to me at times becausesome people get so jazzed up.

(02:11):
They get so excited about it.And then it's like, it's
probably not the best idea. So Ilook forward to having this
discussion. And, you know,maybe, Chris, we start off with,
you know, what exactly is an scorp?
You know, is this something youcheck the box?

Well, we did do a previous episode on s corp
basics. So I'm gonna I thinkthat was episode 45 somewhere in
there, and that's where wereally walk through what an s
corp is. But in our privatepractice, I talk to people we're
working with we're working withall the time that ideas are
cheap and implementation isvaluable. So we're not yeah. I'm
gonna explain what an s corp is,but we have an entire episode on

(02:58):
the nuts and bolts of what an scorp is.
Today, we're gonna focus on whenyou should actually apply this
concept to your situation andwhen it's probably not a great
idea to to apply it. We alwaysrecommend you work with your tax
professional and talk throughthe long term ramifications of
any type of decision. To answeryour question, yeah, an s
corporation is a is kind of ahybrid type of tax entity. And

(03:24):
what it is is that if you havean LLC or a c corporation, it is
an election you make to to betaxed in a certain way. When a s
corp, what an s corp does isthat it it it has some of the,
characteristics of a corporationor a c corporation, but it has

(03:44):
the flow through of of an LLC.
Meaning, the s corp itself on afederal level is not taxed. The
owners of the s corp or theshareholders of the s corp are
taxed on their personal returnbased on the profit and loss of
the s corporation. The mainadvantage of the s corp, the the

(04:04):
99% advantage is that, in theright situation, s corp earnings
right. Here's the mainadvantage. S corp earnings or
net income from an s corp arenot subject to self employment
tax or that 15.3, which issocial security and Medicare
tax.
That's the advantage of the scorp. However, many people that

(04:25):
aren't paying that tax for somereason decide to be an s corp,
but that's the main benefit ofit. Now there are some things
you need to know about making ans corp election. And if you are
a business owner and you'reworking in the in the company,
you have to pay yourself what'scalled a reasonable
compensation. We're gonna talkabout that in a couple minutes.
And then after you pay yourselfthe reasonable compensation, the

(04:47):
remaining profit is exempt fromthe Social Security and Medicare
tax. That's the main advantageof an s corp. So that's that's
one of those things that, that alot of people, you know, you you
wanna I always think about afish tank. Right? And and, you
know, you don't wanna putfreshwater fish in a saltwater

(05:07):
fish tank and vice versa.
You have to make sure that youhave the the right tank for the
right fish. So depending on yourbusiness. So we're gonna talk
through when should you whenshould you consider to elect to
be an s corp? Now I will say onemore thing, and then we're not
gonna talk about the taxcompliance too much on the s
corp, is that you have untilMarch 15th of any year, in

(05:28):
general, give or take, dependingon leap year, holidays, weekend,
to elect s corp for that year.So if if it's February 10th, you
and let's say you have a singlemember LLC, and you decide you
wanna be an s corp, and it'sFebruary 10, 2025, you can make
that s corp election and make itretroactive back to January 1,

(05:49):
2025.
There are some issues with, youknow, if you've elect late. I
mean, there's a ton of I'm justgonna say it. It is a very messy
process, as far as the scorporation elections. Now the
form you file, a form 2553, iseasy to file, typically. But as

(06:10):
far as the IRS obtaining thatform, and I can't tell you, it's
weekly where someone says, oh, Ilike to I'm I'm an s corp, and
the IRS never got the form.
Well, I thought my attorneyfiled it out. Oh, I thought I
mailed that in. Oh, I e filedit. You can't e file it. So,
again, there's it it is kind ofa very frustrating situation for

(06:31):
many, many accountants.
However, let's talk about whenit makes sense and when it
doesn't make sense. And Sure.

So a couple things on that too, Chris. Just
kind of what I'm taking fromthis are are a few things.
Right? So to when you'reelecting to file as an f corp,
that's not, you know, like Isaid, the I think I use the
analogy or the the situation. Ifit's not a box you check on, you
know, when you're starting your,you know, starting your
business.
It's it's not something thatkinda is behind the scenes. It's
you're never checking the s corpbox on a w nine or anything like

(07:01):
that. It's just the electionyou're making behind the scenes,
if you will. Is

that right? You you obtain a federal
identification number. You fileyour articles of organization or
incorporation with your state,and then you make the s
election. If you are a ccorporation, though, you need to
be extremely careful aboutmaking an s corp election,
because of something called thebig tax that stands for built in
gains. So that goes far beyondthe scope of this, this episode.

