Small Business Tax briefs

Lower your self-employment tax bill by switching to an S corporation

If you own an unincorporated small business, you may be frustrated with high self-employment (SE) tax bills. One way to lower your SE tax liability is to convert your business to an S corporation.

SE tax basics

Sole proprietorship income, as well as partnership income that flows through to partners (except certain limited partners), is subject to SE tax. These rules also apply to single-member LLCs that are treated as sole proprietorships for federal tax purposes and multi-member LLCs that are treated as partnerships for federal tax purposes.

In 2025, the maximum federal SE tax rate of 15.3% hits the first $176,100 of net SE income. That includes 12.4% for the Social Security tax and 2.9% for the Medicare tax. Together, we’ll refer to them as federal employment taxes.

The rate drops after SE income hits $176,100 because the Social Security component goes away above the Social Security tax ceiling of $176,100 for 2025. But the Medicare tax continues to accrue at a 2.9% rate, and then increases to 3.8% at higher income levels because of the 0.9% additional Medicare tax. This 0.9% tax applies when wages and SE income exceed $200,000 for singles and heads of households, $250,000 for married couples filing jointly and $125,000 for married couples filing separately.

Tax reduction strategy

To lower your SE tax bill, consider converting your unincorporated small business into an S corp and then paying yourself (and any other shareholder-employees) a modest salary. Distribute most (or all) of the remaining corporate cash flow to the shareholder-employee(s) as federal-employment-tax-free distributions.

S corp taxable income passed through to a shareholder-employee and S corp cash distributions paid to a shareholder-employee aren’t subject to federal employment taxes. Only wages paid to shareholder-employees are subject to them. This favorable tax treatment places S corps in a potentially more favorable position than businesses conducted as sole proprietorships, partnerships or LLCs.

The caveats

However, this strategy isn’t right for every business. Here are some considerations:

1. Operating as an S corp and paying yourself a modest salary saves SE tax, but the salary must be reasonable. Otherwise, you run the risk of the IRS auditing your business and imposing back employment taxes, interest and penalties.

You can minimize that risk if you gather objective market evidence to demonstrate that outsiders could be hired to perform the same work for salaries equal to what you’re paying.

2. A potentially unfavorable side effect of paying modest salaries to an S corp shareholder-employee is that it can reduce your ability to make deductible contributions to tax-favored retirement accounts. If the S corp maintains a SEP or traditional profit-sharing plan, the maximum annual deductible contribution for each shareholder-employee is limited to 25% of his or her salary.

So, the lower the salary, the lower the maximum contribution. However, if the S corp sets up a 401(k) plan, paying modest salaries won’t preclude generous contributions.

3. Operating as an S corp requires extra administrative hassle. For example, you must file a separate federal return (and possibly a state return).

In addition, you must scrutinize transactions between S corps and shareholders for potential tax consequences, including any transfers of assets from an existing sole proprietorship or partnership to the new S corp. State-law corporation requirements, such as conducting board meetings and keeping minutes, must be respected.

Mechanics of converting

To convert an existing sole proprietorship or partnership to an S corp, a corporation must be formed under applicable state law, and business assets must be contributed to the new corporation. Then, an S election must be made for the new corporation by a separate form with the IRS by no later than March 15 of the calendar year, if you want the business to be treated as an S corp for that year.

Suppose you currently operate your business as a domestic LLC. In that case, it generally isn’t necessary to go through the legal step of incorporation to convert the LLC into an entity that will be treated as an S corp for federal tax purposes. The reason is because the IRS allows a single-member LLC or multi-member LLC that otherwise meets the S corp qualification rules to simply elect S corporation status by filing a form with the IRS. However, if you want your LLC to be treated as an S corp for the calendar year, you also must complete this paperwork by no later than March 15 of the year.

Weighing the upsides and downsides

Converting an existing unincorporated business into an S corp to reduce federal employment taxes can be a wise tax move under the right circumstances. That said, consult with us so we can examine all implications before making the switch.

