With the passage of the new tax plan, you might be re-thinking your entity choice and corporate structure. Significant changes are coming into play for LLC’s, S-Corps, and C-Corps. These changes impact traditional benefits of each entity form. LLC’s and S-Corps used to be the forms of choice. They were easy to setup, easy to govern, and had the benefit of pass through income. New tax rules may have changed all of that.
Pass Through Income – The Old Rule
Before the tax changes, qualified business income made by LLC’s and S-Corps was not taxed at the higher corporate rate. It passed through and was taxed at the lower individual rate on the owners’ personal income tax return. This was a significant advantage of these entity forms.
Pass Through Income – The New Tax Plan
Beginning in 2018, pass through income is subject to a slew of new rules. There is a 20% deduction that is applied, but only to the first $157,500 for individuals and $315,000 for couples. Once these limits are hit, for some businesses there may be formulae for additional deductions (the flow through income versus 50% of W-2 wages analysis), or there may be none if your business falls into the list of “disfavorable trades” (which include businesses involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of 1 or more of its employees). Qualified business income that surpasses the phaseout caps may be taxed at the personal rate which is now much higher than the corporate tax rate.
What Does This Mean?
The pass through income tax advantages your LLC or S-Corp has for the last few days of 2017 may well be gone beginning January 1, especially if your company falls into the list of “disfavorable trades”. This also means the C-Corp structure has new appeal and advantages. It is therefore well worth reviewing your entity choice and corporate structure quickly to see how the new changes impact your business and what may need to be done in response to the new rules. You will want to discuss entity form, corporate structure, and tax issues with your CPA and business attorney as quickly as possible if your company is an LLC or S-Corp, or you are about to form such an entity.