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Choosing the Right Legal Entity for Optimal Tax Strategy

Being a business owner comes with a number of substantial benefits: being your own boss, pursuing your passions, controlling the growth of the company. One benefit that’s often overlooked is the ability to use a business as a completely legal tax shelter. By taking advantage of tax strategies designed to protect business owners, you can keep more of your money that you earned or use it for investments rather than lose it every year to the IRS.

  1. Many factors go into designing an optimal tax strategy, but the important first step is deciding which legal entity to establish your business as. Your choice of a legal entity affects multiple aspects of your company’s future, including your personal liability, tax concerns and profitability. Businesses may not be people, but they do exist as unique and separate entities in the eyes of the government. Businesses are a collective enterprise that must conform to certain rules and regulations that are different than those experienced by individuals. This is why the government requires businesses to be registered and designations chosen.

There are two primary reasons why your choice of business entity matters. First, your personal liability is affected by which business designation you choose. For example, if your business goes bankrupt, you may or may not be protected from having to pay off its debts out of your own pocket. Second, the way tax laws are applied to the business will vary between each legal entity designation. This means that establishing your business as one entity over another could save you a substantial amount in taxes.

Here are several ways you can operate your business:

  1. Sole Proprietor
  2. Partnership
  3. C Corporation
  4. S Corporation
  5. Limited Liability Company
  6. Limited Liability Partnership
  7. Family Limited Partnership

Some of the items to consider when choosing an entity:

  1. The legal status: is the entity separate from the owner?
  2. Is the entity taxable separately from the owner?
  3. Does the Formation of the entity require filing with the State?
  4. Management of the entity.
  5. Continuity of life upon death of the owner.
  6. How many owners can the entity have?
  7. Who are the eligible owners?
  8. Owner Liability.
  9. Transferability of Ownership.
  10. Ability to raise capital.
  11. Tax Year.
  12. Tax on Formation.
  13. Allocation of income.
  14. Deductibility of Losses.
  15. Self-employment tax.
  16. Fringe Benefits.
  17. Reasonable compensation requirement.
  18. Liquidating and Non-Liquidating Distributions.
  19. Capital losses.
  20. Retirement plans.

There’s more…It’s important to know the benefits and drawbacks of each business entity type. An Attorney can advise you on the legal ramifications. To get the best possible feedback in designing an optimal tax strategy for your business talk to a Tax Strategist.

Esther Phahla is a Certified Public Accountant and Certified Tax Strategist in Temecula. She is the Author of tax planning books: “Why Didn’t My CPA Tell Me That” and “10 Most Expensive Tax Mistakes That Cost Business Owners THOUSANDS”. She also holds a Master’s of Science in Taxation. She can be reached at (951) 514-2652 or visit www.estherphahlacpa.com

Written by Esther Phahla

Esther Phahla is a Certified Public Accountant and Certified Tax Coach in Temecula. She also holds a Masters of Science in Taxation. She is the Best Selling Co-Author of a Tax Planning book “Why Didn’t My CPA Tell Me That”. She can be reached at (951) 514-2652.

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