A tax guide to choosing the right business entity

One of the most critical decisions entrepreneurs make when starting or restructuring a business is choosing the right entity type. This choice directly impacts how the business is taxed, the level of administrative complexity and regulatory compliance obligations. While legal liability considerations also matter, we will focus on tax implications. For liability advice, consult a legal professional.

Whether launching a new venture or reassessing your current structure, understanding how each entity is taxed can help you make strategic and compliant decisions. Here’s a brief overview of five entities.

1. Sole proprietorship: Simple with full responsibility

A sole proprietorship is the easiest structure to set up. It’s owned and operated by one person and requires minimal administrative effort. Here are the main features:

• Taxation. Income and losses are reported on the owner’s personal tax return on Schedule C of Form 1040. Income is subject to 15.3% federal self-employment tax, and the business itself isn’t taxed separately. The owner may also qualify for a Qualified Business Income (QBI) deduction, potentially reducing the effective tax rate.
• Compliance. Aside from obtaining necessary licenses or a business name registration, there’s little required paperwork. However, the owner is personally liable for all business debts and legal obligations.

2. S Corporation: Pass-through entity with payroll considerations

An S corp is a tax designation offering pass-through taxation benefits while imposing stricter rules. Here are the highlights:

• Taxation. S corps don’t pay income tax at the entity level. Instead, profits or losses are passed through to shareholders via Schedule K-1 and reported on individual returns. A key tax benefit is that shareholders who are employees receive a salary (subject to payroll tax), while additional profit distributions aren’t subject to self-employment tax. However, the salary must be reasonable. The business is eligible for QBI deductions.
• Compliance. To qualify, S corps must have 100 or fewer shareholders, all U.S. citizens or residents, and only one class of stock. They must file Form 2553, issue annual Schedule K-1s and follow corporate formalities like shareholder meetings and recordkeeping. An informational return (Form 1120-S) is also required.

3. Partnership: Collaborative ownership with pass-through taxation

A partnership involves two or more individuals jointly operating a business. Common types include general partnerships, limited partnerships, and limited liability partnerships (LLPs). Here’s what makes it unique:

• Taxation. Partnerships are pass-through entities. The business files Form 1065 (an informational return), and income or loss is distributed to partners on Schedule K-1. Partners report this on their personal returns. General partners must pay self-employment tax, while limited partners usually don’t. The business is eligible for QBI deductions.
• Compliance. Partnerships require a detailed partnership agreement, coordinated recordkeeping and clear profit-sharing arrangements. While more complex than a sole proprietorship, partnerships offer flexibility for growing businesses.

4. Limited liability company: Flexible and customizable

An LLC merges elements of corporations and partnerships, offering owners — called members — both operational flexibility and liability protection.

• Taxation. By default, a single-member LLC is taxed like a sole proprietorship, and a multimember LLC like a partnership. However, LLCs may elect to be taxed as a C or S corp by filing Form 8832 or Form 2553. This gives owners control over their tax strategies. LLCs that don’t elect C corp status are eligible for QBI deductions.
• Compliance. LLCs require articles of organization and often must have an operating agreement. Though not as complex as corporations, they still generally face state-specific compliance requirements and annual filings.

5. C Corporation: Double taxation with scalability

A C corp is a distinct legal entity offering the most liability protection and growth potential through stock issuance. Here are its features:

• Taxation. C corps face double taxation — the business pays taxes on earnings (currently at a 21% federal rate), and shareholders pay taxes again on dividends. However, C corps can offer deductible benefits (for example, health insurance, retirement plans) and retain earnings without immediately distributing profits. C corps aren’t eligible for QBI deductions.
• Compliance: These entities require the most administrative upkeep, including bylaws, annual meetings, board minutes, and extensive state and federal reporting. C corps are ideal for companies seeking venture capital or IPOs.

After hiring employees

Regardless of entity type, adding employees increases compliance requirements. Businesses must obtain an Employer Identification Number (EIN) and withhold federal and state payroll taxes. Employers also take on added responsibilities related to benefits, tax deposits, and employment law compliance.

