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$500K Opportunity - Need help with taxes

Taxes and regulation
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I have a former client in my network who I've kept in touch with and mentioned to her that I am looking to leave my job. She brought up a $500K opportunity and wants me to deliver it on my own. I'm in shock because I was just going to jump to another company, but this has me intrigued and I want to work some rough numbers (going to end up getting a CPA) before I committ to anything, but this seems like its a no-brainer to go with. Few questions:

1. What are the big expenses I need to consider for start up expenses? At this moment, I have estimated about $70K for the year. This would include a virtual office, software/technology, website, medical insurance, professional liability insurance, anticipated legal/CPA/developer costs through the year.

2. For the self employment tax, it is calculated based upon net profit correct? And you need to pay estimated taxes? So that calculation would be based on say $430K ($500K less $70K expenses)

3. That $430K is "profit" and would be the basis of my income tax that I need to pay taxes on in April correct? Or are my personal taxes based only upon the draw amounts for the year?

Anything else I should be considering?
 
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biophase

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So it sounds like you are going to start a new company that is going to gross $500k? Sounds like consulting or something where you won't have any cost of goods expenses except for the $70k?

Not sure if you are going to be taxed as an S or C-corp. That would make a difference. But if it's a pass-through single member LLC you are taxed for all of it personally. So on $430k, you'd be taxed around 40%, $175k +/- depending on your state taxes. It's basically the same as if you got a job for $430k.
 

100k

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So it sounds like you are going to start a new company that is going to gross $500k? Sounds like consulting or something where you won't have any cost of goods expenses except for the $70k?

Not sure if you are going to be taxed as an S or C-corp. That would make a difference. But if it's a pass-through single member LLC you are taxed for all of it personally. So on $430k, you'd be taxed around 40%, $175k +/- depending on your state taxes. It's basically the same as if you got a job for $430k.

What if he sets up a 2nd LLC and makes it another person in the company, and pays himself $400k dividend instead.
 
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So it sounds like you are going to start a new company that is going to gross $500k? Sounds like consulting or something where you won't have any cost of goods expenses except for the $70k?

Not sure if you are going to be taxed as an S or C-corp. That would make a difference. But if it's a pass-through single member LLC you are taxed for all of it personally. So on $430k, you'd be taxed around 40%, $175k +/- depending on your state taxes. It's basically the same as if you got a job for $430k.

You are correct. I would selling/providing consulting services.

I just ran quick numbers in a "tax calculator" and if I have an input of $430K as my "gross income" (this would be my business profit) and only take a standard deduction (which I'm assuming I wouldn't with all the deductions I can take) then my taxable income is around $405K. Estimating $92K for federal and $33K for state leaving me with a income after taxes of $305 right? ($430 - $92 - $33)
 
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Talk to a good accountant or tax professional. At that level of income you can save some money using a C-Corp, where you'd be taxed on a smaller salary (say $100K) at ordinary rates plus FICA, but then pay only 21% on the retained earnings in the C-Corp. The question is whether you'd be able to put those retained earnings to use to generate additional income (scale the business, grow another business, invest those funds, etc). Otherwise, you'd end up paying another 15% (or 20%) to get the income out of the C-Corp and into your pocket.

Other things to consider are that C-Corps can still deduct state taxes (pass-throughs no longer can), but if you're planning to sell the company at some point, you'll be double-taxed as a C-Corp on that sale.

Lots of stuff to consider, especially with the new tax laws. These days, you have to look at your longer-term plans/goals to make the most optimal business structuring decision. Talk to a good tax planner about your situation and get his/her input.

Definitely going to speak to a tax planner as things become more realistic. My vision for this is to continue doing this until the client doesn't resign. Could be 1 year, could be 3, could be 5+ but if it makes sense financially, I don't see any other company with the ability to offer a salary close to what this would net me.
 

jarb

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I have a former client in my network who I've kept in touch with and mentioned to her that I am looking to leave my job. She brought up a $500K opportunity and wants me to deliver it on my own. I'm in shock because I was just going to jump to another company, but this has me intrigued and I want to work some rough numbers (going to end up getting a CPA) before I committ to anything, but this seems like its a no-brainer to go with. Few questions:

1. What are the big expenses I need to consider for start up expenses? At this moment, I have estimated about $70K for the year. This would include a virtual office, software/technology, website, medical insurance, professional liability insurance, anticipated legal/CPA/developer costs through the year.

2. For the self employment tax, it is calculated based upon net profit correct? And you need to pay estimated taxes? So that calculation would be based on say $430K ($500K less $70K expenses)

3. That $430K is "profit" and would be the basis of my income tax that I need to pay taxes on in April correct? Or are my personal taxes based only upon the draw amounts for the year?

