Late S Corp Election

Updated June 14, 2024

S Corp status back to January 2023? No problem! The late S corp election can easily be done well into 2024 for 2023 as well (but there are things to work through)! How does this fit into S Corp vs LLC discussion? The S Corp election takes your LLC (or PLLC or C Corp or PC) and changes the way it is taxed to reduce self-employment taxes. The underlying entity remains intact. Only the way it is taxed changes.

Every year for nearly two decades, WCG CPAs & Advisors has successfully prepared and filed around 150 Form 2553 S Corp elections with a 100% success rate. Zero calories. No trans fats. Sprinkle in some tax savings, and it’s pure deliciousness! Okay, maybe we got carried away, but you get the idea.

Do you remember the old Van Halen song, Hot for Teacher? “I don’t feel tardy.” We don’t want you to feel tardy about your election to be taxed as an S corporation.

So if you are past the 75 days from January 1 or business inception, no worries—in true IRS fashion there is one rule (don’t be tardy), and fifty exceptions (my dog ate it). Form 2553 is no different, but filing it late has to be done correctly, and we can help!

Here are the quick benefits of an S Corp election:

• Primary benefit is the reduction of Social Security and Medicare taxes (self-employment taxes).
• You might need to process payroll (pay wages) to not be wage-limited on your Section 199A qualified business income (QBI) deduction. An LLC or a partnership cannot pay wages to its owner(s).
• The state and local tax (SALT) workaround only works with pass-through entities (PTEs). Your LLC cannot take advantage of the SALT work-around / PTET deduction without an S Corp election.
• Lower audit risk: Business activities reported on a Schedule C of your Form 1040 tax return tend to attract audits or IRS challenges for auto expense, meals, and travel. Your audit rate risk with an S corporation tax return is 0.4%.
• Certain taxing jurisdictions, such as California, have an egregious tax system that penalizes LLCs with additional taxes. An S Corp election might avoid this or significantly reduce this (in California, a garden-variety LLC is a dirty word).

Do you want a more obscure S Corp benefit? Of course you do!

A Qualified Subchapter S Subsidiary, also known as a QSub or QSSS, is simply an S corporation that’s owned by another S corporation. A QSub is treated as a subsidiary of the parent S corporation. Why do you care? At times, you want to merge two businesses, but the assets are immovable (think of a Medicare certification or a specialized defense contract). You might need to S elect one before the combination because of certain rules with the merger.

You might also want to combine gross receipts for the passive investment income test, or combine basis between stock and loan basis, or combine to release accumulated earnings and profit (AE&P).

Are you regretting asking? It’s OK, we’ll move along.

So we showed you all the benefits, fees and such… but we need to put the horse back in front of the carriage. Let’s go through a quick checklist to ensure we aren’t going down the wrong road. As Doc Brown in Back to the Future says, “Roads? Where we’re going, we don’t need roads.” Well, in S Corp land, we do:

1. Does your business earn over $48,000 net income (profit) after expenses? Say yes.
2. Are you located in New York City or Tennessee, where S corporation tax rates are egregious and suck up all the federal tax savings? New Hampshire? Portland, Oregon? Say no. Although there might be exceptions where an S Corp makes sense, NYC, TN, and NH in order to maximize Section 199A deduction benefits.
3. Do you have other W-2 income that exceeds or comes close to exceeding the Social Security limits of $168,600 (2024)? Say No. If you say yes, we need net business income to exceed $200,000 in #1 above so that the Medicare savings exceeds the “lost” Social Security tax paid by the S Corp (huh? We can explain).
4. Is this a going concern? In other words, is the business going to continue to earn the same income or more each year? Say Yes.
5. Do you have an LLC or some other entity in place that can be elected to be taxed as an S Corp? Say Yes. If you say No, we have options, just not elegant ones such as Shelf Corporations.
6. Do you have other partners besides a spouse… business partners, that is? Say No. If you say yes, are you currently splitting income based on ownership percentages or some formula? If you say Formula, then we’ll need to explore a multi-entity arrangement.
7. Does your entity own any appreciating assets, such as real estate? Say No. We don’t put appreciating assets into an S corporation. Holding companies own real estate and operating companies elect S Corp status. Chinese Wall.

Are you still here? Excellent news… read on! You can also complete a PDF version of the above questions, and send them to us for review.

Common S Corp candidates and current clients for WCG are consultants, engineers, financial advisors, physicians, chiropractors, doctors, surgeons, anesthesiologists, nurse anesthetists (CRNA), insurance agents, attorneys, photographers (the profitable ones), online retailers, FBA retailers, real estate agents, good, old-fashioned widget makers, among several others. We also have many medical groups and financial advisor teams. Yes, even those deemed to be specified service trades or businesses still benefit with Section 199A coupled with an S Corp election! Double your pleasure.

