C Corporations - 5 Ways to Avoid Double Taxation
"Never form a C corporation... you will get double taxed!" is the battle cry of many CPA's.
While double taxation is something to consider when choosing an entity for your business, it can easily be avoided or significantly reduced by enacting a few creative methods. C corporations pay taxes on their profits at the corporate level. Then the profits are distributed to shareholders as dividends, and the shareholders pay taxes on those dividends on the personal level. Here are some ways to legally avoid double taxation:
1. Lease your car or truck to your corporation. By leasing your vehicle to your corporation, you create an expense to the corporation and only get taxed on the personal side for the lease payments. Rent payments are considered "passive income" so it is not subject to payroll taxes (15.3%), thereby further reducing your tax burden. In many cases, leasing your vehicle to your corporation can also allow you to deduct some or all of auto maintenance and gas expenses on the corporate side (depending upon your individual situation), thereby avoiding double taxation. This tactic works better taxwise if you use a multiple corporation strategy.
2. Create an HRA. An HRA is a Health Reimbursement Arrangement and allows for a corporation to reimburse its employees (you) for certain healthcare expenses incurred by the employee. You pay for the healthcare expenses personally, and your corporation reimburses the expenses monthly, quarterly, or annually depending upon what works best for you. The allowable expenses may be surprising... insurance premiums, co-pays, prescriptions, teeth cleanings, braces, reading glasses, contact lenses, and chiropractic visits are just some of the allowable healthcare expenses that can be reimbursed. The best part of an HRA is that it creates a possible tax free option for you. An HRA is a deductible expense to the corporation and the reimbursement is NOT taxable on the personal side. Unlike a group health insurance plan, you can set this up even if you are the only employee of your corporation.
3. Lend your corporation money. Many of us have invested a lot of money into our businesses... especially in the beginning stages. Keep track of purchases you make on behalf of your business early on or the money you have transferred into your business account to cover expenses when business is slow. Create a payment schedule and pay yourself back the money you used to cover the business expenses over time. You do not have to pay taxes on loan payments to yourself. Yes, the corporation will have to pay taxes on the money it uses to repay any loans (interest paid is a deduction for the corporation), but this method can help you avoid double taxation.
4. Reinvest in your business. Not all corporate profit has to be passed on to shareholders as dividends. Depending upon the nature of your business, some or all of the profits can be left in the corporation to make large purchases or to cover future business expenses. This will ensure you are only taxed once at the corporate level.
5. Pay yourself a paycheck. When all of the above methods have been exhausted, simply cut yourself a paycheck. Payroll is an expense to the corporation and you only get taxed on the personal side. Even considering the 15.3% FICA taxes, this can be a great way to avoid double taxation.
Remember no one size fits all. Always check with your CPA to make sure any of these methods will work for your individual situation. Be prepared to face some push back from your CPA--you are asking them to do extra work, and no CPA wants to admit that he or she left tax dollars on the table for their clients. If you feel your CPA is not working in your best interest, let us know and we can refer you to one who is familiar with these methods. We can help you set up the paperwork for these strategies as well.
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