(07:29):
That's why you need to work witha tax professional. So let's
we're gonna jump in on when itdoes make sense to be an s corp.
So an LLC or a c corp can electto be taxed as an s s corp, and,
so when should you do it? Right?Well, the fir remember, the
advantage of the s corp is thatyou mitigate your self
employment tax or so or youmitigate double taxation in the

(07:51):
in, when you're talking about ac corp.
If you're scratching your headthinking double taxation, don't
worry. Jump on a teaching taxflows YouTube channel. We have
we have content in every type ofbusiness entity. So an s corp
could make sense, 1, if yourbusiness is profitable. Right?

(08:11):
Because you're to mitigate tax,that means you have to be paying
tax. I can't tell you how manytimes people have elected s corp
before their business is evenprofitable. That makes no sense
to me. But that's alright.That's why you had to you had to
drag me, kicking and screamingto do this episode because it it
really gets it's veryfrustrating to be quite honest.
Not just myself as you know andmany people listeners know, I am

(08:33):
very fortunate to work, for theNational Association of Tax
Professionals doing year end taxseason update. So I get to I
taught, I think, 3 or 400 othertax professionals over the fall
and winter. And trust me, I'mnot the only one that that
shakes my head and getsfrustrated about the whole s
corp process and people electingit when they shouldn't. So

(08:55):
anyway

And actually,

it's a pretty profitable for it to make sense.
If your business isn'tprofitable, an s corp election
is is is not a good idea.

Right. That's a terrible idea. Don't get excited
about it. It's not like, oh, youknow, yay. Make a sign or a
billboard that you've you know,you're now an s corp.
So how many tie I mean, not theexact number probably, but, you
know, you've been doing this awhile. So you've you've been a
tax pro for,

you know, how many centuries

now? 2 2 or 3? But was it, like, when the
Romans were around, you know,doing the Yeah.

Yeah. Actually, we had an abacus.

You did you know what it was? You're you know,
you're not that old, but I'msure you and Abe Lincoln sat
down together, had a discussionabout, you know anyways, I'll be
nice. I'll be Chris just had abirthday not too long ago if
anybody's wondering why I'mgiving him a hard time. I won't
say the number, but it's it'sup.

Yeah. That's awesome. I I was I'm I'm excited
that I made it to 50, so I'm I'mnot I'm good with

it. It's a milestone. But so so what I was
gonna ask before I say razz iton you. So do you you know, I'm
sure you've seen it a lot, butthen also, say somebody comes to
you. You get a new client or,you know, client you guys have
been working with for a while.
They you know, they're allexcited. They they've elected to
be an s. And is it a messysituation if you sit down? You

(10:08):
said that was a terrible idea.Let's revert back to how you
were before.
So if somebody did it, is itkind of a not a death wish, but
what does that look like?

It just depends on the situation. The problem is
if you revoke an s corp, thenyou go back to being a c corp.
So Okay.

The thing is consult your tax professional
before you make this sselection.

If your business is profitable, you
might it might make sense.Maybe. But if it's not
profitable, it doesn't makesense. The second thing is you
have to be able to justify areasonable salary yourself. We,
in our private practice, use,run reasonable compensation
reports for our clients todetermine what is a a a a good

(10:52):
salary.
So let me give you an example,John. Let's say you had let's
say you were a, owned a cleaningcompany. Right, and your net
profit was $200,000 Good foryou. And you're self employed or
you're a single member LLC,you're paying tax on the entire
$200 plus you're paying selfemployment tax on about $180,000

(11:12):
of

that up to your social security max. Well,

you would probably be a good candidate for
an s corp. The next step wouldbe is, alright. Well, let's look
at a reasonable compensation forsomeone that is that is running
that cleaning business. And itmight that that might come out
to, you know, $60,000. And inthat case, yours you would pay
yourself a $60,000 salary on a wtwo and you'd mitigate some of

(11:37):
the payroll taxes on theadditional $140,000 of of
profit.
Remember, you've gotta beprofitable, right, but you also
have to be able to justify areasonable salary. And those,
you know, so that's where, theIRS doesn't come out with a
salary chart. It has to be quoteunquote reasonable. So we look
at what your role is in thebusiness, what industry
standards are, and your skillsand expertise, and pay yourself

