Thinking about forming an S corp? Compared to operating as a sole proprietor, forming an S corporation can potentially lower your tax burden.
An S corporation tax calculator can help you estimate these potential tax benefits, as well as any associated costs.
But remember, it’s not just about the taxes. You’ll also want to consider the additional costs of filing as an S corp, as well as any limits to the qualified business income (QBI) deduction you might be eligible for.
What is an S corp, and why consider it?
An S corporation (or S corp) is a business structure that’s designed to let the profits and losses flow directly to the owners’ personal income without being taxed at corporate tax rates.
Unlike a C corporation, where profits are taxed at the corporate level and again when distributed to shareholders, an S corp avoids this double taxation.
Why elect S corp status?
One of the biggest reasons to consider the S corp election is the potential for tax savings. By paying yourself a reasonable salary and taking the remaining profits as distributions, you can reduce your self-employment taxes.
The payroll tax savings and the qualified business income (QBI) deduction can be important factors in deciding whether to elect S corp status.
Keep in mind that there are also some non-tax benefits to incorporating, such as increased credibility and limited liability.
Key Factors in S Corp Tax Calculations
When you’re figuring out your S corp taxes, there are a few things you’ll want to keep in mind. Here are a few of the most important:
Reasonable Compensation
The IRS requires that S corp owners who work for the company pay themselves “reasonable compensation.” This means your salary has to be similar to what you’d pay someone else to do the same job. Figuring out reasonable compensation is vital for smart S corp tax planning.
If you underpay yourself, the IRS might take a closer look at your taxes.
Qualified Business Income (QBI) Deduction
Qualified Business Income (QBI) is the net amount of income, gains, deductions, and losses from your business. You can deduct up to 20% of your QBI, which can lower your taxable income. But, keep in mind that this deduction is limited if your income is above a certain level.
Payroll Taxes
As an S corp, you’ll need to pay payroll taxes, which include Social Security and Medicare taxes. There’s both an employer and employee portion to these taxes. One of the advantages of being an S corp is that you can shift some of your income from self-employment income to wages, which reduces the amount of self-employment tax you pay. This payroll tax savings is a factor in choosing S corp status for your business.
Using an S Corp Tax Calculator: A Step-by-Step Overview
An S corp tax calculator can help you estimate your tax obligations. Here’s a look at the kind of information you’ll need to provide to get a reliable estimate:
Inputting Financial Data
- Business Gross Revenue: This is the total income your business generates before any deductions.
- Business Expenses: These are the deductible expenses your business incurs. When using a calculator, you’ll need to anticipate what your business expenses will be. Remember to exclude any wages you pay yourself or other employees.
- S Corp W-2 Reasonable Compensation: It’s important to get a good estimate of what you’ll pay yourself as reasonable compensation, based on factors like your profession, how many hours you work, and where your business is located.
- W-2 Wages to Employees: If you have employees other than yourself, you’ll need to factor in how much you pay them in W-2 wages. If you’re the only employee, enter $0.
Additional Considerations for the Calculator
- Tax Filing Status: Your filing status affects the tax calculations.
- Other Income: You’ll need to account for income you earn from sources outside of your business, such as a W-2 job.
- Professional Service Businesses: If your business primarily provides professional services, such as law or accounting, it can affect your Qualified Business Income (QBI) deduction.
Understanding the results and limitations
Tax calculators are great for quickly estimating your tax burden under different scenarios. But it’s important to understand what the calculator is telling you, and to recognize its limitations.
Interpreting the estimated tax savings
Our S corporation tax calculator will show you the potential reduction in self-employment taxes, as well as the impact of the Qualified Business Income (QBI) deduction on your overall tax liability. This is your potential tax savings from forming an S corp.
Limitations of the calculator
Keep in mind that this calculator makes certain assumptions to simplify the estimation process. Because everyone’s tax situation is unique, it’s important to talk with a tax professional for advice tailored to your specific circumstances.
Additional S corp expenses
Keep in mind, too, that there may be additional costs associated with running your business as an S corp. These may include the cost of S corp tax preparation, payroll provider fees, and state incorporation or annual fees.
Key Takeaways
Deciding whether to elect S corp status is a big decision. While it could mean significant tax savings, it can also come with downsides, such as lower qualified business income deductions and higher filing fees.
This S corp tax calculator is a good place to start, but it’s no substitute for personalized advice from a qualified tax professional.
Ultimately, the S corp structure isn’t a one-size-fits-all solution. The best entity for your business depends on your unique circumstances.