While the matter is currently the subject of high-profile litigation that has attracted a lot of headlines, most U.S. businesses are still subject to the Corporate Transparency Act’s (CTA) beneficial ownership information (BOI) reporting requirements. The March ruling from an Alabama federal judge found the CTA to be unconstitutional, and the BOI reporting requirements unenforceable, only applies to the plaintiffs in the case he was hearing: an Ohio small business and members of the National Small Business Association (NSBA) as of the March 1 decision date.

The Justice Department appealed the Alabama decision, and the Financial Crimes Enforcement Network (FinCEN) has made it clear that all businesses not involved in the case are subject to the reporting requirements. That means, beginning in 2024, newly formed businesses must file BOI reports with FinCEN within 90 days of receiving word from the secretary of state that the business was created or registered. By the end of the year, all businesses formed prior to 2024 must file reports. Any business formed after Jan. 1, 2025, must file a BOI report with FinCEN within 30 calendar days of receiving actual or public notice that their creation or registration is effective.

Let’s say you plan to use a C corporation to operate a newly acquired business or you have an existing C corporation that needs more capital. You should know that the federal tax code treats corporate debt more favorably than corporate equity. So for shareholders of closely held C corporations, it can be a tax-smart move to include in the corporation’s capital structure:

• Some third-party debt (owed to outside lenders), and/or
• Some owner debt.

Tax rate considerations

Let’s review some basics. The top individual federal income tax rate is currently 37%. The top individual federal rate on net long-term capital gains and qualified dividends is currently 20%. On top of this, higher-income individuals may also owe the 3.8% net investment income tax on all or part of their investment income, which includes capital gains, dividends and interest.

On the corporate side, the Tax Cuts and Jobs Act (TCJA) established a flat 21% federal income tax rate on taxable income recognized by C corporations.

Third-party debt

The non-tax advantage of using third-party debt financing for a C corporation acquisition or to supply additional capital is that shareholders don’t need to commit as much of their own money.

Even when shareholders can afford to cover the entire cost with their own money, tax considerations may make doing so inadvisable. That’s because a shareholder generally can’t withdraw all or part of a corporate equity investment without worrying about the threat of double taxation. This occurs when the corporation pays tax on its profits and the shareholders pay tax again when the profits are distributed as dividends.

When third-party debt is used in a corporation’s capital structure, it becomes less likely that shareholders will need to be paid taxable dividends because they’ll have less money tied up in the business. The corporate cash flow can be used to pay off the corporate debt, at which point the shareholders will own 100% of the corporation with a smaller investment on their part.

Owner debt

If your entire interest in a successful C corporation is in the form of equity, double taxation can arise if you want to withdraw some of your investment. But if you include owner debt (money you loan to the corporation) in the capital structure, you have a built-in mechanism for withdrawing that part of your investment tax-free. That’s because the loan principal repayments made to you are tax-free. Of course, you must include the interest payments in your taxable income. But the corporation will get an offsetting interest expense deduction — unless an interest expense limitation rule applies, which is unlikely for a small to medium-sized company.

An unfavorable TCJA change imposed a limit on interest deductions for affected businesses. However, for 2024, a corporation with average annual gross receipts of $30 million or less for the three previous tax years is exempt from the limit.

An example to illustrate

Let’s say you plan to use your solely owned C corporation to buy the assets of an existing business. You plan to fund the entire $5 million cost with your own money — in a $2 million contribution to the corporation’s capital (a stock investment), plus a $3 million loan to the corporation.

This capital structure allows you to recover $3 million of your investment as tax-free repayments of corporate debt principal. The interest payments allow you to receive additional cash from the corporation. The interest is taxable to you but can be deducted by the corporation, as long as the limitation explained earlier doesn’t apply.

This illustrates the potential federal income tax advantages of including debt in the capital structure of a C corporation. Contact us to explain the relevant details and project the tax savings.

© 2024

If your business is organized as a sole proprietorship or as a wholly owned limited liability company (LLC), you’re subject to both income tax and self-employment tax. There may be a way to cut your tax bill by conducting business as an S corporation.

Fundamentals of self-employment tax

The self-employment tax is imposed on 92.35% of self-employment income at a 12.4% rate for Social Security up to a certain maximum ($142,800 for 2021) and at a 2.9% rate for Medicare. No maximum tax limit applies to the Medicare tax. An additional 0.9% Medicare tax is imposed on income exceeding $250,000 for married couples ($125,000 for married persons filing separately) and $200,000 in all other cases.

What if you conduct your business as a partnership in which you’re a general partner? In that case, in addition to income tax, you’re subject to the self-employment tax on your distributive share of the partnership’s income. On the other hand, if you conduct your business as an S corporation, you’ll be subject to income tax, but not self-employment tax, on your share of the S corporation’s income.

