How To Avoid Double Taxation Of Your Small Business Profits

How to​ Avoid Double Taxation Of Your Small Business Profits
Have you​ been thinking about incorporating your small business or​ self-employment activity? the​ advantages are many!
For starters,​ you'll be protecting yourself and your family from the​ possibility of​ a​ business ending lawsuit .​
Forming a​ corporation is​ Step One on​ the​ path known as​ Asset Protection -- you​ are moving from the​ world of​ unlimited liability to​ the​ world of​ limited liability.
(NOTE: For further insight into the​ legal advantages of​ incorporating,​ check out the​ article: It Can Happen to​ You: Why Any Sole Proprietorship is​ a​ Risky Business at​
From a​ tax standpoint,​ there are both advantages and disadvantages to​ incorporating .​
Yes,​ forming a​ corporation can either reduce your taxes or​ increase your taxes,​ depending on​ what type of​ corporation you​ create.
There are two main types of​ corporations: C Corporations and S Corporations -- and which type you​ choose can make all the​ difference in​ the​ world of​ taxes.
NOTE: the​ question of​ C Corp vs .​
S Corp has no effect on​ the​ asset protection provided by your corporation .​
This is​ a​ tax issue,​ not a​ legal issue.
A C Corporation can lead you​ into a​ Tax Trap known as​ double taxation .​
Yes,​ income from a​ C Corporation can actually be taxed twice -- once when it's earned on​ the​ corporate level and again when it's paid to​ you,​ the​ shareholder,​ in​ dividends.
There are several ways to​ avoid double taxation .​
Often the​ easiest way is​ to​ tell the​ IRS that you​ choose to​ be an​ S Corp instead of​ a​ C Corp .​
The profits of​ an​ S Corp are not taxable to​ the​ corporation; instead,​ those profits are reported directly on​ the​ shareholder's personal income tax return and are therefore only taxed once.
And once is​ enough,​ don't you​ think!
Of course,​ any article on​ Choice of​ Entity must contain the​ old disclaimer,​ Consult your tax professional -- I​ am not prescribing a​ one-size-fits-all approach to​ this issue .​
But for many small biz owners and self-employed folks,​ the​ S Corporation is​ a​ good fit because it​ provides protection from personal liability and avoids the​ nasty tax trap of​ double taxation -- two great benefits worth checking into.
Should you​ incoporate your sole proprietorship and then decide that the​ S Corporation is​ the​ right fit,​ you​ must inform the​ IRS that your corporation is​ choosing S Corporation status by filing Form 2553,​ which is,​ in​ effect,​ an​ application to​ become an​ S Corporation.
If you​ incorporate and do not file Form 2553,​ you​ are automatically considered to​ be a​ C Corporation by the​ IRS .​
In other words,​ to​ be a​ C Corporation,​ you​ just incorporate; there is​ nothing you​ have to​ do to​ inform the​ IRS you​ want to​ be a​ C Corporation.
There are critical rules regarding how and when to​ file Form 2553,​ so be sure to​ read the​ instructions carefully,​ or​ check with your tax pro.
Failure to​ file Form 2553 on​ time or​ filing Form 2553 incorrectly results in​ a​ rejection of​ your corporation's S Corp application,​ and the​ corporation is​ then by default treated as​ a​ C Corp,​ subject to​ double taxation,​ the​ very trap you​ were trying to​ avoid.
To download a​ copy of​ Form 2553,​ go to:
The instructions for filing Form 2553 are found here:

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