I’m a professional in the tax field, and I feel the need to address these issues. There is a lot of misinformation out there! I get similar questions all the time from my small business owner clients who are considering incorporating, and seem to be under the impression that a corporation is the greatest thing in the world.
1) re tax issues and corporations, double taxation does occur with a C corporation; this can be avoided by choosing to be taxed as an “S” corporation, where all profits flow through to the shareholder(s). However, until net profit is at least $30,000 or more, it is generally not advantageous from a tax perspective for someone to be incorporated, due to the ability to have some of their income be distributions that avoid the 15.3% self-employment tax. Some things to consider, if a small business goes from a sole proprietor to an “S” corporation, and that small business was taking the home office deduction, they cannot take that deduction as a corporation. For many clients, this results in the loss of a substantial expense deduction. Also, once becoming a corporation they must become an employee of the corporation, which brings on all the hassle of payroll and regular IRS reports and filings; most people pay a payroll company such as Paychex to do their payroll, thus taking on more expenses. Another expense is the annual $800 which must be paid to California. Also, certain benefits that one can set up as a sole proprietor cannot be utilized as an S corporation. Keep in mind all the formalities of starting and maintaining a corporation. It has to done right, and maintained legitimately, otherwise the corporation will not be taken seriously if challenged (“piercing the corporate veil”).
2) re: asset protection of a corporation – typically those who stand to benefit the most from incorporating are those who own a business and have employees who could potentially do harm to others, for example a delivery driver who hits a pedestrian with the company car while on duty. In this example, if the corporation were to get sued, only the assets in the corporation are exposed. Conversely, if a sole proprietor’s employee were to hit someone with their car and were sued, none of the owner’s personal or business assets would be protected, such that their house, car, savings, etc would be exposed.
There seems to be a belief that if someone is incorporated that they can get away with just about anything and not be exposed to legal action and/or loss of their personal assets. This is not true. If you negligently run down someone on the street and get sued, the corporation is not going to protect you and your assets.
3) Nevada corporations – unless you want to hide your identity, becoming a Nevada corporation is a waste of additional time and resources (same with a Nevada LLC). Some think that they can avoid the $800 California FTB annual tax, this is not true, they must register with CA if they are doing business in CA, and still pay the $800. Plus you need to have someone in Nevada be available for service (they’re not going to do this for free…)
None of this is to be taken as tax advice. This is general information, each person’s individual situation needs to be evaluated to determine what business entity works best for them.
