S Corp Election or Not: House Flipping in MASSACHUSETTS

[NA Mass]

My husband and I just set up an LLC and are getting conflicting info from accountants that we've spoken with as to whether or not we should elect for an S Corp.

We both plan to maintain full time jobs outside of our LLC.

We believe that we will flip 1-3 homes for the first few years that we flip homes.

Should we go forward with the S Corp election or not?

[Linda Weygant]

An S-Corp is not always the best solution and may not be in your case.

If you are intending to maintain regular W-2 jobs and you are already at or near the Social Security limit in that job, then an S-Corp does nothing for you other than tack an unnecessary 6.2% of tax onto your earnings.

Here's how it works.

Your employer withholds 6.2% of social security tax from your paycheck up to the limit ($118,500 in 2017) and 1.45% of Medicare Tax.  Your employer then matches these amounts and submits it to the government as FICA tax. So a total of 15.3% of FICA tax is paid by you and your employer.

Self Employment Tax is essentially this same FICA tax.  You pay 6.2% x 2 (employee and employer portion) on the first $118,500 of profits and 1.45% x 2 on all profits.

It's the same tax, just structured differently depending on whether you work for yourself or work for somebody else.

The IRS *requires* officers of an S-Corp to pay themselves a reasonable salary.  For example purposes, let's say that a reasonable salary for what you are doing is $50,000.

Let's say you also make $100,000 from your W-2.

So your employer and you together pay $15,300 of FICA taxes on your W-2 job.

You also pay $7,650 of FICA/SE Tax on your S-Corp salary.

Now when you do your taxes, all competent software packages will recognize that you've gone over the Social Security limit between the two jobs.  In this scenario, that overage is $31500, so you've over withheld 6.2% x $31500 on your paychecks or $1953.  You'll get that back as a credit on your 1040.

But, your S-Corp matched that $1953 in FICA tax.  That is lost.  Nobody gets that back.  It's a gift to the government for having not thought through your structure properly.

Now if you had been a regular LLC, you never would have paid that $1953 in tax because all competent software recognizes that you already met your Social Security limit and all is well.

Now, if you've got relatively lower salary and lower S-corp salary that does not go over the Social Security limit when combined, then it's no harm, no foul and you absolutely do save a lot of taxes in structuring as an S-Corp.

Guys - taxation is NEVER cut and dried.  There are no cookie cutter approaches or "one best method" that works for everybody.

OP - Talk to a competent CPA and outline your entire life for them so they can make an excellent recommendation based on ALL facts and circumstances.

And just because you start off with one great structure that works for you right now, does not mean that structure will continue to work for you as your life progresses.  Get married, have kids, have a spouse gain or lose a job, start another business... these shouldn't be called "life events", they should be called "tax events".  

Keep your CPA apprised as to what's going on in your life because it can drastically change the recommendations they make for your business(es).