The Income Tax Impact – Different Income Taxation for Different Entities
The way to determine your company’s income taxes depends wholly on its entity. Each entity comes with its own tax forms, not to mention unique tax benefits and drawbacks. Overall, though, there are really only two basic categories that your company’s income taxes could fall into: pass-through and regular.
It seems that regular taxation would be the norm; in fact, it covers only one business structure, the C corporation. Here, regular taxation means that the company pays its own taxes on its own income. Every other entity deals with pass-through taxation. There, the company pays no income taxes on its profits; instead, all the profits pass through to the owners of the business and show up on their personal income tax returns.
ALERT!
LLCs come with the option of being taxed like C corporations, sole proprietorships (for single members), or partnerships (for multiple members). That gives the LLC members a chance to weigh which method is more advantageous, and then choose how their company will be taxed.
Each type of taxation comes with distinct features; which will be more beneficial for you depends on a wide combination of factors. For example, your personal financial situation plays a role in how you shift income between yourself and the company. Current tax rates also make a difference; for example, for several years corporate dividends were taxed at lower rates than were some other forms of personal income.
With a corporation (particularly a C corporation), you have the most income-shifting capabilities. Partnerships, however, allow you the most flexibility in dividing up income among multiple owners. Sole proprietor- ships are the most limited when it comes to tax planning, but the simplest when it comes to tax returns; they’re the only entity for which only a single income tax return must be prepared, rather than at least two (the company’s and yours). Even with the simplest business tax return, though, there’s still room for tax planning. This is one area where you get a lot of bang for your accounting fees buck: Experienced business tax return preparers know their way around deductions and loopholes, minimizing your tax bill.