In this segment the presenter explains how self‑employment (FICA) taxes affect sole proprietorships and single‑member LLCs, and why electing S‑corporation status can reduce those taxes. He clarifies that owners of a sole proprietorship/LLC pay the full 15.3% self‑employment tax on every dollar of net income because they act as both employer and employee. An S corporation, however, requires the owner to take a "reasonable" salary, which is subject to the employer‑and‑employee portions of FICA, while the remaining net income can be taken as a distribution that is exempt from the 15.3% tax. A concrete example shows $100,000 net income: under an LLC the entire amount incurs the 15.3% tax; under an S corp the owner could pay $40,000 in wages (taxed) and receive $60,000 as distribution (tax‑free for FICA). The presenter notes that the S corp brings additional administrative costs (separate tax return, payroll), but once net income reaches roughly $40‑$50k the tax savings typically outweigh those costs. He invites viewers to ask questions.
Chapters
So with an S corporation, one of the things that we talk about is this reasonable comp, right? And just to back up a little bit on that, when you have a sole proprietorship or a single-member LLC, every net in— every dollar of net income that you have is taxed at your federal income tax rate, your state if you have that, sometimes local, like in Pennsylvania we have local income tax. And then in addition to that, you have to pay what we call self-employment or the FICA tax, Social Security and Medicare. And those 2 taxes are the taxes that you see normally in your paycheck, Social Security and Medicare. And what people don't always realize is that's just your half as the employee. The employer has to match that. So if there's $100 on your pay stub, the employer had to send in another $100 on your behalf. So when you have a, when you're the business owner, you have to, you're both the employer and the employee, right? So every net income, every dollar of net income of your sole proprietorship or your single-member LLC, it gets hit with that additional FICA tax, and that's an additional 15.3%. So at a certain point, you wanted to, you want to start talking about, should I have an S corporation? Because an S corporation helps to alleviate that extra tax in a big way, right? So, but the caveat is you have to pay yourself a reasonable salary through an S corp. And that reasonable salary is still hit with that both sides of the FICA tax, but the rest of your net income isn't. And here's an example. So say you had $100,000 of net income in your single-member LLC. That $100,000 net income gets hit with the additional 15.3% in FICA on the entire amount. If that $100,000 ran through your S corporation, you could pay yourself, say, a reasonable salary of $40,000 of that $100,000, and only that $40,000 gets hit with that additional 15.3%. That $60,000 you could take out and distribute as distribution, and it would avoid the FICA tax, the Social Security, Medicare piece, that additional 15.3%. You avoid that on that $60,000 that you took out as distribution because you have an S corporation that you're taking out reasonable comp in the form of that $40,000 in wages. So that's why we talk about reasonable comp in an S corporation and why at a certain level, when you have a single-member LLC and a, or a sole proprietorship, when your net income gets to a certain amount, a certain level, it makes sense to consider the S corp because the S corp does have its own tax return, which is another cost, and it does have payroll, which is another cost. But by the time you get to $40,000, $50,000 of net income, The tax savings outweighs that extra admin cost. So if you have any questions about this, hit me up. Talk soon.