What’s right for you?

There’s no universal answer to which entity is best. The right choice depends on your growth goals, ownership structure and financial needs. Tax optimization is a critical factor. For example, an LLC electing S corp status may help minimize self-employment taxes if set up properly. Contact us. We can coordinate with your attorney to ensure your structure supports both your tax strategies and business goals.

The new law includes a game-changer for business payment reporting

The One, Big Beautiful Bill Act (OBBBA) contains a major overhaul to an outdated IRS requirement. Beginning with payments made in 2026, the new law raises the threshold for information reporting on certain business payments from $600 to $2,000. Beginning in 2027, the threshold amount will be adjusted for inflation.

The current requirement: $600 threshold

For decades, the IRS has required that businesses file Form 1099-NEC (previously 1099-MISC) for payments made to independent contractors that exceed $600 in a calendar year. This threshold amount has remained unchanged since the 1950s!

The same $600 threshold is in place for Forms 1099-MISC, which businesses file for several types of payments, including prizes, rents and payments to attorneys.

Certain deadlines must be met. A Form 1099-NEC must be filed with the IRS by January 31 of the year following the year in which a payment was made. A copy must be sent to the recipient by the same January 31 deadline.

A Form 1099-MISC must also be provided to a recipient by January 31 of the year following a payment, but unlike Form 1099-NEC, the 1099-MISC deadline for the IRS depends on how it’s submitted. If a business is filing the form on paper, the deadline is February 28. If the form is being submitted electronically, the deadline is March 31.

The new rules raise the bar to $2,000

Under the OBBBA, the threshold increases to $2,000, meaning:

• Fewer 1099s will need to be issued and filed.
• There will be reduced paperwork and administrative overhead for small businesses.
• There will be better alignment with inflation and modern economic realities.

For example, let’s say your business engaged a freelance graphic designer and pays the individual $650 this year. You’ll need to send a 1099-NEC to the designer for calendar year 2025. But if you hire the same individual in 2026, you won’t be required to send a 1099 to the graphic designer or the IRS in 2027 unless the designer earns more than $2,000.

The money is still taxable income

Even if an independent contractor doesn’t receive a 1099-NEC because the amount paid was below the threshold amount, the payment(s) are still considered part of the individual’s gross income. The contractor must report all business income received on his or her tax return, unless an exclusion applies.

In addition, businesses must continue to maintain accurate records of all payments.

There are changes to Form 1099-K, too

The OBBBA also reinstates a higher threshold for Forms 1099-K, used by third-party payment processors. The reporting threshold returns to $20,000 and 200 transactions, rolling back the phased-in lower thresholds that had dropped toward $600 by 2026. This rollback undoes changes from the 2021 American Rescue Plan Act and earlier IRS delay plans.

Simplicity and relief

Raising the threshold will ease the filing burden for millions of businesses, especially small operations that rely on contractors. There will also be less risk that an IRS penalty will be imposed for failing to file a Form 1099 when required. Contact us with any questions about the new rules or your filing requirements.

The QBI deduction and what’s new in the One, Big, Beautiful Bill Act

The qualified business income (QBI) deduction, which became effective in 2018, is a significant tax benefit for many business owners. It allows eligible taxpayers to deduct up to 20% of QBI, not to exceed 20% of taxable income. It can also be claimed for up to 20% of income from qualified real estate investment trust dividends.

With recent changes under the One, Big, Beautiful Bill Act (OBBBA), this powerful deduction is becoming more accessible and beneficial. Most important, the OBBBA makes the QBI deduction permanent. It had been scheduled to end on December 31, 2025.

A closer look

QBI is generally defined as the net amount of qualified income, gain, deduction and loss from a qualified U.S. trade or business. Taxpayers eligible for the deduction include sole proprietors and owners of pass-through entities, such as partnerships, S corporations and limited liability companies that are treated as sole proprietorships, partnerships or S corporations for tax purposes. C corporations aren’t eligible.

