Take This Tax Return And Shove It

The following is a guest post by Greg McFarlane, an advertising copywriter who lives in Las Vegas and Lahaina. He recently wrote Control Your Cash: Making Money Make Sense*, a financial primer for people in their 20s and 30s who know nothing about money.

Let’s play word association. Or to be more accurate, acronym association. I’ll go first.

“IRS”.

“Invasive.” “Confiscatory.” “Heartless.” “Unbending.” “Bureaucratic.” “Dictatorial.” “Arbitrary.” “Capricious.”

Okay, that’s a start. Here’s another one: “Anti-business.”

Or more specifically, anti-sole proprietorship.

If you’ve spent as much time trudging the depths of our nation’s tax code as I have, you reach two inevitable conclusions:

1. The whole colossal, unreadable, internally contradictory thing needs to be demolished;

2. As it stands right now, it treats regular salaried workers worse than it treats anyone else.

The next time you hear a politician talk about tax reform and not call for something drastic, understand that you’re being pandered to. In the meantime, realize that no one pays through the nose come April 15 worse than Lunchpail Larry and Cubicle Candice alike. And who benefits while they suffer? Those no-good businessmen, that’s who.

Play The Game

You can get angry about this. You can send your representative an email (by the way, you’re adorable if you think that’ll make a difference.) Or you can do what almost everyone can, but few bother to: play the IRS’s game, only make sure that you’re on the winning team.

In other words, if you own and/or operate a business, incorporate. Create an artificial entity that doesn’t eat, sleep, or breathe. All it does is get tax breaks.

Tax Breaks

“Tax breaks” is a vague term, but for our purposes, we can define it as being taxes that a salaried worker pays that an entrepreneur doesn’t. By the way, it’s not like there’s some special 4-year training period you have to complete to become an official entrepreneur. Nor do you need a prohibitive amount of money. The ranks are wide open. When you incorporate, you reduce the tax liability for you and everyone else who owns a piece of your pizza joint/HVAC repair company/software developer/consulting firm/craft store/medical equipment manufacturer.

2 Ways to Incorporate Your Business

If you know even a little bit about this, you might know that there are two common ways for your business to incorporate. The predominant one is as an entity called an S Corporation, the other is as a limited liability company.

(Note that although the latter gives you the protections of a corporation, it doesn’t include the word “corporation” in the name. So technically, it’s not a corporation. And technically, tomatoes aren’t vegetables. Whatever.)

Find yourself a business that specializes in “entity formation”, or something similar. There are law firms that will do this, but save your money. Plenty of other companies can file the necessary paperwork for you, which will cost around $500. Ask them which form your entity should take.

Under either an S corporation or an LLC, your private assets are protected. No one who feels slighted by your company can “sue you for all you’re worth”, as the invective goes. This isn’t the case when you’re a sole proprietor: for legal and tax purposes, you’re indistinguishable from the business itself.

An LLC doesn’t technically pay taxes. Instead, the government taxes the LLC’s (taxable) profits, which are distributed among the owners. Those profits get taxed at the same rate as regular income. Your LLC issues you a K-1 statement, which lists your share of the LLC’s income and expenses, to be transferred to your 1040.

An S corporation is a little more work, but usually worth it.

There are minutes, resolutions, the election of officers, formal financial statements, etc. You’re even supposed to hold an annual shareholder meeting, but that’s not hard to do if you own all the shares.

From a tax standpoint, there’s no difference between an professional LLC and an S corporation. The biggest difference between them is how the IRS treats excess profits. If you own and operate an S Corporation and pay yourself a “reasonable” salary, the remaining profit is “distributed” to you at the end of the year and isn’t subject to 15.3% self-employment tax. Not so with an LLC.

Other Reasons to Incorporate

There are legitimate psychological reasons for you to incorporate, too. If you want investors to take you seriously, a business name like “Nondescript Items, Inc.” will carry far more weight than it would without the incorporation designation. Discerning customers will feel the same way. A corporation implies permanence.

Hopefully, your business gets so successful that you end up selling it. Which for most of us is the ultimate goal anyway. Take it from someone who’s been there; while a sole proprietorship is easy to create, it’s a pain to sell.

Say you own a lucrative landscaping business and find a buyer. If you operate as a sole proprietorship, you have to sell every single asset individually. Negotiate a price and write a receipt for the surety bond. Another one for the leaf blower. One more for your truck. A fourth for the industrial-size drum of Miracle-Gro. Yet another one for the adjacent drum of weed killer. You get the idea. If you incorporate, the entire business moves as a unit.

Besides, if your business is viable and the new owner halfway intelligent, the first thing he’ll do is incorporate anyway.  Save him the trouble and do the incorporating yourself, then add the incorporation fee into the price. And charge a premium for the privilege, of course.

Even if your business has multiple owners, and even if those owners are just you and a spouse or a sibling, selling your share will remain a snap if you’re incorporated. Just create a deed transferring ownership to the new owner. The deed shouldn’t be more than a page, and you can probably find a suitable one at FedEx Office.

Or just keep filing your annual 1040s, and try to figure out why you’re not getting rich.

*You can buy Greg’s book here (physical) or here (Kindle) and reach Greg at Greg at ControlYourCash dot com. His website’s RSS feed is at ControlYourCash.com/feed.

Crystal’s Question:  Are you incorporated?  If so, how did you go about it and are you glad you did?

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