Stephen B. Jordan, EA

Stephen B. Jordan, EA

Pie Graph Image

Advantages & Disadvantages of Business Forms

Advantages & Disadvantages of Business Forms
Choosing the Right Business Form
Overview:  There are three basic business forms available for most business owners:
  • Proprietorship (Schedule C)
  • Regular Corporation (C Corporation)
  • S Corporation
The matrix on below provides an excellent overview of the differences.  This section highlights important strategies for
the different forms of business.
Description
Schedule C
Proprietorship
Regular
Corporation
S
Corporation
Reasonable salary*
Not an issue
Deductible
Deductible
Unreasonable
(excessive) salary
Not an issue
Not deductible by
corporation; 
dividend to
shareholder/employee
Generally, not an 
issue for shareholder/
employees
Social security
taxes
Self-Employment tax   
based on bottom-line
Schedule C income
Taxed 50% to 
corporation and
50% to employee
Same as
regular corporation
Net income
Taxed at
individual
tax rates
Taxed at
corporate
tax rates
Taxed at
individual
tax rates
Net loss
Deducted on individual
return against other
income; unabsorbed
losses may be
carried back
2 years and
forward 20 years
Net loss on
corporate return
is carried back
2 years and
forward 20 years
Deducted and
carried back
and forward 
on individual 
return up to
shareholder’s 
basis in
stock and loans 
to corporation
Medical insurance
premiums on owner
Deduct 100%
on front of
Form 1040
Deducted on
corporate return
Same as
proprietorship
including ability to
deduct 100%
on front of
Form 1040
Disability premiums
on owner
Not deductible
Deductible to
corporation;
taxable to recipient
of benefits
Not deductible
by corporation
or individual
Group term life
insurance
premiums on life
of owner
Not deductible
Deductible as a
tax-free
fringe benefit on
first $50,000
of coverage
Not deductible
Retirement benefits
Basically same
as corporation
Basically same
as individual
Basically same
as individual
Supper money
for owner
Not deductible
Deductible
Questionable
Election required
No
No
Yes – strict
time limits
Ownership
Individual
Stock can be
more than
one class
Only individuals, estates,
and trusts restricted
to one class of stock
(voting rights can differ)
Liquidation
of ownership
Assets are sold and   
individual is taxed
Sale of stock or
sale of assets
and liquidation
of corporation
(double-tax problem)
Sale of stock or assets,
no double tax
problem, except
for “built in gains”
Liability
Individual
Corporate, except for
professional 
 corporations 
wherein 
professionals 
remain liable under
malpractice statutes
Same as
regular corporation
Asset expensing
IRC §179
Up to $500K if assets
placed in service
total less than $2MM
Claimed on 
corporate return 
with same 
limits that apply 
to an individual
Reflected on
S Corporation 
return and claimed 
on individual return
Paperwork
Simplest form
Two separate
entities for income
tax purposes…
payroll taxes…
corporate minutes
Same as regular
corporation; 
however,
may involve 
more complex 
state filing
requirements
Hiring child
No social security tax if child under 18
Social security
taxes apply
Social security
taxes apply (may
gift stock to
children and
eliminate social
security on
distribution,
in addition, can
still benefit from
shifting income).
* Reasonable compensation:  Services performed by shareholder/owners must be reasonable compensated.  
Reasonable compensation is subject to wide discretion. (Roob v. Commissioner, 50 TC 891, 898 (1968).  
See Radtke vs. US; 712F. Supp. 143; Aff'd 895 F.2d 1196 (1990) in which no compensation was paid).
It must take into account:
  • Services performed
  • Responsibilities involved
  • Time spent
  • Size and complexity of business
  • Prevailing economic conditions
  • Compensation paid by comparable firms for comparable services
  • Salary paid to company officers in prior years
General Rules of Thumb
  1. High medical expenses -- regular corporation
  2. High disability premiums -- regular corporation
  3. Income $20,000 to $70,000 -- S-Corporation to save social security taxes
  4. High liability exposure -- corporation
  5. Hiring children -- Sole proprietorship
  6. Gift/Leaseback -- any form, but assets must be owned individually to create benefits
  7. Appreciating assets -- S-Corporation or proprietorship

Courtesy:  Botkin, Sandy, Tax Strategies for Business Professionals, The Tax Reduction Institute

Back to Categories