After 11 years practicing in Big Law - I set out on my own to hang my shingle and formed Business Law Group, LLC in 2017.
It was the first opportunity to take the tried and true advice I give to my new business clients: make sure you get a good CPA and talk through an S Corp election on the front end.
If you haven't heard this advice before - please hear it now: when starting any serious business venture you need to hire two professionals straight away - a CPA and a business lawyer.
I found a CPA who regularly advises entrepreneurs. He suggested that I wait to elect S Corp status for my LLC until I was confident I would make over $180,000 in annual distributions. He said this amount is about the revenue point where an S Corp election makes sense financially because of the increased accounting costs you have to maintain the corporate books and records and the corporate tax return involved in maintaining an S Corp (you have to file a personal and corporate return when electing S Corp status). My CPA's argument was simple: before you incur $2500 in annual unnecessary tax expenses - see what your revenue looks like.
At the time I thought this was great advice and I still consider it to be appropriate advice for startups that have no idea how much or even if their business venture is going to succeed. If you haven't proved your business concept - it makes no sense to elect S Corp status early on - you have much bigger fish to fry. I had a general idea of what I expected to make that first year and it was close to the $180K figure, but I wasn't positive. Taking the CPA's advice - I chose to ride it out.
Unfortunately for me, my CPA's advice would later come back to haunt me. My first year out of the gate with BLG I blew the $180k in revenue figure out of the water. Because I was not paying myself as an employee (which is the method your company uses when you elect S Corp status), and I was taking monthly distributions, which were super variable - I was not doing a good job setting aside taxes on the distributions. With a lot going on in that first year, I ended up with a $45k federal tax liability and a $13k state tax liability.
Now let me clear - this wasn't my CPA's fault. It was my own fault for not recognizing that I'm bad at sending large chunks of change to the government.
Fortunately, my husband and I immediately righted the ship, by electing S Corp status for the next tax year. Now I run all payroll to myself through an amazing software application called Gusto. This makes withholding automatic and easy and I can pay myself, my employees and contractors through automatic deposit within 2-5 days. It's a no-brainer and I should have structured the business in this manner right from the start.
Costs for this approach are much smaller than the anxiety of a huge tax bill that you aren't prepared for. And while this method does restrict cash flow in your business early on, it's a much better system for the type of person that, like me, is bad at sending large quarterly chunks of change to the IRS.
If you are a single member LLC in the professional services industry and you did not understand this post, it's important for you to discuss these issues with your lawyer and/or accountant.
For a primer on the subject, I would recommend this article.