Question

Mackenzie is considering conducting her business, Mac561, as either a single member LLC or as an S corporation. Determine Mackenzie’s after-tax cash flow from the entity’s business income and any compensation she receives from the business assuming her marginal ordinary income tax rate is 37 percent, her marginal FICA rate on employee compensation is 1.45 percent, her marginal self-employment tax rate is 2.9 percent, and any employee compensation or self-employment income she receives is subject to the 0.9 percent additional Medicare tax. Finally, Mac561 generated $200,000 of business income before considering the deduction for compensation Mac561 pays to Mackenzie and Mackenzie can claim the full qualified business income deduction on Mac561’s business income. (Round your intermediate computations to the nearest whole dollar amount.)

a. Mackenzie conducted Mac561 as a single-member LLC.

b.Mackenzie conducted Mac561 as an S corporation and she received a salary of $100,000. All business income allocated to her is also distributed to her.

c. Mackenzie conducted Mac561 as an S corporation and she received a salary of $20,000. All business income allocated to her is also distributed to her.

d. Which entity/compensation combination generated the most after-cash flow for Mackenzie?

Answer 1

	By comparison: • An LLC taxed as a sole proprietorship compels the owner to 1) report business income and expenses on their personal income tax return, 2) pay personal income tax on company profits and 3) pay Social Security and Medicare taxes on said profits. • An LLC taxed as an S-corp means the owner’s salary will be a business expense so the owner will report salary and other business profit on their personal income tax return. But, the owner will only pay taxes on their own salary (not on Social Security or Medicare). So, what should I choose? For most businesses, it only makes sense to register for S-corp status if you will save on taxes. To figure that out, first, identify a reasonable salary for someone with your job description. If any profit remains after paying yourself, then it is probably worth looking into S-corp designation. Just remember that your tax return will be more complex and, assuming you are the only employee, you will have to set up tax withholding. New businesses have about 75 days after formation to elect as an S-corp. The above being said, each company is unique and circumstances different which require an analysis. Therefore, new businesses should not forgo this analysis at the outset before embarking on a venture. As discussed, there are many similarities between LLCs and S-corps including, limited liability protection, separate entities and pass-through taxation. However, it is in the differences where an entrepreneur decides which type of company he or she prefers to start. For example, the IRS restricts S-corp ownership to 100 shareholders and U.S. citizens and/or permanent resident. Further, there are typically more formalities with S-corps, including adopting bylaws, issuing stock, holding initial and annual director and shareholder meetings and keeping meeting minutes with corporate records. There are formalities for LLCs too, which include adopting an Operating Agreement, issuing membership shares and deciding whether it is a member-managed/manager-managed LLC — however, in my experience, LLC requirements are typically more of a recommendation than a requirement.
		Single Member LLC	S Corp
		200000	200000	200000
	Salary	-	100000	20000
	Marginal FICA rate on employee compensation is 1.45 percent,		1.45	1.45
	Marginal self-employment tax rate is 2.9 percent,		2.9	2.9
	Employee compensation or Self-employment income is subject to the 0.9 percent additional Medicare tax.		0.03915	0.03915
	Employee Tax Rate		4.38915	4.38915
	Employee Tax		4389.15	877.83
	Marginal ordinary income tax rate	37	37	37
	Marginal ordinary income tax	74000	37000	66600
	NET INCOME	126000	158610.85	132522.17

Option with highest net income combination generates the most after-cash flow for Mackenzie