Should I Incorporate?

What are some of the benefits of incorporating myself? Also, will the corporation be registered under my own social security number or a federal tax identification number? Will money earned through the corporation be considered money earned through my social security number?

There are many benefits to incorporating your business. Most business owners who incorporate are seeking limited liability, and a properly formed and operated corporation is considered a separate legal "person." It is from this concept that corporations derive many of their benefits.

One of the most sought-after benefits of a corporation is that the assets of the owners are protected from business liabilities. As a separate legal entity, a corporation incurs business debt or liabilities on its own behalf, which shields the business owner from responsible for the debt. This can be especially important if the business venture is risky or for a wealthy owner. This protection is eliminated if a lender requires the corporate shareholders to guarantee corporate debts.

Incorporation also offers tax benefits to the business owners, which include health and life insurance, travel and entertainment deductions, retirement plans, educational benefits, and dependent care assistance. In some situations, items that may be only partially deductible by a proprietor become fully deductible in a corporation. When planning in this area, it is important to consider various tax requirements such as discrimination rules that require benefit plans to cover all employees.

Also, with a corporation, business owners own stock shares of the business, rather than owning the business property directly. In certain situations, this can make the transfer of ownership‹or partial ownership‹of the business easier, and can. be especially beneficial in certain family/estate planning situations.

To many people, the corporate identity inherently makes a one-person shop sound more credible. To these people, the words "corporation" or "inc." in a business name convey stability and business sophistication.

As a separate entity, the corporation will be required to obtain its own tax identification number and to file its own tax returns. Additionally, it is not proper to mix personal and corporate assets or funds together, called commingling. Commingling can cause shareholders to lose their limited liability.

The possibility of double taxation on income exists since the corporation will have to pay income tax on its earnings. Then, the shareholder may have to pay income taxes when the earnings are distributed from the corporation to the shareholder, commingling only in the form of dividends. This can often be avoided by either electing "S corporation" status or with careful planning of income and deductions.

Typically, money earned by the corporation will not be credited to your Social Security earnings. However, the salary paid to you by the corporation will be, and it will be deductible by the corporation. There are tax laws requiring reasonable compensation to be paid to shareholder/employees.

These are a few issues to consider when evaluating a corporate form of business. There are additional pros and cons, and there are other entity types that should also be considered.

Source: Michael P. Lynch, CPA, CFP.

One of the biggest decisions facing consultants and freelancers is whether to incorporate or to continue being "self-employed" or a "1099" for tax purposes. Incorporation has many benefits for small business owners, and here are five reasons why consultants should consider incorporating:

Limited Personal Liability

The classic reason for incorporating a business is to limit the personal liability of the owner; this is especially pertinent if you are the only member/employee of your business. By incorporating, the owners' personal assets are, for the most part, off limits to satisfy judgments against the business, including any breach of contract allegations.

Potential Tax Savings

Some businesses can gain great tax benefits by incorporating, but this is an area that you and a tax professional need to examine closely before your decision.

For example, if you incorporate as an S-Corporation, which consists of fewer than 100 shareholders, you will pay income tax on your share of the corporation's income (wages, dividends, and taxable benefits paid to you by the corporation) at your personal tax rate; you can also use corporation losses to offset other income.

The S-Corporation itself is unlikely to pay any direct income taxes. C-Corporations, on the other hand, pay a flat 35% tax rate, so be very careful about how you set up your corporation. Remember that if you are self-employed, your income is subject to income tax as well as the self-employment tax.

Another way you can save on taxes through incorporation arises because small business retirement plans allow for the deferral of a larger percentage of income. In other words, through incorporation, you can maximize your retirement fund contributions, which reduces your taxable income and therefore the amount of taxes due.

Reduced Chances of Tax Audit

Self-employed taxpayers who are required to file a Schedule C have one of the highest audit rates; the government apparently believes that many self-employed individuals underreport income and overstate deductions, so this is the IRS's way to find them.

Yes, the chances of being audited by the IRS are already relatively low, but just by incorporating your business, you are lowering them even further.

More Affordable Health Insurance

One of the biggest expenses—and often one of the first to be cut from the budget—for consultants and freelancers is health insurance. Through incorporation, your company may be eligible to purchase medical and dental plans at a discount.

Moreover, you may also be able to get a medical reimbursement plan for expenses not covered by insurance. Although additional medical expenses may be deductible for the self-employed, i.e., unincorporated, taxpayer, remember that the deduction is limited to amounts in excess of 7.5% of adjusted gross income, which can be a fairly high threshold for some taxpayers.

Increased Credibility

Having an "Inc." or "Co." after your business name instantly tells potential clients that, well, you mean business. You're not just running your consulting or freelance business out of your garage in your free time as a hobby—this is your career and livelihood, and your business name says so.

Incorporation adds a certain level of professionalism to your business and clients will take notice, especially those who would prefer to work "corp to corp" instead of collaborating with "1099s

What about the disadvantages of incorporating?

Incorporating isn't without its potential disadvantages. There are costs associated with setting up your corporation and the tax benefits don't apply to everyone. Talk to your financial advisor to make sure that incorporating makes sense for your business.

Overall, though, incorporating can be one of the best business decisions many consultants and freelancers ever make. 

Source: Michelle Fabio, Esq.