As we move into 2018, and the new tax laws take effect, there is a lot of talk about C Corporations. For years, they have been the business structure to avoid. That’s because they are more complicated and the tax rate wasn’t that different from individual tax rates. That’s important because the C Corporation is the one business structure that pays tax itself. It is not a pass-through entity like a partnership or S Corporation.
There have always been a few who like C Corporations because of the anonymity they can offer, the separate tax brackets, better benefits for owners and supposedly the ability to shift income from one high tax state to another no tax state.
Some of those assertions are true and some are kind of true.
Is your ownership anonymous in a C Corporation?
Not really. The C Corporation return (Form 1120) requires you to list any person or business that owns over 50% of the corporation. Corporate officers are required to be listed with the state. Unless you’re strategic with the selection of your officers and how you hold your shares, you’re going to disclose ownership one way or another.
Is there a tax benefit to having a C Corporation?
If you use a C Corp correctly, there is absolutely a tax benefit. You can make use of the tax brackets of a C Corporation which may be less than your individual ones. (This is something you will need to check with your tax preparer.) However, C Corporations can also be tricky. You need to avoid double taxation, Personal Service Company penalties, Personal Holding company issues and Excess Accumulated Earnings tax. Plus, make sure you have a strategy for taking money out of the corporation before you put income in. It’s not as easy as pulling money out of your pass-through entity.
Are there better benefits in a C Corp?
Yes, absolutely. Owners in S Corporations are actually penalized with benefits. Non-owner employees have better benefits. In the case of a C Corp, owners can receive great benefits like MERP (medical expense reimbursement plans) and others.
Can you move income from your home state to a less taxed state?
Perhaps. The issue is nexus, which is the legal term for connection. If you have nexus with a state, you have sales tax and/or income tax in that state. If you live in a state, you will have income tax in that state. Nevada is one of a handful of states that does not have state income tax. Does that mean you can simply form a Nevada C Corporation and not pay tax?
It’s not quite that simple. In fact, some states like California have said that if you live in their state and have sufficient ownership in a company formed in another state, that company is subject to California tax. Even if you live in a state that isn’t as far-reaching, though, you still have to prove that you have nexus in another state like Nevada if you form there. Other than forming the company there and maybe having an address, what other ties do you have to the state? Do you have employees there? Inventory or other personal property in the state? Do you have real property? You need to show that you have real ties to the tax-free state in order to claim nexus there. Otherwise, the income is taxable in your home state no matter what.
The underlying message in this is to have a strategy. This new tax act is a gift to those who have a business and who plan ahead.