Taxes and working for Myself, my LLC, or my S-Corp

I am trying to get an idea of how taxes are handled for work that I personally do as a Sole Proprietor verses work that I personally do as the sole member of a single-member LLC or as the sole shareholder of an S-Corp.
For example, suppose I decide to set up a painting business, and I personally do all of the work myself -- no employees, no subcontractors, etc. -- just me. Depending on whether I set it up as a Sole Proprietorship, a single-member LLC, or a single-shareholder S-Corp, how would the compensation that I receive be handled in terms of taxes? I assume that the way it works is different for each of the three types of entities.
I hope that the way I am phrasing the question is clear, but if not, I can clarify it in a follow-up post.
Also, I am in New Jersey, and I know that each state has its own state-specific tax requirements -- but just understanding how the federal/IRS taxes would be handled in each of these types of entities would be a great help.
Thanks.
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Luckily a Single Member LLC is taxed the same as a sole-proprietorship. Use Schedule C (Form 1040 Series) to report teh income and expenses of both.
"S" Corporate revenues and expenses get reported on an 1120S, and most of the profits you generate ~~~and distribute to yourself~~~ should be paid out through payroll, having the appropriate payroll taxes withheld. There would be an extra tax return to prepare and file, as well as at least quarterly payroll reports to do. There are generally higher costs associated with the corporation at the state level, so check into that.

There might be some good info here: http://www.irs.gov/businesses/small/article/0,,id 0417,00.html
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Paul A. Thomas, CPA
Watkinsville, Georgia
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Paul Thomas, CPA wrote:

Thanks. I checked out the IRS link you provided and I also looked at the Schedule C form.
So, I assume that if I do work as a sole proprietor or as a single-member LLC, the "income" on which I pay taxes is basically just whatever the net profit is after business expenses. In other words, when working as a sole proprietor or as the member of a single-member LLC, I don't have to be concerned about payroll taxes, social security contributions, etc. since it's not really wages that I am earning, it's net profit. Do I have that correct?
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Except that you still need to be concerned with the tax implications of the net profit, as that is subject to income tax AND self-employment tax AND your state and local tax (if any). Those amounts can add up rather quickly at say, 35 - 40% combined.
If the taxes on the net profits, when combined with all your other income, significantly exceed any amounts of withholding you may already have, you'll need to make estimated tax payments.
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Paul A. Thomas, CPA
Watkinsville, Georgia
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Paul Thomas, CPA wrote:

Thanks again. I really do appreciate your willingness to share what you know here.
After reading what you wrote, I went to the IRS website and I read about self-employment tax. I see now that whether I am a sole proprietor, a single-member LLC, or the sole shareholder in an S-Corp, I still end up more or less having to make the same total amount of contributions toward Social Security and Medicare. I guess if I am an employee of my S-Corp, the S-Corp pays half and I pay half, and if I am a sole proprietor or single-member LLC, I pay both have halves directly. Somehow, I thought that by choosing one form of business entity over another, maybe the issues of making those contributions and/or withholdings and estimated tax payments would not apply. But, I see now that one way or another, those contributions get paid into the system.
I actually had an ulterior motive in asking the questions. Although I phrased the hypothetical situation as, what if "I" decided to start a painting business, I was asking with someone else in mind. If it really was about me starting a painting business, I would definitely work with a local accountant/CPA and get his/her advice on the best type of entity for my situation, etc. I know the cost of doing that up front would be money well spent.
But, the real reason that I was asking is that I recently met someone who has started doing handyman and construction work for people -- mostly small jobs -- so far, as a sole proprietor. Without going into too many details, I would like to use him to work on a two-family rental property that I own, and I know others that could use his services for their rental properties. But, so far, he is not really set up as a business. And, for people like me or others that I know to use him, we would need to either be able to issue 1099's to him for the work he is paid to do, or if he incorporates his business, no 1099 would be needed. Either way, he would have to figure out how to deal with the income he receives and how to pay his tax liabilities.
The question came up about what type of entity may be best for his business situation. I know he should figure that out with an accountant, but he does not have the where-with-all (sp?) to do that just yet. Nevertheless, this situation started me wondering about what the impact on him would be from a tax perspective of him choosing to operate either as a sole proprietor, a single-member LLC, or a one-shareholder S-Corp. In the end, it looks like whatever he does, if he handles his taxes correctly, he will still be paying for contributions to Social Security and Medicare -- either as self-employment tax or via an S-Corp where the corp pays part and he pays part.
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Then you read a meaning wrong. The amount you take from the "S" Corporation as wages are subject to Social Security and Medicare withholding and company matching - the net rate is the same as the SE tax on sole-proprietors.
"S" Distributions of profits are not subject to Social Security or Medicare tax.