Anything else I should be considering?

1. Your personal tax obligation is based on income earned, regardless of whether you withdrew it from your LLC (or other corporate structure). Holding the profit at the entity level doesn't delay/defer the tax consequence of the profit.

2. If your personal circumstances allow for this, consider living in a more favorable tax jurisdiction. You can definitely reduce your US federal income tax obligation if you were willing and able to relocate. For example, there's one jurisdiction where as an American (assuming you are), you can qualify for a ~5% corporate tax rate on service income - which includes all local and federal tax (i.e. 95% of your income is yours). If you moved outside the U.S., per IRS guidelines, part of your income would not be subject to US federal income tax (but may be subject to SE tax).

I'm not an attorney or CPA, so you'd need to seek your own counsel before making any decisions.
 

advantagecp

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You are correct. I would selling/providing consulting services.

I just ran quick numbers in a "tax calculator" and if I have an input of $430K as my "gross income" (this would be my business profit) and only take a standard deduction (which I'm assuming I wouldn't with all the deductions I can take) then my taxable income is around $405K. Estimating $92K for federal and $33K for state leaving me with a income after taxes of $305 right? ($430 - $92 - $33)

Not enough detail to know for sure what you mean here, but your business expenses (deductions) will be on your tax return for your business entity or on your Schedule C if you were to run it as a sole proprietorship. Those deductions have nothing to do with the itemizing / take standard deduction situation on your personal return.

I would look long and hard at moving to Puerto Rico and taking advantage of Act 20 or Act 22.
 

garyfritz

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At that level of income you can save some money using a C-Corp, where you'd be taxed on a smaller salary (say $100K) at ordinary rates plus FICA, but then pay only 21% on the retained earnings in the C-Corp.
You can do the same with an LLC or (I think) an S-corp. My CPA's been doing that for me for 30 years. Take a nominal salary (my CPA uses $15k) and declare the rest as dividend. You have to pay income tax on all of it, but you only pay SS / Medicare tax on the $15k. Makes a significant difference. With an LLC you don't have to worry about retained earnings or double taxation, but you'd probably pay a higher tax rate (personal income rate vs. corporate rate of 21%). So the C corp may be the best answer, especially with the income levels you're talking about.

With $15k declared income you might slightly reduce your eventual SS income, if that concerns you, but it's not a big deal. With 30 years of mostly $15k income, I'll still get about 80% of the maximum possible benefit.

Your tax pro will also explain that you should pay quarterly estimated taxes. At your job your employer withheld taxes from every paycheck; now you have to do it yourself. If you expect $175k tax liability like @biophase suggests, then you would want to file about $65k in estimated taxes each quarter.
 

J.F.

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What if he sets up a 2nd LLC and makes it another person in the company, and pays himself $400k dividend instead.

You just blew my mind with that. Is that a possibility? Can you own both LLC's and do that? Please explain.
 
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garyfritz

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Taking S-Corp distributions after reasonable salary will reduce FICA (as distributions aren't taxed on FICA), but you don't actually get the full savings, as the employer half of the FICA taxes are deductible to the business.
But if I AM the business, if I own the LLC, then I have to pay both sides of the FICA -- and so I save both sides.

In practice, after the 2018 tax cuts, if you have net income that exceeds about $300K (depending on some other factors), a C-Corp is typically the better choice. Under $300 net income, a pass-through entity is typically the better choice.
Sadly, I've never made it anywhere near $300k, so the pass-through has always been the best answer for me.

Totally agree on all your other points.
 

Lion Identity

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I have a former client in my network who I've kept in touch with and mentioned to her that I am looking to leave my job. She brought up a $500K opportunity and wants me to deliver it on my own. I'm in shock because I was just going to jump to another company, but this has me intrigued and I want to work some rough numbers (going to end up getting a CPA) before I committ to anything, but this seems like its a no-brainer to go with. Few questions:

1. What are the big expenses I need to consider for start up expenses? At this moment, I have estimated about $70K for the year. This would include a virtual office, software/technology, website, medical insurance, professional liability insurance, anticipated legal/CPA/developer costs through the year.

2. For the self employment tax, it is calculated based upon net profit correct? And you need to pay estimated taxes? So that calculation would be based on say $430K ($500K less $70K expenses)

3. That $430K is "profit" and would be the basis of my income tax that I need to pay taxes on in April correct? Or are my personal taxes based only upon the draw amounts for the year?

Anything else I should be considering?
Set up an S corp and pay yourself a w2 salary that is reasonable and you will avoid all self employment taxes, it's one of the keys I share with my clients nearly every single day.
 