(12:01):
that reasonable salary.Reasonable salary is not 0.
If you're working in thebusiness, you have to take some
type of reasonable, salary. So

So where it probably doesn't make sense, and
I'll just throw a little simplesituation out there. Say you're
say you're 75,000 in the blackand your reasonable comp is 70
or 75,000. There's no there's nopoint in doing it with that.
Right? So it's I think a lot ofpeople would fall into that

(12:30):
unless, you know, your your yourbest way to put it maybe is, and
this is me feeling smart, is ifyou're profitable well beyond
what your reasonable comp is.
Right? So

Then it can make a lot of sense. Correct.
Awesome. Correct. That'sAwesome.
That would make so then whatwhat other reasons. Right? Let's
say you operate in a taxfriendly state. Now you've gotta
be careful. I live in the stateof Tennessee.
It's very it's very muchconsidered tax friendly.
However, we do have a franchiseand excise tax. States like
California have a franchise taxas well. So when you elect s

(13:02):
corp, you might you gotta makesure that you're not triggering
some type of state or local tax.Now this podcast, we focus on
the federal tax, but it is aconsideration.
So if you operate in a taxfriendly state, then an s corp
might make sense. And the otherthing is, if you want to, like I
said, pass through you know, youdon't wanna be subject to double
taxation. So if you wanna passthrough your tax for the

(13:24):
business onto your personalreturn, or if you potentially
want the opportunity to have thehave your entity pay for your
state tax and get a deductionfor it because many, you know,
right now under the Tax Cuts andJobs Act, your your state and
local income tax deduction iscapped at $10,000. So if you're

(13:46):
listening to this, let's not getin the weeds too much. If you're
paying a significant amount ofstate tax and you're self
employed or a partnership, youmight wanna consider s corp and
then especially if you're selfemployed, and then make a what's
called PTETs, which stands forpass through entity tax
election.
So that's what I'm looking foris ultimately the s corp makes

(14:09):
sense if you can pay yourself orre justify a reasonable salary
and pay yourself that, and if itmakes sense tax wise, if there's
enough tax savings or taxmitigation to justify the
effort. In general, remember, ifyou elect an s corp, you've
gotta pay yourself salaries.You've got you've got w two

(14:31):
wages. You have, 11.20 s, whichis a a separate tax return. So
in general, the compliance foran s corp, is gonna run, as far
as tax prep and payrollprocessing, is gonna run at a
minimum of $2,000 a year.
On average, probably about 4 to$5,000 a year. So there's a cost
to it, But if you're gonna save30,000 in tax, okay, now it

(14:53):
might make sense.

Right. No. It's awesome to to break it down like
that. And I think it's reallywhat we're getting into. You
know, I I kinda see a little bitof a trend.
It's we're talking more aboutwhen it's not appropriate really
than when it is. So I'm gonnamake the assumption that
majority of the people that youcome across, you're kinda like,
you know, probably not the bestidea for you to do that. And

(15:20):
then, you know, really in inyour private practice over the
years, I mean, what whatindustry do you think, like, the
the makeup of the type ofindividual in business? Have you
seen it the the majority of thetime than

When you're the nice. Right. Because they do
Let's say you have a medicaldoctor, and they're self
employed. Right? And they make$200,000 a year.
I can't justify paying a medicaldoctor that is a 100%, in their
practice, much less than the$150,000 a year, maybe 1.70.

(15:53):
We'd have to run the report.Right? We'd have to do the work.
For that, there's not mucharbitrage.
So when does it make sense whenyou have a highly profitable
business and the salary that youcan pay yourself that's
reasonable is low or lower?Right? So my cleaning business
example, my you know, it justdepend you know, it's it's all

(16:15):
factually dependent. Right? So,yes, I would say more of the
like, let's just for lack ofbetter term, maybe more of the
blue collar businesses, that wecould justify a reasonable
compensation for the owner andoperator of less than a
$100,000.
Or let's say someone's notspending a 100% of their time in

(16:35):
the business. Right? So let'ssay you are a medical doctor.
You open up a a practice. Right?
And let's say you have, a coupleother doctors working there and
you're self employed and you'remaking $300,000 net, and you're
and you should be payingyourself $200,000 under w two,
but you only spend one day aweek there. Maybe you're
partially retired. Right? Thenyour reasonable comp's only 20%

(16:58):
of what you should be payingyourself on salary. So then it
would make sense.
So yep. So when should you notbe an s corp? Because this one

exactly what I was gonna ask you. It's like,
what's the not? It's like for Ifeel like we're right on the
edge. It's like, what are theones that It's like, don't don't
do it. Don't don't jump off thecliff.

