When Mike started his consulting business, he did what many new entrepreneurs do—he operated as a sole proprietor. It was simple, required no formal setup, and allowed him to focus on building his client base.
But two years in, with business booming and $200,000 in net income on the books, Mike’s CPA asked a pivotal question:
“Have you thought about electing to be taxed as an S-corporation?”
Mike had heard the term before but didn’t quite understand how it worked—or why it mattered. What followed was an analysis that changed the way Mike ran his business and saved him thousands of dollars every year.
As a sole proprietor, Mike was paying self-employment tax on every dollar of his $200,000 net income. That meant:
Ouch.
But under an S-Corp structure, things look different. Mike would pay himself a reasonable salary (let’s say $96,000) and take the rest of the profit ($104,000) as a distribution, which isn’t subject to self-employment taxes.
Here’s how the S-Corp scenario plays out:
Of course, S-corporation status comes with a few additional administrative requirements:
Even after subtracting these estimated costs, Mike stood to save between $12,212 and $14,212 per year.
But that’s not all. Because S-corps are pass-through entities, Mike also became eligible for Missouri’s pass-through entity tax election, allowing state taxes to be paid at the business level—rather than being limited to the $10,000 SALT deduction cap on his personal return.
This strategy gave Mike additional federal tax savings, since he could now fully deduct state taxes paid by the S-corp.
Beyond tax savings, Mike discovered several practical and strategic benefits:
Fringe Benefits May Be Less Favorable
S-corporation owners who hold more than 2% of the company are treated differently than sole proprietors or C-corporation owners when it comes to fringe benefits.
The IRS requires that S-Corp shareholder-employees pay themselves a reasonable wage before taking distributions. This is a common IRS audit focus.
Tip: A reasonable salary should be based on industry standards, the services performed, and the time spent working in the business. In our earlier example, $96,000 appears reasonable—but this figure should be justified and documented.
Some states, including Missouri, allow Pass-Through Entity (PTE) tax elections, which can help bypass the federal $10,000 cap on state and local tax (SALT) deductions.
However, this strategy comes with caveats:
S-Corp shareholders must carefully track their basis (i.e., their investment in the company).
To be effective for the current tax year, you must file Form 2553 by March 15.
S-Corp status is relatively easy to revoke if your situation changes. However, once revoked, you generally cannot re-elect S-Corp status for five years without IRS approval.
For Mike, the math was simple: Save over $12,000 a year, protect personal assets, and run a more structured, scalable business.
If you’re earning over $50,000–$60,000 in annual net income, talk to your CPA or financial advisor about whether electing S-Corp status could be right for you. With the right structure and planning, you may save thousands each year in taxes—while building a more scalable and protected business. For many small business owners, this single decision can meaningfully boost profitability and financial efficiency—without changing the work you do.
Want to explore whether switching to an S-Corp could save you thousands too? Let’s talk.
Important Disclosures:
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
This information is not intended to be a substitute for individualized tax advice. We suggest that you discuss your specific tax situation with a qualified tax advisor.
This is a hypothetical example and is not representative of any specific situation. Your results will vary.