Husband and Wife; Two sole proprietors vs LLC

[donquixote]

My wife and me have permanent jobs with salaries which allow us to max out our 401k and 403b respectively. I have a locums sole proprietorship which I use to maximize a solo 401(K). My wife is now interested in doing locums work. Her projected locums income is projected to be around 50k. My locums income is projected to be around 250k. What is the best way to proceed. Should she keep everything separate and have her own sole proprietorship or do we need to form a LLC or is there any other consideration that we would need to use to maximize our retirement and minimize our taxes. I am planning on letting her do all the marketing and administering the LLC if we proceed with that. We live and practice in a non-Community property state.

[DMFA]

Marketing and administering? How much income will be directly from your work (like doctoring) vs other things like goods or passive services like a website?

If it's the latter, and you can reasonably take a corporate distribution for profits instead of claiming income (thereby avoiding payroll tax), then you *might* consider an S-corp.

[donquixote]

I think there will be no passive income. Most of the income will be active locums work. My wife is planning on starting and managing a website to increase my visibility and get new business so that I can get more long term contracts instead of short term locums.

[spiritrider]

Another useful option in this case may be to keep "your" sole proprietorship open and "elect" to treat it as a "Qualified Joint Venture" (QJV). See the instructions for Schedule C and search for "qualified joint venture". The IRS has been offering this option for about ten years now. It has largely remained under the radar, but provides advantages in many circumstances.

You elect this option by simply allocating the sole proprietorship's revenue/expenses between the two spouses in the manner the two of you agree to. You each then file a Schedule C and Schedule SE based on that allocation. This allows you to treat the sole proprietorship kind of like a partnership without the cost and complexity of a partnership return and individual K-1s.

This will also allow you and your wife to have just one solo 401k with two individual accounts. From your fact pattern, she would clearly qualify as a "material participant" from both her own locum work and by being primarily responsible for marketing and administration.

This would allow you to split the revenue/expenses 50:50. So you could have $250K in locum and she could have $50K and you could treat it as each of you receiving $150K. A real benefit is when a spouse qualifies as a material participant, but provides no revenue, they can still be allocated 50:50 of the revenue/expenses.

There is no need to create an LLC. In fact, if you have an LLC this prevents you from electing to file as a QJV unless you are in a community property state.

[donquixote]

Thank you spiritrider I had no idea about this and actually it may solve another of my problems.

How much should my wife generate or contribute for her to be a "material participant" and be eligible for 50:50 split of the revenue? Does she even need to do any locums work at all? From what you are saying she can contribute just in administration of the business and get a 50:50 split.

Also it looks like once we elect for a QJV we cannot change it for 5 years. Does it mean that we have to file taxes jointly for the next five years or does it mean we cannot form a LLC or S-corp for the next 5 years?

The issue which I didnt think about but which this may solve is the left over pre-tax money due to my 403b. As I have posted before my employer retirement is is a 403(b). I can only contribute 25k to my solo 401(k) and not the full 20% allowed due to the yearly 53k max of all accounts for a 403b unlike a 401k. Thus I am not able to contribute around 10k of the maximum 20% allowed from my locums income. If I can do a 50:50 split with my wife and share some of the income with her, it will help her have her own solo 401(k) and also will help maximizing amount we can contribute pre-tax as a family.

[Marko-ER]

Great conversation... I am interested in the same issue and I would love to hear input from other sources.

[spiritrider]

She would not need to have any locum revenue of her own. This is probably one of the least known benefits available to a couple. Especially for physicians, when you only have one spouse with the revenue source. The usual way of handling this is to hire the non-professional spouse as a W-2 employee.

If you want to allow the spouse to make the maximum employee deferral of $18K/$24K >= age 50 and take full advantage of the employer contribution, you need W-2 wages of $30K/$40K >= age 50. The IRS requires it to be real work at a fair market value. Assume you can pay $15/$20 hour, that is still 2000 hours/year which is full time.

It is often hard to come up with a credible story for that amount of work. The material participation standards are far lower and the opportunities for far higher income presents itself. Here are the standards.

 

You can claim to have materially participated in the operation of a trade or business activity by meeting one of seven following tests:
1. You work 500 hours or more in the activity during the year.
2. You do all, or nearly all, of the work in the activity.
3. You work more than 100 hours in the activity during the year, and no one else works more than you do.
4. The activity is a significant participation activity (SPA), and the sum of the SPAs in which you work 100–500 hours exceeds 500 hours for the year.
5. You materially participated in the activity in any 5 of the previous 10 years.
6. The activity is a personal service activity and you materially participated in that activity in any three prior years.
7. Based on all of the facts and circumstances, you participate in the activity on a regular, continuous, and substantial basis during that year. Note that this test only applies if you work at least 100 hours in the activity, no one else works more hours than you in the activity, and no one else receives compensation for managing the activity.