Yeah. If if you're if you if you're
currently a c corp and you havehighly appreciated assets or you
or you would be subject to thatbig tax, if your business is not
profitable, there's no reason tobe an s corp. If you operate if
your business owns a lot of realestate now if you're flipping
properties that's one thing, Butif you have any type of buy and

(17:36):
hold properties, an s corp is99.999999% of the time and a
horrific idea. I usually don'tget that vulgar on the stock.

We need to make, like, a meme or something of you
saying that. It's just like yourarms up being like, horrific.
Don't do it.

It's a terrific. I'm gonna be nice.
Why? Because you don't get astep up in basis on the sale of
the property. You also you youdon't the losses from, losses
from an S corp don't flow toyour personal return on rental
properties like they would, ifyou're a partnership or you
owned it personally.
And if you take the property outof the S corp, you've got a

(18:17):
deemed sale. I'll give you areal example, Buck. Someone that
we worked with last year, theycame to us for a personalized
tax plan within teaching taxflow. The person bought a truck
for like $80, depreciated theentire thing year 1, of course,
then proceeded to sell theirbusiness, right? The business

(18:40):
got sold, and still owed moneyon the truck, and part of the
buy and sell agreement was thebuying company said well you've
gotta, you know, we're gonnayou've gotta get that truck out
of

the business. Does that make sense? Mhmm.

Truck's still worth $50, Right? Once he deeded
the truck out of the business,that's a deemed sale. He picked
up and guess what? Hedepreciated the entire truck
year 1. He just had a $50,000taxable event from moving that
truck from his s corp to hispersonal to his personal name.
How much cash did he get?Nothing. So, again, when you

(19:19):
have appreciated assets, youdon't want them that that could
come out of the business. Youdon't really wanna be an s corp.

And when you move property out of a business
like that, like, say, it's soldyou know, say you have we'll
just call it a $100,000. Youdepreciate it all in the 1st
year. Say, after a year, it'sstill worth 80. Yeah. I mean,
how does that work with, like,depreciation recapture at that
point too?
Is that Yeah.

If you like, if you take it out of the s corp,
it's all it's a deemed sale. Soyou're gonna pay taxes for the
depreciation

recapture. Yeah. Oof.

Yep. Oof.

That's a punch in the gut.

It is. So that's where that's where you
know, that's that's that's oneof those things. So yeah. I
mean, if you have a high statetax on s corps, obviously it
might not make sense. If youhave a complex ownership
structure, probably an LLC orlimited partnership's gonna make
sense because with an s corp youcan only have one class of
stock.
And you can only take you canonly allocate profit and loss

(20:15):
and distributions based on theownership percentage. So

Makes sense.

The bottom line is, unless it's a slam dunk,
unless you are go unless you'regonna find a ton of value in tax
mitigation on the payroll taxes,and that far exceeds your costs
associated with the s corp, thenit's probably best to to not be
an s corp. When you have complexownership structure, when you

(20:45):
have 8, 9, 10 different, owners,you know, it just the s corp
just starts to not not makesense. I mean, there's

a point. This was actually a a piece that came
up too. We did a did a kind ofon demand session on tax savings
for, businesses making over a150,000, and s corps came up in
that. We got a couple morecoming up. So we'll we'll be
sure to put that link too in theshow notes if anybody's
interested on either watching aprevious one or, hopping on one
of the future ones too.

Exactly. Hey. I'm a advocate of s corps in the
right situation. They coulddefinitely work. However,
probably 60 to 70% of the time,I I feel it's misused.
So if you have a question thoughand you're not sure if s corp
makes sense for you, jump intothe defeating taxes private
Facebook group. We're gonna bethere to help guide you. Don't

(21:38):
be afraid of them. Just don'tjump into them. If you formed an
s corp, and you mean and youthink maybe I shouldn't have
done that, Before you revoke theelection, talk to a tax
professional and see what yourbest option, is to to to remedy
that.
And I can't tell you how manytimes I've run a whip where

(21:59):
someone thought they're an scorp, files an s corp, and they
never the IRS never got thedocuments. They don't have
evidence. They send them the theform to the IRS, and ultimately,
they get a tax return rejected.And now you got a mess because
you've already you've got it'sjust a very messy situation. So

As you can tell by Chris' voice, he's, he's
pretty passionate about that. Ilike how he's like, I can't tell
you how many times. He probablyhas nightmares on how many times
that's happened. So I'm

just curious how you know. S corps think
about s corp. I just hit me likefire. Right? Fire can be really,
really bad.
It could be really, reallydangerous, and you can if it
goes the wrong way, you couldhave some unintended
consequences. However, if usedcorrectly, fire can keep people
warm. Fire can help you cook or,and provide food for your

(22:49):
family. So it's not fire is notgood or bad. It just has to be
used the right way.
Same with s corps.

