Under an S-corp you can avoid paying some self-employment taxes as well as corporate taxes. Similar to an LLC, the net profit for the corporation at the end of the year is passed through to the owner and is reflected in your individual income return, avoiding corporate taxation. 

However, an S-corp is still a form of incorporation and therefore profits retained by the company aren’t subject to self-employment tax.

Self-employment taxes are avoided or minimized depending on how you draw a salary from the corporation. The IRS would require you to pay self-employment taxes on any income the S-corp pays you for services, but would not require self-employment taxes on profits remaining with the corporation, even though the profits will be passed through.

An accountant can advise you on the details and IRS rules of such an arrangement.

Once you reach $94,200 in earnings, however, the benefits of the S-corp become a wash with those of self-employed or LLC status. While you may have avoided self-employment taxes, the net income that’s recorded on your individual return puts you in a higher tax bracket and therefore owing higher income taxes.

Due to its classification as a pass through entity, S-corps are unable to separate profits in order to take advantage of lower tax brackets. Subsequently, the higher tax brackets are also paid at the higher tax rates of individuals.

While the record keeping and accounting required for corporate taxes can be much more complicated than that of a sole proprietorship or LLC, there can be some benefits to all of that work.

The C-corp, or traditional corporation, becomes an attractive possibility for those earning six-figures or more. In this case, the corporation itself is taxed on business profits and as an owner, you will only pay federal income tax on money you draw from the corporation as a salary.

There is much more reporting and record keeping involved, but with careful planning, corporate taxes and owner salaries can be divided into lower tax brackets for both the corporation and individual.

This practice is known as income shifting and is probably one of the greatest tax benefits of a traditional corporation.

Corporations are taxed at the corporate rate – roughly 15 to 25% for the first $75,000 of retained profits – which is lower than the tax rate for an individual at that income level.

It’s important to note that the IRS does put limits on the retained profits of a corporation – about $250,000. Exceeding this amount results in the IRS imposing tax penalties.

Finally, traditional corporations also enjoy tax deductions on all expenses associated with running the business. While LLCs and S-corps also enjoy the rewards of business tax deductions, traditional corporations can additionally deduct employee salaries and bonuses, as well as medical and retirement plan costs.