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What is an S Corporation, and what does it mean for your private practice

Michael Cano

At Heard, we are committed to guiding therapists through the entire S Corporation election process, ensuring that you feel informed and confident in your decision. This article will provide an overview of S Corporation as a tax classification, highlighting both its advantages and disadvantages. Our goal is to equip you with the understanding you need to determine how this choice may impact your private practice.

Contents

What is an S Corporation?

An S Corporation (S Corp) is a tax classification that allows income, deductions, and tax credits to pass through to shareholders for federal tax purposes. This means that instead of the corporation paying corporate income tax, the income is reported on the shareholders' personal tax returns, avoiding double taxation. 

To qualify for an S Corp tax status, a business must meet certain requirements, including:

  • Domestic Corporation: It must be a U.S. corporation.
  • Eligible Shareholders: Shareholders must be individuals, certain trusts, or estates; other corporations and partnerships cannot be shareholders.
  • Limited Number of Shareholders: There can be no more than 100 shareholders.
  • Single Class of Stock: It can only issue one class of stock, although voting rights can vary.
  • Timely Election: The corporation must file Form 2553 with the IRS to elect S Corporation status.

Advantages of an S Corp

S Corporations offer advantages like pass-through taxation and limited liability protection for shareholders, making them a popular choice for small businesses. 

  1. Pass-through taxation: An S Corp does not pay federal taxes at the corporate level. Any business income or loss is "passed through" to shareholders who report it on their personal income tax returns. 
  2. Tax saving on self-employment taxes: An S Corp reduces the self-employment tax liability as you can classify some of your income as salary and some as a distribution. While your payroll taxes will be withheld on your salary, distributions are not subject to self-employment taxes. 
  3. Business expenses can be expensible via an accountable plan: An S Corporation Accountable Plan is used to reimburse employees for business expenses such as home office rent, car mileage, transportation costs, cell phone, internet plans, and more. This type of plan excludes these reimbursements from the employee's taxable income, resulting in tax savings for both the employee and the corporation.
  4. Improved liability protection: Maintaining compliance as an S Corp requires a clear separation between business and personal income. Shareholders are generally not personally liable for the debts and liabilities of the  S Corp. Their risk is limited to their investment in the corporation, protecting personal assets. 
  5. Retirement planning: Retirement planning for S Corporations involves setting up retirement plans that benefit both the business owners and employees. Common retirement plans include SEP IRA, Solo 401(k), Defined benefit plans, profit-sharing plans, and SIMPLE IRA. These plans can provide valuable benefits while optimizing tax advantages.

Disadvantages of S Corp

While an S Corp election usually offers the benefit of reduced taxes, in general, it can be more complex than being a sole proprietor. There are also some disadvantages to keep in mind.

  1. Additional costs and ongoing expenses: You can expect to pay set-up fees, including incorporation. There are also ongoing expenses to operate as an S Corp, including payroll fees, accounting fees, business tax return filing, and state costs like annual reports and franchise taxes. Although these fees will often be deducted as business expenses.
  2. Tax implications on distributions: In addition to your reasonable salary, you can take distributions to supplement your salary. However, you want to ensure you do not withdraw more than your initial investment and profits for the year. It is important that you keep track of your shareholder basis because If your distributions exceed the shareholder’s basis, they may be taxed at the higher capital gains tax rate. 
  3. Self-employed deductions no longer apply: As a W-2 employee of your S Corporation, you are no longer considered self-employed, and some deductions and tax credits no longer apply. Though these specific benefits are lost, an S Corp owner can often obtain cost savings for these deductions through an accountable plan. 
  4. Compliance and revocation: Additional steps to revoke S Corp status S Corps require a set of compliance regulations. It’s important to be aware that errors in election, filing, or stock ownership can jeopardize S Corporation's status. If you decide to revoke that status, you will need to follow a set of IRS procedures, and there are implications on when you can do so in order to revoke S Corp status. 

Heard’s Tax and Accounting Specialists will guide you to ensure you’re setting up your private practice in a way that reduces the tax liability and reduces the risk of audits.

When can I elect to become an S Corp?

It's important to know that there are several options for when to file, and these choices often depend on when your practice is incorporated and when you would like your S Corporation election to start. 

  1. You can initiate it at any time during the tax year prior to its effective date.
    • If you want to be considered an S Corp at the start of the calendar year on January 1st of the current tax year, you need to file it no later than two months and 15 days after the beginning of the tax year, by March 15th. 
  2. If you miss the March 15th date, you can still elect S Corp tax status for the current tax year. 
    • Late election: If you miss the deadline, then it’s possible to file a late election to request IRS approval to be treated as an S Corp retroactively. The IRS provides relief for businesses that can show they were eligible to make the election on time but failed to do so due to reasonable cause. 
    • Mid-year election: This means you’ll be taxed as a sole proprietorship for a portion of the year and taxed as an S Corp for the remainder. While this may reduce tax benefits, it could be the only option to elect for that year if your practice wasn't incorporated prior to January 1st.

If you are unsure which option to take, Heard’s Tax and Accounting Specialists are here to help you navigate the process and discuss the options with you. 

Can Heard help me with the S Corp election?

Yes, with your Heard subscription, our Tax and Accounting Specialists team will guide you through the S Corp election. We understand that it’s important to consider your private practice, and we are here to help you make the decision to elect. Heard will analyze your therapy practice based on our qualifying S Corp criteria in order to determine if electing S corporation status would be beneficial in maximizing tax savings for your private practice. 

If so, we will assist with the following:

  1. File tax Form 2553 Election by a Small Business corporation: required by the IRS to elect S Corporation status.
  2. Determine a reasonable salary: We'll calculate a reasonable salary to pay yourself based on your income and the market you practice.
  3. Payroll set-up: We will set you up on payroll, which you can run directly through your Heard dashboard and proactively audit to ensure compliance. 
  4. S Corporation compliance: Heard will proactively audit your bookkeeping to ensure compliance with regulations. 

Once the IRS confirms your S Corporation election, you can notify us, and we will upgrade your subscription to an S Corporation plan to receive Heard specialized bookkeeping and tax services for your newly formed entity. For costs and services covered under this plan, please visit Pricing | Heard.

The IRS dictates you must pay yourself a reasonable salary with payroll taxes withheld and paid to the IRS quarterly via payroll; that’s why we offer an add-on for Heard Payroll embedded into your Heard account with specialized Payroll support. To learn more, please see: What is Heard Payroll?  

While we recommend Heard Payroll to manage all your financial needs in one app, you can also choose to use a different payroll service to remain in compliance. 

How can I begin the process?

If you are curious if your practice is a good candidate to operate as an S Corporation, reach out to our Tax and Accounting Specialists so that they can run an analysis on your practice and help you determine if you qualify. Once you qualify, our team will guide you through each step and help you remain in good standing with state regulators and the IRS.

Resources

This article is to be used for informational purposes only and does not constitute legal, business, or tax advice. Each person should consult his or her own attorney, business advisor, or tax advisor with respect to matters referenced in this article.
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