Oh, that's a great way to end. So lean on
your tax pro to be your firekeeper.

Yeah. Be your firefighter.

And and, Chris, I actually heard this. I think
it was just earlier this week,and I feel like I heard it way
in the past too. It's a huge andI feel it's very appropriate to
what we're talking about here.You know, a lot of people look
at it and they say, oh, youknow, my my accountant and
nothing against an accountant atall. But Right.
You know, an accountant reallylooks back in time. So they're
kinda looking in the rearviewmirror where a tax professional,

(23:24):
they're doing tax planning,which is very very fitting to to
what we're talking about here.Mhmm. You know, they're they're
looking through the windshield.Going down the road, they're
looking to the future years tocome because that Right.

You

know, that example you gave, somebody
bought a vehicle. That truck,that vehicle might have been the
best thing they could do at thattime for their business, and
then they go to sell thebusiness. And it's like, oh,
crap. Where I'm sure they wereplanning for that sale a little
bit, but Right. You know, youkinda shoot them you know, shoot
yourself in the foot a littlebit there.
So it's kind of an an easy wayto look at it, but hopefully

(23:54):
it's fitting.

Absolutely. Absolutely. And one more. I'll
I'll I we said we will this willbe the final thing. It does fall
in line when when it doesn'twhen it does not make sense to
be an s corp.
Remember, mitigating payrolltaxes is the reason you would be
an s corp. I can't tell you howmany times I've seen this
situation. Let's say you are aprofessor at a university and
you make a $180,000 a year.You're basically filling up your

(24:18):
entire Social security bucket.You also then do speeches
outside of it.
Right? You're consulting and andthat sort of stuff. Hey, I'm
gonna form an s corp. Why? Youalready you're not gonna save
any you're not paying any socialsecurity anymore.
You already maxed it out, andand you actually cause yourself
more tax.

So you could see That's a great great example
too.

So we're gonna step away from the mic, John.
You know, again, this isprobably as most as fired up as
I have been on this podcast, butThat's alright.

Yeah. I can I can think of a couple other
topics that we've touched onover the years, but we won't
bring those up today? We'll savethose for a a rapid fire when,
you know, Chris you know, hedoesn't have any hair to pull
out, so I can't make thathappen. But, you know, we'll
we'll have fun with that. Butand also so coming up next week
on the show, we have a we have areally good topic again with a

(25:08):
great guest on it, and I'll giveyou a little preview of it.
We're gonna talk about farm tax.So even if you're not in that
industry, if you're, you know,you're not in the agriculture,
you know, the agriculturalbusiness, the ag business, might
be something interesting tolisten to because it's not every
day you can get thisinformation. So we got a guest
joining us on that one. And asChris mentioned a little bit

(25:28):
earlier too, jump on thatprivate Facebook group,
defeating taxes.com. We'llactually take you straight to
it.
You don't have to searchFacebook or anything for it.
We'll put the link in the shownotes for it. Make it really,
really easy for you, so noexcuse. And be sure to subscribe
to the podcast wherever youlisten to it. And as always, I
always feel like I tweak this alittle bit, my little outro
here, but we'll see you backhere again next week, roughly

(25:50):
the same time, completelydifferent topic on the Teaching
Tax Wealth podcast.
Have a great week, everybody.The content provided is for
educational purposes only.

Disclaimer (26:00):
We encourage you to seek personalized investment
advice from your financialprofessional. For all tax and
legal advice, please consultyour CPA or attorney. Investment
advisory services are offeredthrough Cabin Advisors, a
registered investment adviser.
Securities are offered throughCabin Securities, a registered
broker dealer. The content ofthis podcast does not constitute
an offer of securities.Offerings can only be made

(26:20):
through an offering memorandum,and you should carefully examine
the risk factors and otherinformation containing the
memorandum.

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Ep. 120 | Should I Be An S-Corp?

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