In this Episode, Steve and Chris continue their talk on corporate formalities and why they are important. They discuss the importance of board meetings, piercing the corporate veil, and shareholder basis record keeping.

Listen to the full episode to learn more!

Episode Transcript

Intro:

You're listening to the Practical Tax podcast with tax attorney Steve Moskowitz. The Practical Tax podcast is brought to you by Moskowitz LLP, a tax law firm.

Steve Moskowitz:

Welcome to everyone. We're here to talk to you about all the benefits that a corporation can provide to your business. I'd like to introduce my friend and longtime colleague, attorney and EA, Chris Housh. Chris, you have so much experience in this. What's the benefit of being a corporation?

Chris Housh:

The main benefit is that you have what's called a corporate shell. So by going and making where you're treating your business as being something separate than your own individual self and having the formalities in place, you're making it where the government and all of your creditors recognize that your personal assets are not something that can be grabbed if something happens with your corporation. Also, if something happens for you individually, your corporation, your business, is protected from your personal creditors. Now you do have to go and make sure that you follow the rules, that you actually put everything in place. But once you've done that, you've created the beneficial element of protection. You also have tax benefits, whereas, especially within current laws, as they were changed in 2018, expenses and deductions that you cannot get as an individual the corporation is allowed to deduct, as long as it's a regular ordinary expense of the business. And that includes things like the state taxes, and other expenses that you're incurring, that you would not be allowed to deduct as an individual.

Steve Moskowitz:

So, Chris, that sounds like really a big deal. That's asset protection, 'cause you know, there's a lot of risk in business. And a lot of people would like to go into business, but they don't wanna risk everything they worked for in a lifetime. That sounds like a tremendous deal. And how does it work for taxes? Does it make a difference of your corporation for taxes?

Chris Housh:

Yes, now there's two kinds of corporations. There's what's called a C corporation and a S corporation. The C is the default, but you never wanna actually be a C Corp, unless you fit into a specific category. The three times that you are forced to stay as a C corporation, is if you're gonna have a hundred or more shareholders, if you have any foreigners that are shareholders, or if you're planning on actually going and having your stock sold on the stock market, NASDAQ or the top 500, they require you to be a C corporation. The problem is a C corporation is taxed at the corporation level, and then taxed again at the shareholder level for any money that comes out of the corporation to the shareholder. So you're double taxed. You don't want that. It's more frustrating to have to go and deal with that.

Instead you wanna be able to go down to the S corporation. An S corporation, again, you get to have all those deductions that are regular for a business, reduced down the profit that S corporation, as long as you don't fit into the circumstances of being required to be a C Corp, you then have it where your net profit, after all those expenses, flows down into your individual tax return, the corporation doesn't pay any tax, and then you can have your other items of income and expense deducted against what the corporate profit is. And if your corporation loses money, and you're actively working the business, those losses can actually offset your other income. So you get definite benefit out of that, while also again, protecting your assets, protecting your interests, and making where you have the safety of a corporate shell.

Steve Moskowitz:

Well, that's terrific. And are there any benefits that come about with a corporation, if you are looking at your state taxes?

Chris Housh:

There are many states that have been trying to figure out how to get around the state and local tax cap that was put into the 2018 tax law changes.

Steve Moskowitz:

What is that cap?

Chris Housh:

The cap is that you can only take $10,000 on your individual tax return of what you're paying out to state and local taxes, as a deduction on your schedule A itemized deductions.

Steve Moskowitz:

So you mean, if I pay a million dollars in state taxes I can only deduct $10,000?

Chris Housh:

Yup, thanks to that 2018 law change.

Steve Moskowitz:

Ouch.

Chris Housh:

Exactly. But if the corporation has to pay those taxes and does the action properly, then you can go and actually have it where the corporation has that deduction, 'cause it has the ability to deduct all of its taxes. The government set it up that a corporation that's only making $20,000 a year gets the same benefits of a corporation that's making $20 million a year. Gets to take the full deduction of whatever taxes its paying and other expenses. You have that runoff of the corporation, you're able to go and do that. And then a lot of states to find ways to work around it, California, New York, a lot of these states that have higher state taxes, that are likely to have more than $10,000 paid, have been making specific rules on how to go and make it where you can have your corporation take a bigger chunk of state tax. So you have it, with the IRS's blessing, to go and have the deduction come out at the corporation level, and then pass down into your individual return, while still allowing you still to have even, whatever you're paying individually for your state taxes still be on the schedule A.

Steve Moskowitz:

So basically then what it sounds like, if a person had a business and they were a sole proprietor, like so many people are, they'd be limited deducting, no matter how much they paid in state taxes, 10 million to $10,000. But if they did the simple act of incorporation and made an S election, they'd effectively be able to deduct these taxes?

Chris Housh:

Correct.

Steve Moskowitz:

Wow, that's incredible. And tell us some of the other benefits that a corporation enjoys. For example, what about if you're looking at other areas? What other areas would this do for us?

Chris Housh:

Well, one of the things that I especially like about it is- now I hope every one of my clients are gonna be great successful businesses, but the average of how many businesses survive the first five years, is unfortunately relatively low. So I look for how to protect my client in the worst case scenario, if the business isn't gonna be successful, one of the things is that the expenses and debts of the corporation, as long as you do everything properly, you don't go and commingle your personal income and expenses out of the corporation. You keep all the formalities going, of making sure you do your meetings every month, and things like that, which we'll talk about in a different podcast.

As long as you're doing everything properly, the debts of the corporation, if the corporation is not able to go and continue living, can all be locked inside the corporate shell. There's a few that escape. Anything that you put a personal guarantee on. So if they sign loan for the corporation, but they ask you to go and personally guarantee it, obviously you guarantee it personally, they get to kind of go and still ask you to pay individually. If you took out a corporate credit card, the Truth in Lending Act says, a corporation actually cannot own a credit card, that it is solely the people that are either the co-signer owner, or the person assigned to actually buy something with that credit card, are the ones that are responsible if the corporation can't do it. So that breaks out of the corporate shell.

And then the third thing is what's called trust fund taxes, which is either sales tax, or wages withheld out of an employee's paycheck. The employer share of those taxes stays in the corporate shell, but anything that a person paid to you, and according to the government, that person trusted you to pay it over to the government. That part can follow you outside of the corporate shell. But I've successfully locked in loans from banks, lines of credit from different stores, even a wage claim of unpaid wages. I've been able to lock inside a corporate shell for businesses that weren't able to keep going and keep meeting their expenses. And that comes also to an element of, if you do a corporation versus a LLC, limited liability company, when the going gets tough, a limited liability requires its members to pay in to the LLC, so it can finish paying its bills before it can close. But a corporation can have the bills out there, and you just have to sell off your assets, have a board meeting saying that you're gonna go and close up, properly notice everybody. And after you've liquidated, whatever wasn't paid is locked inside the corporate shell. They can't come after you individually as an owner

Steve Moskowitz:

As a practical matter, that would probably cover most businesses, because let's face it, most businesses, most of their expense, I think like vendors, and most vendors would probably be dealing with the corporation. So if something didn't work out, the owner would be protected. That sounds fantastic.

Chris Housh:

Yeah, so once you're ready to actually start up as a corporation, what you're supposed to do, is let your vendors know that you're gonna be a corporation. Let them know your name, let them know the date that you're forming. And as long as they know that they're dealing with a corporation, then they are start having to do the rules and about, that they're dealing with a corporation, and that they can't come after you individually.

Steve Moskowitz: