When it comes to paying taxes, most businesses would prefer to pay less. They may feel they would gain a benefit if they were able to pay at the corporation rate rather than at the individual rate.
However, the cost of incorporating may not realize tax savings.
The top personal rate is 35% for income over $372,950. Meanwhile, the top corporate tax rate is also—effectively—35%. So does it matter whether your business is taxed at the personal rate or the corporate rate?
Corporate Tax Rate vs Personal Tax Rate
We looked at the corporate tax tables and assumed federal income taxes at the corporate rate and the personal rate for single filers, a married person filing jointly with a spouse, and a married person filing as single.
We also assumed that this person or couple had no other income and that the income was the total taxable income after all exemptions and deductions.
In both the personal and corporate cases, the amount is what the tax calculation is based on. In other words, the tax difference between personal rates and corporate rates for the same amount.
Here is what we found, for three different levels of income:
- Taxable Income $40,000: Single: $6,350 / Married filing Joint: $5,201 / Married Filing Separate: $6,350 / Corporation: $6,000
- Taxable Income $100,000: Single: $21,978.25/ Married filing Joint: $17,687.50 / Married Filing Separate: $22,372 / Corporate Rate $22,250
- Taxable Income $500,000: Single: $153,596.75 / Married filing Joint: $146,575 / Married Filing Separate: $160,787.50 / Corporate Rate $335,000
We didn't go higher than $500,000 because the numbers don't change until you get up to $10 million in income for a corporation.
The Difference That Income Levels Make
At the lower income levels of income—$40,000 and $100,000—there is no appreciable difference between the taxes for individuals and those for corporations. However, at the higher level of $500,00, the corporate tax is almost twice the level of the personal tax.
So, if your business is going to be making a significant income, you should be using the S corporation filing status or having your LLC taxed as a partnership.
Of course, there are other tax considerations, such as:
- Personal exemptions
- Tax credits like the Making Work Pay credit
- Self-employment taxes
- The earned income tax credit
Also, you must consider the cost of incorporating that need to be taken into account. We always hesitate to draw conclusions. You should talk with your tax adviser and legal adviser before you make any decisions about the legal type of business you choose. We also did not take into consideration any state tax that may be due.
Note: We used the current year's personal tax rates from William Perez's Tax Planning site.
The information contained in this article is not tax or legal advice and is not a substitute for such advice. State and federal laws change frequently, and the information in this article may not reflect your own state’s laws or the most recent changes to the law. For current tax or legal advice, please consult with an accountant or an attorney.