Intro to Corporate Taxes:

Filing Your Client's C Corporation Taxes

Corporations are taxed as entities separate from their individual owner. If your client is not incorporated and your client's business is doing well and making a lot of money, all the profits from his/her business will be taxed on their personal return in the year that the profits were earned. Here?s where incorporating of their business may prove to be a smart tax-saving plan for them if they are intending to reinvest the profits in their business. If their business is incorporated, the first $75,000 of profits in the business will be taxed at a lower rate than if they claimed them on their personal tax return. There is an exception to this rule however. Personal service corporations, such as accounting, consulting, legal and medical firms are required to pay a flat tax rate of 35% on their taxable income.

Another possible tax advantage of corporations is that corporations can pay for employee benefits, such as health insurance, disability and up to $50,000 in life insurance on a tax-deductible basis. Unlike unincorporated and sole-proprietorship businesses where the owner cannot deduct his or her own benefits, incorporated businesses treat their owners as employees for benefits purposes and therefore owners may take the tax deduction on their own as well as their employees? benefits.

Your client should be careful when incorporating their business for the sole purpose of paying less in taxes than they would if they had to claim their profits on their personal tax return. This could wind up backfiring on them if they want to pay themselves the profits. That is because your client will first pay taxes on the money at a corporate tax rate, then they will pay taxes again on their personal tax return when they pay themselves from the corporate earnings. This way, your client will end up paying more in taxes and the corporate infrastructure will provide them little in the way of a tax cut.

Keep in mind also that your client cannot immediately claim losses on their incorporated business on their personal tax form and must wait until they can offset your losses by profits. This especially affects newer businesses, as most produce very little revenue in their first few years and losses are very common.

Here are the current Corporate Tax Rates for 1999:

1999 Corporate Tax Rates for Regular (C) Corporations
Taxable Income Tax Rate
$0 - $50,000 15%
$50,001 - $75,000 25%
$75,001 - $100,000 34%
$100,001 - $335,000 39%
$335,001 - $10,000,000 34%

Following are more advantages and disadvantages of C corporations:
  • The transfer of ownership is simpler than it is with other forms of business. All your client has to do is sign the back of the stock certificate to sell ownership or issue one for a new owner. Transfer of ownership can be much more difficult in a partnership, limited liability company or sole proprietorship.
  • With a C corporation, your client can have as many owners as they please and there is no restriction on the type of shareholder your client may take in. A corporation, partnership or individual qualify for shareholdership.
  • C corporations have flexibility as far as capital structure goes. They can issue different classes of common and they can issue preferred stock, bonds, warrants, etc.
  • Income retained in the company can be taxed at lower rates than if the profits or losses were passed through to the owners to be reported on their individual tax returns. This is because a C corporation pays a separate tax at graduated rates (15% on the first $50,000, 25% on the next $25,000, 34% on the next $25,000 and special rules apply for income over $100,000.) This graduated rate does not apply to personal service corporations, which are taxed at a flat rate of 35% on all taxable income.
  • Dividend is taxed twice, once at the corporate levels and again when it is received as taxable income when dividends are withdrawn from the company.
  • The IRS is always on the lookout for shareholders and owners whom the agency believes pay themselves too high of a salary in order to avoid the double tax issue.
  • C corporations could pay 35% on long term capital gains as opposed to the 20% rate individuals pay when the profits and losses of their company are passed through to be reported on their personal tax returns.
  • C corporations can choose a fiscal year rather than a calendar year to be taxed by. However, C corporations cannot use the cash method of accounting.
  • Regular corporations are subject to the corporate alternative minimum tax.