One of the most common questions we hear from business owners is whether they should form an S-Corporation. The answer depends on your income level, business structure, and long-term goals.
The Self-Employment Tax Problem
As a sole proprietor or single-member LLC, you pay self-employment tax (15.3%) on your entire net business income. This covers both the employer and employee portions of Social Security and Medicare taxes. On $150,000 of net income, that's roughly $21,000 in self-employment tax alone.
How an S-Corp Helps
With an S-Corp election, you pay yourself a reasonable salary (subject to payroll taxes) and take the remaining profit as a distribution (not subject to self-employment tax). If your reasonable salary is $80,000 and you take $70,000 in distributions, you save self-employment tax on that $70,000 — roughly $10,000 in annual savings.
The Breakeven Point
An S-Corp comes with additional costs: payroll processing, separate tax filing (Form 1120-S), and potentially higher accounting fees. For most business owners, the S-Corp election makes sense when net business income consistently exceeds $60,000 to $80,000 annually.
Important Considerations
- Reasonable compensation must be justified — the IRS scrutinizes artificially low salaries
- State-level tax implications vary (North Carolina has specific S-Corp rules)
- Additional administrative requirements including payroll and separate corporate returns
- Timing matters — the election must be filed within 75 days of the tax year start
Get Professional Guidance
Entity selection is one of the most impactful financial decisions a business owner makes. The wrong structure can cost thousands annually. A CPA can model the tax implications of each option based on your specific numbers.