As you know, being taxed as an S Corp has huge tax savings because you avoid self-employment taxes. Through an S Corp election you are limiting the amount of income subject to Social Security and Medicare taxes which are bundled to be called self-employment taxes. The savings are easily 8-10% of your net business income after expenses (based on $100,000 net biz income). In other words, if you earn $100,000 in net business income after expenses, your tax savings with an S Corp election could be $8,000 to $10,000. This is the big difference when considering the S Corp vs. LLC discussion.

This article is about late S corporation elections and not a drill-down of the nuts and bolts tax savings. If you need more information on how this works and other S corporation advantages, click on the button below:

Still not sure or not convinced? No problem! Please check out Line 4 on Schedule 2 of your Form 1040 tax return. This number reflects the self-employment taxes paid on your business income. We want to reduce this by 60 to 65%. So, if this number is $15,000 then we probably get this down to about $7,000 or so which suggests an $8,000 tax savings.

Form 2553 (the S Corp election form) must be filed with the IRS which tells the IRS that your entity (LLC, partnership or C corporation, and the professional variants) wants to be taxed as an S corporation. It is typically due within 75 days of forming your business entity or the start of your fiscal year, however, there is relief for the late filing of Form 2553 and WCG can guide you through that. IRS Revenue Procedures 2003-43 and 2004-48 used to be the governing rules, but the IRS has simplified the procedure (imagine that!).

IRS Revenue Procedure 2013-30, effective September 3, 2013, allows an entity to get relief and file a late S Corp election within 3 years and 75 days from the date the election was originally intended to be effective. Holy cow. Three years! The IRS is basically saying that if you walk, talk and smell like an S Corp, then you are an S corporation.

So, if it is November 2023, and you want to go back to January 1, 2023 for setting up S corp status, no problem. We prepare and file Form 2553 under IRS RevProc 2013-30, open payroll accounts in your home state (yup, payroll!), process a payroll event that encompasses the entire year and you get a nice W-2. Done! All that is left is preparing your S corporation tax return on Form 1120S and your individual tax return.

What happens if it is too late to open payroll accounts and process a 2023 payroll? Typically, we issue a 1099-NEC from the S Corp to you, the human, to simulate shareholder payroll. This is first-year mulligan stuff, and the following year and beyond, proper payroll must be processed. Yes, complete with pay stubs and a W-2. At times, we manually process a late payroll event, but that is usually because of Section 199A Qualified Business Income Deduction benefits. More on this in a bit.

Let’s talk about the fees. here is a snapshot of our fees to do all this for you:

• Late S Corp Election, $600 ($450 for timely elections), $1,200 if after March 1, 2024 (we can explain why)
  
• Payroll Setup, $550 (CA, CO, TX easier… NY and PA, rough, like a stucco bathtub)
  
• Q4 Payroll Event and Tax Planning, $850 (or $450 if we skip tax planning)
  

Five states require a separate S corporation election form to be filed: Arkansas (really?!), New York, New Jersey, Ohio and sometimes Wisconsin.

If you live in a community property state such as Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin your spouse might need to sign the Form 2553 even if he or she is not a shareholder. As a side bar, community property laws originate from Spanish property laws which is why most of our bordering states are community property states (red does not mean Republican). Wisconsin has no excuse, and Idaho was just caught in some peer pressure from Washington and Nevada.

Another scenario! Let’s say it is March 2024 (tax season) and you’re freaking out because you forgot to make the S Corp election earlier. You can still file a late S Corp election Form 2553 back to January 1, 2023 but there are hiccups. Isn’t hiccups such a friendly word? Sort of like bumps in the road. No one says pitfalls or disasters anymore, just hiccups.

Bottom line is, we can engage in some revisionist history on March 1, 2024 and simulate Shareholder Wages / Officer Compensation for December 31, 2023 via a 1099-NEC issued from your S Corp to you individually. No worries, this is a one-time mulligan. We have been successfully, legally and ethically doing this since 2007 under IRS guidance. You’ll need real payroll and a real W-2 in 2023 so brace for that required impact. Here are our transparent fees:

• Prior Year Late S Corp Election, $600 if can file by March 15, otherwise $1,200 (we can explain why)
  
• Officer Compensation via 1099, Tax Planning, End of Year Tax Moves, $850
• 2023 Corporate and Personal tax returns, typically about $2,300 for both

Total out the door for 2023 is $3,750. So, if you have $100,000 in net business income after expenses, you’ll still pocket about $5,000 after our fee and your S corporation will be set up and ready to go for 2023 and 2024 (you still need payroll setup). Boom! Economists love cost-benefit stuff. Other humans just like money.

