In December 2017, Congress passed a landmark tax reform law known as the Tax Cuts and Jobs Act (TCJA). The TCJA makes major changes to numerous elements of the Internal Revenue Code (IRC), including IRC provisions that impact business entities in California. These changes are radically altering the business landscape, introducing new tax planning considerations for business owners. For example, business owners will need to consider how the TCJA impacts choice of business entity with regard to corporate tax rates, individual income tax rates, double-taxation, and other issues. In this article, our Sacramento small business accountants take a closer look at the effects of the federal tax reforms on business structure selection.

How Different Types of Business Entities Are Taxed

Before discussing potential impacts of the TCJA on business entity selection, our business tax accountants will quickly review some key differences between types of business entities.

  • Corporations – Corporations include C corporations and S corporations. Unlike C corporations, S corporations are “pass-through” entities, which means that the business’ income is not taxed at the entity level. Instead, income is taxed at the individual level. This stands in contrast to C corporations, which are subject to “double-taxation,” meaning both the business and its owners are taxed.
  • Limited Liability Companies (LLCs) – LLCs are often described as hybrid entities, because they merge features that are traditionally associated with partnerships (such as flexibility) and corporations (such as protection against liability). LLCs may elect to be treated as partnerships, sole proprietorships, or corporations for tax purposes.
  • Partnerships – Partnerships may include general partnerships, limited partnerships, and limited liability partnerships, depending on the laws of each state. (For instance, California does not permit limited liability limited partnerships, or LLLPs.) Like an S corporation, a partnership is a pass-through entity.
  • Sole Proprietorships – A sole proprietorship is taxed as a pass-through entity.

Should You Choose a C Corporation After the TCJA?

While the TCJA made many changes to federal tax laws, one of the most significant was its impact on the corporate tax rate, which was reduced from 35% to 21%. However, though the TCJA reduced the corporate tax rate substantially, that does not necessarily mean the C corporation is the appropriate structure for every new business entity, as C corporations can still be subject to double-taxation. Since double-taxation can potentially create a heavy financial burden for new entities, business owners are often encouraged to consider pass-through entities, such as S corporations, as an alternative. Moreover, it’s important to remember that the TCJA also lowered individual income tax rates, which benefits pass-through entities.

U.S. Corporate Tax Rates Before and After the TCJA

  • Pre-TCJA Corporate Tax Rates (2017 Tax Year)
    • 15% on income up to $50,000
    • 25% on income from $50,001 to $75,000
    • 34% on income from $75,001 to $10 million
    • 35% on income over $10 million
  • Post-TCJA Corporate Tax Rates (2018 Tax Year)
    • Flat 21% corporate tax rate

Individual Income Tax Rates Before and After the TCJA

  • Pre-TCJA Individual Income Tax Rates (2017 Tax Year)
    • 10% on income up to $9,525 (for single filers)
    • 15% on income from $9,526 to $38,700
    • 25% on income from $38,701 to $93,700
    • 28% on income from $93,701 to $195,450
    • 33% on income from $195,451 to $424,950
    • 35% on income from $424,951 to $426,700
    • 36.9% on income above $426,700
  • Post-TCJA Individual Income Tax Rates (2018 Tax Year)
    • 10% on income up to $9,525 (for single filers)
    • 12% on income from $9,526 to $38,700
    • 22% on income from $38,701 to $82,500
    • 24% on income from $82,501 to $157,500
    • 32% on income from $157,501 to $200,000
    • 35% on income from $201,000 to $500,000
    • 37% on income above $500,000

Ultimately, each decision must be made on a case-by-case basis, as there are many factors to consider when choosing a form of business in California. Obtaining the business tax services of an experienced CPA can help to you make an informed decision about what sort of entity is right for your goals and vision – while keeping the 2017 tax reform bill in mind.

TCJA Business Tax Planning Services for Corporations, LLCs, Partnerships, and Sole Proprietorships

At Cook CPA Group, our dedicated team of business and personal tax accountants have more than 20 years of experience providing business tax preparation, tax planning, and small business accounting services to companies throughout the Roseville and Sacramento regions. We work with small to midsize C corporations, S corporations, LLCs, partnerships, and sole proprietorships to help California business owners comply with the law and approach their financial goals more efficiently. For a free consultation about our business tax preparation services, contact Cook CPA Group online, or call us today at (916) 910-0323.