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biophase

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With $15k declared income you might slightly reduce your eventual SS income, if that concerns you, but it's not a big deal. With 30 years of mostly $15k income, I'll still get about 80% of the maximum possible benefit.

Just to add complication to this there was a new Trump tax law actually benefits you to pay yourself more as you get a 20% tax break for a single member pass through LLC.

There’s a calculation that you need to do to see the optimal salary to take to get the largest deduction.

Also, $15k is way too low to be paying yourself. It’s hard to defend.
 
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I appreciate all of the detailed feedback.

Is there any reason to not take all of the proceeded from the business? For example, I will be a one man business. Engagement is going to be a 1 year engagement for a fixed amount and I am fine with just doing my own thing for this one year and then going back to corporate. Again, based upon that "plan", assuming that I don't bring on new clients and/or renew this for another year, is there any reason I shouldn't be pulling everything except say $100K from the business and putting that in say a high yield savings account?
 
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Not enough detail to know for sure what you mean here, but your business expenses (deductions) will be on your tax return for your business entity or on your Schedule C if you were to run it as a sole proprietorship. Those deductions have nothing to do with the itemizing / take standard deduction situation on your personal return.

I would look long and hard at moving to Puerto Rico and taking advantage of Act 20 or Act 22.

What I mean is, and correct me if I'm wrong.

To determine self-employment tax, it is based upon the total net profit of the business. So in for example we do $500K and the startup cost is say $70K (website, lawyer/CPA professional services, medical insurance, etc.) then my self-employment tax is based upon $430K correct? If I am a single man LLC, I have to cover the full self-employment tax, however if I add a partner, am I able to split that cost with him/her?

For calculating federal and state income tax, that is why I was speaking about my standard deduction. Let's say we continue the example above. If my net profit is $430K and I pay self-employment tax of $100K (just for ease of numbers, not saying calculation is accurate) then I would claim I have $330K of income for the tax year. I would then go through my typical tax items such as deductions, in order to get my taxable income and determine my tax liability based on that.

Is all that accurate?
 
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biophase

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What I mean is, and correct me if I'm wrong.

To determine self-employment tax, it is based upon the total net profit of the business. So in for example we do $500K and the startup cost is say $70K (website, lawyer/CPA professional services, medical insurance, etc.) then my self-employment tax is based upon $430K correct? If I am a single man LLC, I have to cover the full self-employment tax, however if I add a partner, am I able to split that cost with him/her?

For calculating federal and state income tax, that is why I was speaking about my standard deduction. Let's say we continue the example above. If my net profit is $430K and I pay self-employment tax of $100K (just for ease of numbers, not saying calculation is accurate) then I would claim I have $330K of income for the tax year. I would then go through my typical tax items such as deductions, in order to get my taxable income and determine my tax liability based on that.

Is all that accurate?

If you make $430k, you pay taxes on $430k. If you have a partner and make $215k, you pay taxes but in a lower bracket on $215k. You are claiming $430k in income and pay all taxes associated with that. I'm not sure why you would deduct the self employment tax from your income first.
 

Lion Identity

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I'm not sure why people get things so confused, I have several strategic partners who are CPA's, frankly I seem to have more knowledge than 90% of them, here's how it is:
C Corps are for companies that are going public (IPO) or getting VC money
S Corps are for pretty much everything else if you want to avoid the 15% self employment tax
LLC, Partnerships and Sole props will all pay self employment tax which is 15% on top of regular income tax.
I don't know about you guys, but I want to pay the legal minimum not the max.
 

CareCPA

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I'm not sure why people get things so confused, I have several strategic partners who are CPA's, frankly I seem to have more knowledge than 90% of them, here's how it is:
C Corps are for companies that are going public (IPO) or getting VC money
S Corps are for pretty much everything else if you want to avoid the 15% self employment tax
LLC, Partnerships and Sole props will all pay self employment tax which is 15% on top of regular income tax.
I don't know about you guys, but I want to pay the legal minimum not the max.
This isn't entirely true.
I like the allure of the Section 1202 exclusion for a C Corp. Build a company, sell after 5 years, and enjoy up to $10 million in gains tax-free.
Several limitations, but it doesn't make the S Corp a no-brainer.

Also, to an earlier poster, you may want to evaluate the amount of work you do for your company to determine if $15k is a reasonable salary. Work 10 hours a week? Then maybe. Work full time? Likely asking for an audit.
 
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It sounds as though the best approach, will confirm with tax accountant, is going to be to setup an LLC and be taxed like an S-Corp. Set a reasonable salary, pay self employment tax on that, and then take the rest of the net profit as a distribution which will avoid the self employment tax on that portion.
 

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