If your current CPA or tax professional says No, we suggest you find a new accountant (or at least educate him or her). WCG and other reputable CPA firms have been doing this for nearly two decades (there was relief provisions prior to the 2013 issuance of IRS Rev Proc 2013-30) without major problems.

Three things happen simultaneously with a prior year late S Corp election:

• Completing Form 2553 including the reasonable cause letter,
• Determining reasonable Shareholder Wage / Officer Compensation, and
• Preparing the S corporation’s tax returns (Form 1120S)

Since the IRS is a huge organization, the right hand doesn’t always talk to the left hand. Shocking, we know. Additionally, the IRS is bound by regulation to process Form 2553s within 60 days. However, they don’t, and they are taking about 4–6 months as of this writing. Therefore, after Thanksgiving, we electronically attach the late S Corp election to the tax returns, and file them together. Before that, we can fax Form 2553 with good success.

Why do you care? We cannot attach the late S corporation election form to an extension. There are three scenarios with varying elegance:

1. File Form 2553 before Thanksgiving. You can likely extend your S Corp tax returns (if you need to). Elegant.
2. After Thanksgiving, prepare both the tax return and election paperwork for the S Corp. File together by March 15. Also, elegant.
3. After Thanksgiving, and you need to extend for whatever reason. This gets messy. We will attempt to extend the tax return, but it will be rejected because of an entity mismatch in the IRS database (however, we have a time and date stamp akin to the lite version of a get out of jail free card). We file in the summer, and that kicks off a nastygram about late filing penalties, etc. Next, we use our time and date stamp as proof of our attempt to file a timely extension. All this works, but it does take extra brain cells (40-50 new S Corps find themselves in this bucket each year at WCG CPAs & Advisors, so you won’t be alone).

How does this late S corporation election, Form 2553, reasonable cause addendum, and blah blah blah all work? You probably have a good idea reading all this… but you might want to put it all together in a conversation so we can apply the process to your unique world. Let’s schedule that chat today!

Section 199A deduction also known as the Qualified Business Income deduction (QBID) arises from the Tax Cuts & Jobs Act of 2017. This is a significant tax break for small business owners, but there are rules and limits of course. We have written a short article which outlines what is considered a qualified business for the qualified business income deduction including the dreaded specified service trade definitions (which is easily summed up as “any trade or business where the principal asset is the reputation or skill” of the owner). All this stuff is in our book as well!

Click on the button below for our articles:

Even with Section 199A, S corporations remain a critical tax saving tool for two reasons. First, the usual self-employment tax savings remains intact for all business owners including specified service trades or businesses. Second, a business owner might need to pay W-2 wages to himself or herself to not be limited by income, and only corporations can pay W-2 wages to owners (in other words, an LLC cannot without an S Corp election). Read the article above for riveting information!

This information is also incorporated into our book including examples and calculations. Happy Happy Joy Joy!

One of the situations we face often is when taxpayers are operating as a sole proprietor without an LLC or other entity structure. This doesn’t allow for an S Corp election and subsequent tax savings. So, what can be done? We create an LLC immediately and elect it to be taxed as an S corporation. Next, we allocate income and expenses between the sole proprietorship and the S Corp using the date of inception. Finally, we explore shifting the remaining income by issuing a 1099-MISC from the sole proprietorship using your SSN to the S corporation’s EIN (income nomination). This income shift is not a slam-dunk recommendation and needs extended discussion.

Now that you can save thousands of dollars in self employment taxes with an S Corp election, you should invest that wisely. WCG (formerly Watson CPA Group) is a small business too, and we understand that any extra dollars usually get invested back into the growing company. Having said that, there are several small business retirement plans which include solo 401k plans, profit sharing plans, cash balance and defined benefits pensions.

For example, with a solo 401k plan piggybacked with a defined benefits pension, you could sock away over $192,000 at age 50. All tax deferred if you like, which could yield a savings of over $86,000 (assuming a 45% marginal tax rate with federal and state). Wow!

Note how we purposely did not mention SEP IRAs. These are old school and are usually designed to be crisis management tools (after the fact) rather than good planning tools. Read more about the various self employed retirement options, including retirement tax bombs and the difference between tax deferral and tax savings below-

Please contact us today to get started on the late S corp election. All the cool kids are doing it- well, most, and we’ll have to ask several questions to make sure the fit is right.