Last year, the Tax Cuts and Jobs act brought dramatic changes for businesses around the country. Significantly, it slashed the corporate tax rates to a mere 21 percent and introduced a qualified business income deduction for pass-through entities. As a result, many companies have considered changing their structure to take advantage of these corporate tax breaks.
In this post, we will examine a few of the implications for companies that wish to switch their legal status.
- S corporation to C corporation
Pros: If 50 percent of shareholders agree, then S corporations can shift to C corporations. This would allow a company to enjoy the newly-slashed corporate tax rate.
Cons: However, if the company wishes to change back to an S corporation, it cannot make this change for another five years.
- Sole proprietorship to corporation
Pros: A sole proprietor who wants to incorporate can then take advantage of the flat, 21 percent tax rate.
Cons: However, incorporating comes with additional tax administration. And corporations must pay additional taxes, such as the accumulated earnings tax.
- Partnership or LLC to C Corporation
Pros: Incorporating does not have any immediate tax costs, and the newly formed corporation will be taxed at the 21 percent rate.
Cons: But the company cannot deduct business expenses from 2018 to 2025 because the deduction for miscellaneous itemized deductions has been suspended.
Making the decision to change a business’s status
Perhaps you and your colleagues weighed the pros and cons of shifting your business’s legal structure. If you decide that a different structure would be best, then you should take the steps to begin the transition. Many companies retain outside counsel from corporate attorneys to help ensure a smooth transition. Once the company has legally changed its status, it can begin reaping the full benefits of the lower corporate tax rate.