If you operate a corporation, you can enjoy a number of tax advantages that generally aren’t available to sole proprietorships and other forms of business. Here are some of the most significant tax benefits and advantages the IRS allows incorporated businesses.
Legal Protection Of Owners From Business Liabilities This is perhaps the most sought-after benefit of operating a corporation. A corporation is a separate legal and taxable entity. For this reason, a corporation incurs debt or liabilities on its own behalf, shielding its owner (s) from the responsibility of business debt. This can be especially important if the business venture is risky or for a wealthy owner. However, this protection is eliminated if a lender requires the corporate shareholders to guarantee corporate debts.
Tax Deductions For Fringe Benefits
A major benefit of incorporation includes greater tax deductions for the business, your employees, and potentially for family members of business owners. Even if you’re the only shareholder and employee of your business, benefits such as health insurance, life insurance, travel and entertainment expenses may be deductible. For example, corporations can deduct 100 percent of medical insurance premiums. Incorporating may also eliminate self-employment taxes and lower your payments for social security tax and Medicare tax. Your individual tax liability may also be reduced, as you will become an employee of the corporation.
Tax Deductions For Business Losses
There are no limits on the amount of capital or operating losses that a corporation is allowed to carry back or forward to subsequent tax years. Unincorporated entities, however, are subject to stricter rules regarding corporate losses. For example, an individual owning a sole proprietorship can’t claim a capital loss greater than $3,000 – unless he or she has offsetting capital gains.
Income Shifting
Income shifting is one of the greatest benefits of incorporating. Income shifting is the act of dividing income between a corporation and its shareholders in a way that lowers overall taxes. If you run a profitable, small business with shareholders in higher tax brackets, you stand to benefit the most from this practice.
However, smaller corporations with fewer than 100 employees may not necessarily be concerned with corporate tax rates, since profits are usually paid out as tax-deductible salaries and fringe benefits to corporate employees. But paying out all profits may not be the best option for a corporation that plans to retain earnings to expand its product line or increase its advertising budget next year. Fortunately, profits retained within a corporation are taxed at the initial rate of only 15 percent. And it’s this ability to retain earnings within the business – without bringing tax liability to shareholders – that provides an invaluable tax advantage to growing corporations.
Dividends From Other Corporations
If a corporation is cash-heavy and shareholders would prefer not to withdraw the cash assets, the “dividends received” exclusion can be very beneficial. Here’s why: A corporation can receive dividends from stock it owns in another unrelated corporation 70 percent tax- free. In other words, where an individual may be required to pay taxes on all of $10,000 corporate stock dividend, a corporation that falls within the “dividends received” exclusion is taxed on only $3,000.
Leasing Assets to your Corporation
Leasing real estate, an automobile or other personally owned property a corporation can provide significant tax savings. This strategy, which offers benefits similar to income shifting, is often closely scrutinized by the IRS. So be sure that the lease terms are fair to both parties in the transaction – to you and the corporation.
For more information about the tax benefits and other advantages available to corporations, consult your tax advisor or an attorney.
Alex D. Patel, Esq., is a licensed attorney and a member in good
standing with the California State Bar. Mr. Patel is a co-founder of
LegalFilings.com, Inc., a nationwide corporate and LLC formation
service company. www.legalfilings.com
