Osborn Entrepreneurial & Microenterprise Training Program. Federal Tax Considerations in Choice of Business Entity

Transcription

1 Osborn Entrepreneurial & Microenterprise Training Program Federal Tax Considerations in Choice of Business Entity

2 Business Entity There are four basic choices for business entity. Sole proprietorship Partnership (General or Limited) Limited Liability Company Corporation (C or S)

3 Sole Proprietorship Frequently used for a small business. Unlimited liability. Not a separate taxable entity. Income reported on owner s tax return using Schedule C, C-EZ, or F. If operating under a name other than that of the owner, a Certificate of Assumed Name (DBA) should be filed with the county clerk s office.

4 General Partnership Unlimited liability for general partners. Separate entity, but does not pay income tax. Allocates partnership income to partners. Partners report partnership income on personal tax returns Files information return (Form 1065). A Certificate of Assumed Name (DBA) should be filed with the county clerk s office.

5 Special Rule Qualified Joint Venture If a married couple are the only members of a jointly owned and operated unincorporated business, Both materially participate, And, file a joint return, They can elect to each file a separate Schedule C or C-EZ instead of a partnership return.

6 Limited Partnership Unlimited liability for at least one general partner. Limited liability for limited partners. Limited partners have no voice in management. A Certificate of Limited Partnership must be filed with the Michigan Department of Labor & Economic Growth, Bureau of Commercial Services, Corporation Division.

7 Limited Liability Company Allows the entity to avoid unlimited liability Allows a business to be treated as a sole proprietorship or partnership for tax purposes, avoiding the double taxation associated with C Corporations. Articles of Organization must be filed with the Michigan Department of Labor & Economic Growth, Bureau of Commercial Services, Corporation Division.

8 Check-the-Box Regulations Check-the-box Regulations Allows taxpayer to choose tax status of entity without regard to corporate or noncorporate characteristics by filing Form Entities with more than 1 owner (member) can elect to be classified as a partnership or a corporation. Entities with only 1 owner can elect to be classified as a sole proprietorship or as a corporation.

9 Check the Box Regulations If no election is made, multi-owned entities treated as partnerships, single person businesses treated as sole proprietorships. Election is not available to: Entities incorporated under state law, or Entities required to be corporations under federal law (e.g., certain publicly traded partnerships)

10 Corporation (C Corporation) Separate tax-paying entity (unless S corporation election is filed). Reports income and expenses on Form Income is taxed at corporate level and again at owner level when distributed as a dividend. Articles of Incorporation must be filed with the Michigan Department of Labor & Economic Growth, Bureau of Commercial Services, Corporation Division.

11 S Corporation Organized as a corporation under state law (or treated as a corporation under check-the-box). An election to be treated as an S Corporation is filed with the IRS. Separate entity but does not generally pay income taxes (with limited exceptions). Allocates entity income to shareholders. Shareholders report entity income on personal tax return (not subject to self-employment tax). Files information return (Form 1120S).

12 Other Tax Considerations Assuming that a sole proprietorship is the choice for business entity, there are other tax issues to consider: Self-Employment Tax Estimated Tax

13 Self-Employment Tax Sole proprietors have to pay both the employee s and the employer s Social Security and Medicare taxes. This is computed on Schedule SE, Self- Employment Tax.

14 Self-Employment Tax The basic calculation of self-employment tax is: Net profit (line 3, Schedule C-EZ, line 31, Schedule C, line 36, Schedule F) Multiplied by.9235 This total (if $400 or more) multiplied by 15.3% Optional computation methods are available in certain situations. A deduction from AGI is allowed in the amount of onehalf of the self-employment tax computed above.

15 Estimated Tax If a taxpayer owes $1,000 or more after subtracting withholding, an estimated tax penalty might apply. To avoid it, an annual payment equal to the smaller of the following amounts needs to be paid quarterly unless paid through withholding: 90% of the tax on the current return 100% of the tax shown on the preceding year s tax return (110% for certain higher income taxpayers) Note: Withholding counts as ratably paid, no matter when the taxes are withheld.

16 Resources Guide to Starting a Business in Michigan from the Michigan Economic Development Corporation Publications, tax forms, and instructions from the Internal Revenue Service

17 This material has been developed by Accounting Aid Society and is protected by the copyright laws of the United States. Photocopies or reproductions of this material are prohibited without the written authorization of Accounting Aid. Marshall J. Hunt, CPA Director, Tax Assistance Program Accounting Aid Society 7700 Second Avenue, Suite 314 Detroit, MI Website: Accounting Aid Society is a partner agency of the United Way for Southeastern Michigan.