Additional limits on the deduction gradually phase in if 2025 taxable income exceeds the applicable threshold — $197,300 or $394,600 for married couples filing joint tax returns. The limits fully apply when 2025 taxable income exceeds $247,300 and $494,600, respectively.

For example, if a taxpayer’s income exceeds the applicable threshold, the deduction starts to become limited to:

• 50% of the amount of W-2 wages paid to employees by the qualified business during the tax year, or
• The sum of 25% of W-2 wages plus 2.5% of the cost (not reduced by depreciation taken) of qualified property, which is the depreciable tangible property (including real estate) owned by a qualified business as of year end and used by the business at any point during the tax year to produce QBI.

Also, if a taxpayer’s income exceeds the applicable threshold and the QBI is from a “specified service business,” the deduction will be reduced and eventually eliminated. Examples of specified service businesses are those involving investment-type services and most professional practices, including law, health, consulting, performing arts and athletics (but not engineering and architecture).

Even better next year

Under the OBBBA, beginning in 2026, the income ranges over which the wage/property and specified service business limits phase in will widen, potentially allowing larger deductions for some taxpayers. Instead of the distance from the bottom of the range (the threshold) to the top (the amount at which the limit fully applies) being $50,000, or, for joint filers, $100,000, it will be $75,000, or, for joint filers, $150,000. The threshold amounts will continue to be annually adjusted for inflation.

The OBBBA also provides a new minimum deduction of $400 for taxpayers who materially participate in an active trade or business if they have at least $1,000 of QBI from it. The minimum deduction will be annually adjusted for inflation after 2026.

Action steps

With the QBI changes, it may be time to revisit your tax strategies. Certain tax planning moves may increase or decrease your allowable QBI deduction. Contact us to develop strategies that maximize your benefits under the new law.

The new law includes favorable changes for depreciating eligible assets

The One Big Beautiful Bill Act (OBBBA) includes a number of beneficial changes that will help small business taxpayers. Perhaps the biggest and best changes are liberalized rules for depreciating business assets. Here’s what you need to know.

100% bonus depreciation is back

The new law permanently restores 100% first-year depreciation for eligible assets acquired and placed in service after January 19, 2025. The last time 100% bonus depreciation was allowed for eligible assets was in 2022. The deduction percentage was generally reduced to 80% for 2023, 60% for 2024, and 40% for eligible assets placed in service between January 1, 2025, and January 19, 2025.

For certain assets with longer production periods, these percentage cutbacks were delayed by one year. For example, a 60% first-year bonus depreciation rate applies to long-production-period property placed in service between January 1, 2025, and January 19, 2025.

Eligible assets include most depreciable personal property such as equipment, computer hardware and peripherals, commercially available software and certain vehicles. First-year bonus depreciation can also be claimed for real estate qualified improvement property (QIP). This is defined as an improvement to an interior portion of a non-residential building placed in service after the building was initially put into use. However, expenditures attributable to the enlargement of a building, elevators or escalators, or the internal structural framework of a building don’t count as QIP. They usually must be depreciated over 39 years.

Section 179 first-year depreciation

For eligible assets placed in service in tax years beginning in 2025, the OBBBA increases the maximum amount that can immediately be written off via first-year depreciation (sometimes called expensing) to $2.5 million. This is up from $1.25 million for 2025 before the new law.

A phase-out rule reduces the maximum Sec. 179 deduction if, during the year, you place in service eligible assets in excess of $4 million. This is up from $3.13 million for 2025 before OBBBA was enacted. These increased OBBBA amounts will be adjusted annually for inflation for tax years beginning in 2026.

Eligible assets include the same items that are eligible for bonus depreciation. Sec. 179 deductions can also be claimed for real estate QIP (defined earlier), up to the maximum annual allowance. In addition, Sec. 179 deductions are also allowed for roofs, HVAC equipment, fire protection and alarm systems, and security systems for non-residential real property. Finally, Sec. 179 write-offs can be claimed for depreciable personal property used predominantly in connection with furnishing lodging.

