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Watson CPA Group is WCG Inc
Posted Sun, October 20, 2019
The Watson CPA Group PLLC is now WCG Incorporated. Ok. Why? Good question. As you might know, WCG is a big fan of limited liability companies especially being taxed as S corporations. And… you probably have heard us complain about the attractive-not attractive tax rate of a C Corp. We have another blog post on the disadvantages of C corporations, but quickly stated-
The 21% tax rate of a C Corp looks great as compared to some individual tax rates such as 24%, 32%, 35% an 37%. Ah! But wait, to take money out of your C Corp you either have to increase your salary with the associated payroll taxes or take dividends at a 10%, 15% or 20% tax rate plus the potential Medicare surtax of 3.8%. The effective C Corp tax rate could reach 21% + 23.8%… or 44.8%. Yuck!
So, why is WCG a C corporation? Simply put, we converted our limited liability company to a corporation so we can expand ownership to other employees. Yes, you can accomplish employee ownership within an LLC, and you can do this on three levels.
Economic Interest (Profit Sharing)
An LLC could have a member who only holds an economic interest where he or she enjoys a share of the revenue or profits, or some other metric. For example, an LLC member of a CPA firm could earn 20% of his or her direct billable revenue. The member would receive a K-1 like any other member, and the LLC would file a partnership tax return on Form 1065.
Equity Interest (Ownership)
This same LLC member could also own an equity interest in the entity as well. The Operating Agreement could read that while this member owns an equity interest, he or she does not receive any distributions (rather he or she receives guaranteed payments or fees for services provided). This would allow the other member (presumably the majority member) to siphon all the excess profits / cash without having to share. Fun!
There might also be a hybrid system where a member has an economic interest in the LLC based on some formula, but is also rewarded with a share of the sale proceeds should the entity have a change in control event (wholesale sale, partial sale, merger, etc.). In other words, a member could plod along with a profit sharing incentive and yet have the future benefit of sharing in the value of the entity. This might be risky depending on the triggering event and the likelihood of it occurring (and you might not be able to assign this right to others such as your heirs upon death).
Avoid Self-Employment Taxes
The downside to all these scenarios is the self-employment taxes; the one thing that we all want to avoid or at least reduce to a reasonable level. If you receive a K-1 from a partnership (Form 1065) the ordinary income plus any guaranteed payments will be subjected to self-employment taxes (Social Security and Medicare taxes). Sure, electing the MMLLC to be taxed as an S corporation solves the self-employment tax problem but it also introduces all sorts of new problems with distributions and classes of voting stock (see fun buttons below for riveting articles).
But! There is an easy fix to this situation. We simply have each member create an entity taxed as an S corporation, and have his or her earnings be paid out to the S Corp. This is a common strategy for physician groups, insurance agents, real estate agents and financial advisors. Described briefly, the primary entity is a multi-member LLC which is owned by individuals. Each member also owns an S Corp which receives payments from the MMLLC in the form of fees for services provided based on some formula. We have wonderful KB articles showing pretty schematics of various scenarios. Check them out here-
Back to the issue at hand. Why did Watson CPA Group PLLC become WCG Inc.? Let’s deal with the easy question and answer first. We changed our name purely for identity purposes. A lot of businesses start off using the business owner or founder’s name. We were no different. Tina Watson, CPA, is the Watson behind Watson CPA Group. Sure, Jason Watson came along one day as Tina’s admin, but she was the founder.
As time marches on with any business and quality people are hired who share an entrepreneurial spirit, things might need to change. Ernst and Young becomes EY. PricewaterhouseCoopers becomes PwC. Even locally we have Stockman Kast Ryan becomes SKR. Watson CPA Group becomes WCG. Sure, it is not like other accounting firms where each letter represents a founding Partner… but simply being W Inc. sounds a bit weird and a little pretentious too.
Tina and Jason Watson want to let go, and invite others into the stewardship of the firm so changing the name just made sense. Besides all the cool kids seem to be doing it and succumbing to peer pressure is as good of an excuse as any. We can hear our mothers now; “if Johnny jumped off a bridge would you too?!” Rhetorical, mother, we don’t have friends especially named Johnny.
Why a corporation? WCG wanted to keep things simple from a K-1, Operating Agreement, tax return, membership, voting rights, etc. perspective. A corporation allows for that, and it keeps things simple on the outside; an employee owns 5 shares versus an employee owns 0.537452% of an entity. Elegance and simplicity.
Each WCG Partner as a title owns and operates an S corporation, and receives payments from WCG Inc. for services provided.
WCG Incorporated does not have an employee stock ownership plan (ESOP) as that term is defined. Frankly, ESOPs are unnecessarily expensive (as in $100,000+ fee payable to consultants, attorneys and other CPAs).
But, we do have a robust buy-sell agreement and associated shareholder agreements. Also, since 2001, most state boards of accountancy with the encouragement from the American Institute of Certified Public Accountants (AICPA) has allowed non-CPAs to own public accounting firms (up to 49%). One of the triggers for this was to allow quality people doing wonderful things to be owners of CPA firms. For example, big CPA firms have experts in real estate or oil and gas, or audit software developers, who are instrumental to the public but who are not Certified Public Accountants. This paradigm shift allowed these valued employees to become Partners of CPA firms without being CPAs.
WCG is no different. We want everyone from CPAs to Enrolled Agents to administrative staff to have a stake in the business that they work hard to foster and develop. Additionally, this serves as an exit strategy for succession planning.
We wrote a KB article that explains a bit more about the calculation of value and creating a market for the buying and selling of shares (recall that owning 5% of a privately held company is practically worthless unless there is a market for the shares).
WCG Inc Summary
So there you have it. We ran thru the various arrangements from a limited liability company (LLC) perspective including the built-in limitations. From there we ended on the benefits of a C corporation including a name change from Watson CPA Group to WCG. If you want more information about what we did and how we did it, please contact us.
Jason Watson, CPA is the Managing Partner of WCG Inc., a business consultation and tax preparation CPA firm located in Colorado Springs, and is the author of Taxpayer’s Comprehensive Guide on LLC’s and S Corps which is available online and from average retailers.