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S-Corp Election Going into 2021

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  • S-Corp Election Going into 2021

    The decision to incorporate and make an s-corp election has come up again and I wanted to get other doc's thoughts. I know the Biden tax plan hasn't been passed, and any discussion of whether it will is pure speculation, but the government has been spending like crazy, so a tax hike seems inevitable at some point. If the SS tax phase out continues to increase and its implemented at income above $400k, it really starts to squeeze typical physician wages.

    I have the ability to incorporate as a single member LLC and that LLC would become a member of my practice's LLC (rather than me as an individual). That would enable me to make an S-Corp election and save on taxes. For easy math purposes, let's say the income from the practice is $400k and I paid myself a $150k salary and took $250k as a distribution. That would save $7,250 in taxes (250k x 2.9% medicare tax). Aside from a small filing fee each year, my state does not have any special tax or treatment of pass through entities. I would obviously have to pay state and federal unemployment which is probably close to $1k a year, and then an additional $1k for someone to run payroll and do the tax filings. That's still a $5,200 savings after expenses, which would almost fill up my Roth IRA for the year.

    Am I missing something as to the savings? I really value simplicity, but it seems like a no-brainer for several thousand dollars in savings per year, especially as income increases.

    Our household income is above the $415k QBI phase out and even if we did some major deductions, it would still be very close to that, so the QBI isn't much of a savings.

    It would be great to hear others' thoughts.

  • #2
    question 1, 2, and 3 are: what is a reasonable salary for someone in your specialty, in your area, with your level of experience and expertise? If $150k is a ridiculously low number (as would be for most physicians working full time) then you're starting from an incorrect assumption

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    • #3
      I paid myself a $150k salary and took $250k as a distribution.

      I not a tax attorney but I thought about this in the past and the idea was squashed by my accountant. I dont think this idea would pass the IRS smell test.

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      • #4
        It's all about getting caught. If you don't get caught then no sweat. I prefer to stay on the good side of the IRS.

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        • #5
          I have an S Corp for my full time independent contractor gig. With advice from my CPA, I split my total business income into 50% salary, and 50% distribution. I think it is hard to justify going below 50% as a salary. The amount that 50% salary is for my speciality would be low for an employed job but probably reasonable for a base guarantee for someone on a partnership track.

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          • #6
            You are a single-man S corp with no other employee and the only source of income is what you earn as a physician.

            Hope for a split Congress after the Jan 5th GA runoff.

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            • #7
              I definitely don't want to get on the wrong side of the IRS, but I also don't want to pay $5-6k more in taxes than I have to. The rules are so vague (perhaps on purpose). What is a "reasonable wage"? Obviously as an owner you are going to make more money when the company does better, so why should I count everything I make as salary? The few IRS decisions on this are when someone takes some absurdly low salary compared to distributions.

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              • #8
                Originally posted by SeattlePilot View Post
                I definitely don't want to get on the wrong side of the IRS, but I also don't want to pay $5-6k more in taxes than I have to. The rules are so vague (perhaps on purpose). What is a "reasonable wage"? Obviously as an owner you are going to make more money when the company does better, so why should I count everything I make as salary? The few IRS decisions on this are when someone takes some absurdly low salary compared to distributions.
                The IRS purposefully makes it vague. I use large physician surveys that list the average salary of your specialty as a guide. Medscape has one every year. If the IRS comes after me and says I didn't pay myself a reasonable salary I can point to the survey and say "here is why I think my salary reasonable".

                So put yourself in the same scenario. Why do you think $150k salary is reasonable? What is the average salary for docs in your specialty? If it's $400k then you are going to have a difficult time defending it.

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                • #9
                  Originally posted by SeattlePilot View Post
                  What is a "reasonable wage"? Obviously as an owner you are going to make more money when the company does better, so why should I count everything I make as salary?
                  it’s not that complex. Your job, your expertise and experience, your area. Your circumstances

                  if you’re a surgeon working in an eat what you kill arrangement it’s hard to argue that the majority of your income isn’t derived directly from your professional services and hence a majority of your pay should be W2 Compensation

                  if you’re an owner in a big clinic with lots of employees doing revenue generating work and have ancillary services also generating income then it may be entirely reasonable that Profit Distributions make the majority of your income, exceeding W2 Compensation

                  we do not know your specific facts and circumstances. But I’m guessing that with a gross income $400k the former is more likely than the latter and $150k/yr W2 Comp is likely not “reasonable” if it were to be scrutinized

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                  • #10
                    Would you work for another practice for $150k? The 50:50 split mentioned by endo4jc has been the general unwritten IRS rule for many years; I d/n know of any business/practice that has been touched by the IRS following this guide and we apply it to our clients. spiritrider has discussed a new targeted IRS guideline several times on the forum and I’ve been hoping he would chime in; I think it’s 2:1 wages/distributions. But so far, we’re comfortable with the 1:1 ratio.

                    You also overlooked the additional administrative costs of tax preparation and planning, which could easily add another $2,500 or so from an experienced and knowledgeable CPA. Also bookkeeping cleanup, if needed.

                    Of course, if you’re audited, all bets are off. But I d/n respect or take on relationships with those who play audit lottery. However, it shouldn’t be very difficult to find a firm with a different POV.
                    Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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