Your LLC won't save you taxes...

There are a lot of reasons to create an entity, taxes, the liability involved in the business you're running, whether or not there are investors or partners, etc. There are also many reasons to choose a specific type of entity. One thing we've seen throughout the years is that there doesn't seem to be a lot of thought put into that choice....and it can cost you a lot in taxes.

Here's why...

90% of the people who come to us have an LLC and for many of them, that's the perfect choice. But for others, it could be a terrible option. See, there's not a "one size fits all" solution for entity choice. There are many things to consider in deciding how your company should be set up. For example:

• the amount of your earnings and deductions

• liability exposure for your service or product

• are there partners or investors

• your residency and where you're conducting business

• overall goals of the business

• the costs associated with setting up and maintaining particular types of entities

• tax planning to avoid paying too much self-employment tax

All of these items should be considered when deciding on an entity choice, but this article is going to focus on that last one.

One of the main "negatives" about a sole prop/single member LLC is the self-employment tax (SE tax). SE tax is made up of the Social Security tax and the Medicare tax. Normally, when/if you had a W-2 job and you'd get your check, you'd see amounts deducted for both of these. That's the employee portion (SS 6.2% and MC 1.45%). As a sole prop or single member LLC, you're both the employER AND the employeEE....which means you pay both sides on your ordinary net income. That comes out to an additional 15.3% (12.4% SS and 2.9% MC). So, what's ordinary income? OI includes sales of products/services, commissions and short term income in real estate if you're a real estate professional. For 2022, the Social Security piece applies to the first $147,000 of income, the Medicare piece has no limit and actually increases to 3.8% for single filers when income hits $200,000 and $250,000 for married filers.

As you can see, this can add up quickly.

Having said all this, if your income is low, this may not impact you as much as it will when you're making more money. As we stated in the beginning, this is one part of the decision, but you can see it could be a costly one if it's overlooked.