The convenience of setting up an LLC makes it the business structure of choice for many beginning entrepreneurs. The situation works well for most new businesses as LLCs are uncomplicated and relatively inexpensive while providing new business owners with liability protections and a variety of other valuable benefits. However, it is important for entrepreneurs to understand that with increased business revenue, it may soon become necessary to switch structures from an LLC to an S Corp to protect financial interests.
As the income for an LLC increases, there are two major advantages gained by business owners that choose to switch to an S Corp.
Tax relief is the most well-known and perhaps the biggest advantage afforded to business owners that opt for an S Corp. Business owners utilizing the LLC business structure are responsible for paying self-employment taxes at a rate of 15.5 percent. On the other hand, the owner of an S Corporation can be paid an individual salary by the company and then claim a Foreign Earned Income Exclusion to lessen the amount of income tax to be paid.
The S Corp business structure also provides business owners to contribute more money toward retirement accounts. S Corp owners are allowed to contribute up to $18,000 to a Roth Solo 401 K plan and depending on the salary paid to the owner, he or she can then contribute up to another $36,000 a year towards a traditional Solo 401 K plan.
A number of details can influence the timing of this decision including the following:
S Corporation owners are paid a salary from company profits and what constitutes a sensible salary is dependent on the individual factors regarding the business in question. A general rule that is spoken in business circles is that two-thirds of net business income should be paid as salary to the owner but this should be considered only to be a reference point.
It may be a good idea for business owners that qualify for this tax exclusion to switch to the S Corp structure sooner than later as it permits them to become exempt from paying income tax on up to $101,300 of their salary.
Tax regulations for S Corporations vary slightly from state to state and business owners should become knowledgeable of the guideline of their particular state.
Business owners that feel they need a more comprehensive understanding of the benefits of switching from an LLC to an S Corp can contact Foster Financial here.