There’s a special limit on Sec. 179 deductions for heavy SUVs used over 50% for business. This means vehicles with gross vehicle weight ratings between 6,001 and 14,000 pounds. For tax years beginning in 2025, the maximum Sec. 179 deduction for a heavy SUV is $31,300.

Strategy: Sec. 179 deductions are subject to a number of limitations that don’t apply to first-year bonus depreciation. In particular, things can get complicated if you operate your business as a partnership, LLC treated as a partnership for tax purposes or an S corporation. The conventional wisdom is to claim 100% first-year bonus depreciation to the extent allowed rather than claiming Sec. 179 deductions for the same assets.

First-year depreciation for qualified production property

The OBBBA allows additional 100% first-year depreciation for qualified production property (QPP) in the year it’s placed in service. QPP is non-residential real estate, such as a building, that’s used as an integral part of a qualified production activity, such as the manufacturing, production, or refining of tangible personal property. Before the new law, non-residential buildings generally had to be depreciated over 39 years.

QPP doesn’t include any part of non-residential real property that’s used for offices, administrative services, lodging, parking, sales or research activities, software development, engineering activities and other functions unrelated to the manufacturing, production or refining of tangible personal property.

The favorable new 100% first-year depreciation deal is available for QPP when the construction begins after January 19, 2025, and before 2029. The property must be placed in service in the U.S. or a U.S. possession before 2031.

Take another look

These are only some of the business provisions in the new law. We can help you take advantage of tax breaks that are beneficial in your situation for 2025 and future years.

Significant business tax provisions in the One, Big, Beautiful Bill Act

The One, Big, Beautiful Bill Act (OBBBA) was signed into law on July 4. The new law includes a number of favorable changes that will affect small business taxpayers, and some unfavorable changes too. Here’s a quick summary of some of the most important provisions.

First-year bonus depreciation

The OBBBA permanently restores the 100% first-year depreciation deduction for eligible assets acquired after January 19, 2025. This is up from the 40% bonus depreciation rate for most eligible assets before the OBBBA.

First-year depreciation for qualified production property

The law allows additional 100% first-year depreciation for the tax basis of qualified production property, which generally means nonresidential real property used in manufacturing. This favorable deal applies to qualified production property when the construction begins after January 19, 2025, and before 2029. The property must be placed in service in the United States or one of its possessions.

Section 179 expensing

For eligible assets placed in service in taxable years beginning in 2025, the OBBBA increases the maximum amount that can be immediately written off to $2.5 million (up from $1.25 million before the new law). A phase-out rule reduces the maximum deduction if, during the year, the taxpayer places in service eligible assets in excess of $4 million (up from $3.13 million). These amounts will be adjusted annually for inflation starting in 2026.

R&E expenditures

The OBBBA allows taxpayers to immediately deduct eligible domestic research and experimental expenditures that are paid or incurred beginning in 2025 (reduced by any credit claimed for those expenses for increasing research activities). Before the law was enacted, those expenditures had to be amortized over five years. Small business taxpayers can generally apply the new immediate deduction rule retroactively to tax years beginning after 2021. Taxpayers that made R&E expenditures from 2022–2024 can elect to write off the remaining unamortized amount of those expenditures over a one- or two-year period starting with the first taxable year, beginning in 2025.

Business interest expense

For tax years after 2024, the OBBBA permanently restores a more favorable limitation rule for determining the amount of deductible business interest expense. Specifically, the law increases the cap on the business interest deduction by excluding depreciation, amortization and depletion when calculating the taxpayer’s adjusted taxable income (ATI) for the year. This change generally increases ATI, allowing taxpayers to deduct more business interest expense.

Qualified small business stock

Eligible gains from selling qualified small business stock (QSBS) can be 100% tax-free thanks to a gain exclusion rule. However, the stock must be held for at least five years and other eligibility rules apply. The new law liberalizes the eligibility rules and allows a 50% gain exclusion for QSBS that’s held for at least three years, a 75% gain exclusion for QSBS held for at least four years, and a 100% gain exclusion for QSBS held for at least five years. These favorable changes generally apply to QSBS issued after July 4, 2025.