More or less, yes. The "S" form allows for less than all of the profits being subjected to SE tax.

A couple of things: 1099 forms are not necessary when an individual pays for services. Only when a business pays an individual for services does a 1099 need to be issued. There are some other issuing rules for 1099's, but those shouldn't be an issue here.
The people paying for these services might want to be sure the service provider is insured or bonded. It's for their protection. To get that, he's going to need to be "in business", whether that's a sole-proprietor, LLC, or corporation.
The property owner might also want to be sure the service provider is licensed to perform those services in that community, and that all other permits are obtained.
He's legally required to report his income and pay the appropriate taxes regardless if someone isses a 1099 or not.

See above. Yes, Social Security and Medicare can't be avoided entirely. A Corporate form might reduce the amount subject to Social Security and Medicare (from total profits to wages paid), but there is an additional cost to do that in the form of incorporation fees, annual filing fees, additional return preparation costs, payroll reporting costs, etc and so on.
If the profits are expected to be minimal, then there's not much room to save anything. Now if you're talking $100,000 of possible profits, and he incorporates and takes out $90,000 of wages and $10,000 as a profit distribution, he's "saving" about $1500. If his profits are only expected to be $10,000, then he incorporates and takes a salary of $9,000 and a $1,000 profit distribution, then he's "saving" about $150.
The question is how much does it cost to form and maintain a corporation in the state he operates in?
Georgia is a cheap state. Here he could incorporate himself for less than $500. Annual registrations cost $30. Annual Net Worth Tax is not more than $10. Federal and state unemployment (FUTA and SUTA) on his wages won't be more than $300 at first. Of course there's the costs to prepare a corporate return, monthly or quarterly payroll filings, etc and so on.
Have him talk to his accountant.
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Paul A. Thomas, CPA
Watkinsville, Georgia
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Paul Thomas, CPA wrote:

Thanks again. I understand what you mean here. I don't think I worded it correctly, in part because I was mixing the terms for SE tax and Social Security and Medicare contributions.

I follow that too, although as you showed below that the amount saved may not amount to much. And the amount saved will be offset some by the additional costs for an S-Corp such as for separate tax returns, etc.

I am not sure, but I was thinking that since he would be doing work on rental properties that I or others own, the cost of his work for us would be business expenses for whoever owns the rental property. So, to deduct those business expenses, we would need to be able to show that we did a 1099.

I'm in New Jersey, and here it is easy to form a corporation or an LLC online directly through the state's website. The cost is just a $125 filing fee for either entity, plus a $50 online annual report to the state each year thereafter. I could show him how to do that as well as how to get a federal ID number and do the S-Corp election with the IRS if needed -- all at no cost. So, that's the easy part and the start-up cost in terms of the entity would be minimal.
Of course, the decision of which type of entity he should choose would need to come first. And then the fun part comes after that in terms of properly tracking and recording expenses, doing the accounting, doing the proper withholdings, making estimated tax payments, figuring FUTA and SUTA, etc. All of that is way, way out of my league.

I will definitely do that.
Thanks for all of your help on this. I really do appreciate it.
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I must have missed that this was on rental properties.
Yes, you should issue 1099's for work done on the rental property.
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Paul A. Thomas, CPA
Watkinsville, Georgia
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Paul Thomas, CPA wrote:

No problem. I had that information buried somewhere in one of my long posts.
One other quick question. In talking with this person, it seems like he probably wants to just start out as a sole proprietorship with a "DBA" business trade name. That's actually what he is doing now, but he is just getting strated. He has business cards with a business name on them with his name listed on the cards as "Owner". In New Jersey, he just has to pay $30 in the county where he lives to register his DBA trade name. And, he is about to open a bsuiness bank account in that business trade name.
My question is, should he or could he obtain a separate tax ID number for his sole proprietorship business, or does he just use his social security number as his tax ID number?
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RonABC wrote:

Just to close this out, I did learn that he would be better off getting a separate tax ID number for his sole proprietorship business, whcih he did do. That way, he does not have to give out his own social security number to customers and just gives them his business tax ID number.
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