An S corporation isn’t subject to tax at the corporate level. Instead, the corporation’s items of income, gain, loss and deduction are passed through to the shareholders. However, the income passed through to the shareholder isn’t treated as self-employment income. Thus, by using an S corporation, you may be able to avoid self-employment income tax.

Keep your salary “reasonable”

Be aware that the IRS requires that the S corporation pay you reasonable compensation for your services to the business. The compensation is treated as wages subject to employment tax (split evenly between the corporation and the employee), which is equivalent to the self-employment tax. If the S corporation doesn’t pay you reasonable compensation for your services, the IRS may treat a portion of the S corporation’s distributions to you as wages and impose Social Security taxes on the amount it considers wages.

There’s no simple formula regarding what’s considered reasonable compensation. Presumably, reasonable compensation is the amount that unrelated employers would pay for comparable services under similar circumstances. There are many factors that should be taken into account in making this determination.

Converting from a C corporation

There may be complications if you convert a C corporation to an S corporation. A “built-in gains tax” may apply when you dispose of appreciated assets held by the C corporation at the time of the conversion. However, there may be ways to minimize its impact.

Many factors to consider

Contact us if you’d like to discuss the factors involved in conducting your business as an S corporation, and how much the business should pay you as compensation.

© 2021

Recognizing their outstanding service, innovation, and development, Small Business Week celebrates small business owners around the country. Always falling during the first week of May, you can observe this holiday by visiting the link http://www.sba.gov and nominating your favorite small business.

There are many different ways to celebrate and help your local small businesses. Here are a few ways!

1. Purchase gift cards.

You’ll be supporting their operations when they need it most!

2. Share your favorites on social media.

Shout out some of your favorite companies, products, or promotions on social media to let your friends know.

3. Leave positive reviews.

Help them gain some social proof and improve their online rankings. And it’s free!

4. Refer people directly.

Of course, you can also help simply by talking about your favorite small businesses to others via text, phone calls, or video calls.

5. Send a kind note.

A little kindness goes a long way, especially during stressful seasons. If you can’t support small businesses financially, send them a quick note via email or social media to tell them how much you appreciate it. You could make the team’s day.

6. Ask business owners how you can help.

If you know any entrepreneurs in your area or online, reach out and ask if there’s anything specific they need. Even if there isn’t, they’ll probably appreciate the sentiment.

7. Create a community organization.

If you want to support a variety of businesses in your area and get others involved, consider creating a community fund or support group. You can either collect money or come up with creative ideas to help local businesses. Use social media or local forums to facilitate conversations with others in your area.

8. Opt for local stores over chains when possible.

Even if you don’t have extra money you spend, heading to the corner market for groceries over the big box store can make a major difference for that business owner.

Here at Wamhoff Accounting Services, we support local and small businesses all around us! We hope that you will join us in celebrating Small Business Week!

In one recent cybercrime scheme, a mortgage company employee accessed his employer’s records without authorization, then used stolen customer lists to start his own mortgage business. The perpetrator hacked the protected records by sending an email containing malware to a coworker.

This particular dishonest worker was caught. But your company may not be so lucky. One of your employees’ cybercrime schemes could end in financial losses or competitive disadvantages due to corporate espionage.

Best practices

Why would trusted employees steal from the hand that feeds them? They could be working for a competitor or seeking revenge for perceived wrongs. Sometimes coercion by a third party or the need to pay gambling or addiction-related debts comes into play.

Although there are no guarantees that you’ll be able to foil every hacking scheme, your business can minimize the risk of insider theft by implementing several best practices:

Restrict IT use. Your IT personnel should take proactive measures to restrict or monitor employee use of email accounts, websites, peer-to-peer networking, Instant Messaging protocols and File Transfer Protocol.

Remove access. When employees leave the company, immediately remove them from all access lists and ask them to return their means of access to secure accounts. Provide them with copies of any signed confidentiality agreements as a reminder of their legal responsibilities for maintaining data confidentiality.

Don’t neglect physical assets. Some data thefts occur the old-fashioned way — with employees absconding with materials after hours or while no one is looking. Typically, a crooked employee will print or photocopy documents and remove them from the workplace hidden in a briefcase or bag. Some dishonest employees remove files from cabinets, desks or other storage locations. Controls such as locks, surveillance cameras and restrictions to access can help prevent and deter theft.

Treat workers well. Create a positive work environment and treat employees fairly and with respect. This can encourage loyalty and trust, thereby minimizing potential motives for employee theft.

Wireless risk 

In addition to the previously named threats, your office’s wireless communication networks — including Wi-Fi, Bluetooth and cellular — can increase fraud risk. Fraud perpetrators can, for example, use mobile devices to gain access to sensitive information. One way to deter such activities is to restrict Wi-Fi to employees with special passwords or biometric access.

For more tips on preventing employee-originated cybercrime, or if you suspect a fraud scheme is underway, contact us for help.

© 2020