Excess business losses

The OBBBA makes permanent an unfavorable provision that disallows excess business losses incurred by noncorporate taxpayers. Before the new law, this provision was scheduled to expire after 2028.

Paid family and medical leave

The law makes permanent the employer credit for paid family and medical leave (FML). It allows employers to claim credits for paid FML insurance premiums or wages and makes other changes. Before the OBBBA, the credit was set to expire after 2025.

Employer-provided child care

Starting in 2026, the OBBBA increases the percentage of qualified child care expenses that can be taken into account for purposes of claiming the credit for employer-provided child care. The credit for qualified expenses is increased from 25% to 40% (50% for eligible small businesses). The maximum credit is increased from $150,000 to $500,000 per year ($600,000 for eligible small businesses). After 2026, these amounts will be adjusted annually for inflation.

Termination of clean-energy tax incentives

The OBBBA terminates a host of energy-related business tax incentives including:

• The qualified commercial clean vehicle credit, effective after September 30, 2025.
• The alternative fuel vehicle refueling property credit, effective after June 30, 2026.
• The energy efficient commercial buildings deduction, effective for property the construction of which begins after June 30, 2026.
• The new energy efficient home credit, effective for homes sold or rented after June 30, 2026.
• The clean hydrogen production credit, effective after December 31, 2027.
• The sustainable aviation fuel credit, effective after September 30, 2025.

More to come

In the coming months, the IRS will likely issue guidance on these and other provisions in the new law. We’ll keep you updated, but don’t hesitate to contact us for assistance in your situation.

Tap into the 20% rehabilitation tax credit for business space improvements

If your business occupies a large space and you’re planning to relocate, expand or renovate in the future, consider the potential benefits of the rehabilitation tax credit. This could be particularly valuable if you’re interested in historic properties.

The credit is equal to 20% of the qualified rehabilitation expenditures (QREs) for a qualified rehabilitated building that’s also a certified historic structure by the National Park Service. A qualified rehabilitated building is a depreciable building that has been placed in service before the beginning of the rehabilitation and is used, after rehabilitation, in business or for the production of income (and not held primarily for sale). Additionally, the building must be “substantially” rehabilitated, which generally requires that the QREs for the rehabilitation exceed the greater of $5,000 or the cost of acquiring the existing building.

Eligible expenses

A QRE is any amount chargeable to capital and incurred in connection with the rehabilitation (including reconstruction) of a qualified rehabilitated building. Qualified rehabilitation expenditures must be for real property (but not land) and can’t include building enlargement or acquisition costs.

The 20% credit is allocated ratably, to each year in the five-year period beginning in the tax year in which the qualified rehabilitated building is placed in service. Thus, the credit allowed in each year of the five years is 4% (20% divided by 5) of the QREs concerning the building. The credit is allowed against both regular federal income tax and alternative minimum tax.

Permanent changes to the credit

The Tax Cuts and Jobs Act, signed at the end of 2017, made some changes to the credit. Specifically, the law:

• Now requires taxpayers to claim the 20% credit ratably over five years instead of in the year they placed the building into service, and
• Eliminated the 10% rehabilitation credit for the pre-1936 buildings.

It’s important to note that while many individual tax cuts under the TCJA are set to expire after December 31, 2025, the changes to the rehabilitation tax credit aren’t among them. They’re permanent.

Maximize the tax benefits

Contact us to discuss the technical aspects of the rehabilitation credit. There may also be other federal tax benefits available for the space you’re contemplating. For example, various tax benefits may be available depending on your preferences regarding how a building’s energy needs will be met and where the building will be located. In addition, there may be state or local tax and non-tax subsidies available.

Beyond these preliminary considerations, we can work with you and construction professionals to determine whether a specific available “old” building can be the subject of a rehabilitation that’s both tax-credit-compliant and practical to use. And, if you find a building that you decide to buy (or lease) and rehabilitate, we can help you monitor project costs and substantiate the project’s compliance with the requirements of the credit and any other tax benefits.