I golfed last week with a friend who wants to start operating as an S corporation. But there’s a catch. He wants to make this change only if he can save enough to make the change worthwhile.
After trying to talk him through the savings calculations on the third hole–a mistake only a tax accountant would make–I realized he just needed a simple S corporation tax savings calculator.
So that’s what the form below does. And note that instructions appear beneath the form…
Using the S Corporation Tax Savings Calculator
The calculator initially shows placeholder values so you know how the input values should look, but you want to replace my example values with your own “real” values.
- Business profit – use line 12 from your 1040
- Self-employment taxes – use line 57 from your 1040
- Base wages – enter the salary your S corporation will pay you as a shareholder-employee.
- Health savings account – use line 26 from your 1040
- Self-employed health insurance deduction – use line 29 from your 1040
- SEP match – enter the employer match your SEP or 401(k) plan will make. This value can go as high as 25% or .25 for a shareholder-employee.
I also guessed that you might pay about $1,000 for a simple small business S corporation tax return. You might pay less, or you might pay more. (Check with a local accountant.) If you have a better value, replace the value I filled in.
Understanding the S Corporation Tax Savings Calculator’s Results
You want to do two things after you’ve got your data entered.
First, verify that the reasonable compensation value is, well, reasonable. That value has got to pass the giggle test.
The best way to make this determination? You want the reasonable compensation value to resemble what some non-shareholder-employee would require to do the same job you will do. That’s really the acid test.
Note: Average S corporation shareholder-employee salaries run about $40,000 or so, and commonly people don’t pay more than the FICA limit. (There are links at the bottom of this post to longer articles on this subject.) Note that you should not set your salary to more profit than the business earns.
After you have a solid reasonable compensation number, you want to focus on the bottom line, annual savings the S corporation tax saving calculator displays. Ideally you want this value to be several thousand dollars a year. You do not want to shoulder the burden of running your business as an S corporation for a few hundred or even one to two thousand dollars a year. You want to save $5000 or $10,000 a year. Per shareholder.
Caveats and Comments
The calculator attempts to roughly factor in some of the hidden costs of you operating as an S corporation–including the new S corporation tax return you’ll pay for, the additional payroll taxes you’ll pay for the shareholder who becomes an employee (I arbitrarily set this cost as the $420 FUTA tax), and then the lost deduction on the reduction in self-employment taxes using a marginal tax rate of 25%. (Half of the self-employment taxes you’ve paid is a tax deduction on your 1040 return.)
Another note: the FICA threshold rises in 2017. In 2016, for example, the 15.3% tax gets levied against a $118,500 base. For 2017. however, the 15.3% tax gets levied against a $127,200 base. This bump in the threshold means that if you earn more than the FICA threshold, the calculator inadvertently underestimates your tax savings by as much as about $1,000 because it’s looking at the self-employment taxes you paid in 2015 or 2016 when the threshold was lower. Keep this possibility in mind. (Sorry.)
Finally, please consider these values as rough estimates. And that means if the calculator says you’ll save $6,123 or $8,870 a year, consider the values to be $6,000-ish and $9,000-ish. (If you need more precision to make your decision, you shouldn’t set up an S corporation. You want plenty of extra cushion and savings to pay the minor hassle factor of running your business as an S corporation.)
Relevant Related Posts You May Like
We’ve got some related posts you may find useful if you’re exploring the S corporation option:
Safe harbor salaries for S corporations
Payroll accounting rules for S corporation shareholder employees
Little known benefits of an S corporation
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