Tuesday, November 2, 2010

Time for C Corporations to Act

There are some, if few, advantages of organizing a closely-held business as a C Corporation. If that was your choice years ago, it may be time for a decision that could save you 5 figures in future taxes, if you act before December 31, 2012.   Perhaps you want to split that into a 2011/2012 strategy. 

As you know, C Corporations "lock up" profits and losses. Unlike S-Corps or LLC's, early-on losses and later profits don't flow to the shareholders until a cash dividend is declared. That can be an advantage, particularly with the ability to accumulate losses (loss carryforwards) in the early years and later use those to offset income, saving Corporate Income Taxes.

Beyond that breakeven point (when loss carryforwards are exhausted and retained earnings begin to accumulate), a lot of cash and working capital can be locked up in the C Corporation, and the only way to get cash into the hands of the shareholders is to declare a dividend.  At that time they have to pay taxes on the dividend.

Why is now a good time to be thinking about this? Well, we're presently at the lowest tax rates on dividends of my lifetime (and probably yours). Until December 31, 2012, the tax rate on dividends is capped at 15%. If the individual's income tax rate is less than 25%, then qualified dividends are taxed at only 5%. That's until December 31, 2012

On January 1, barring legislation in the meantime, the tax rate on dividends returns to ordinary income tax rates, the top of which is a whopping 39.6% in 2013. For an overview, see: http://en.wikipedia.org/wiki/Dividend_tax

Readers of this blog know I'm a huge proponent of taking cash out of your business (taking some chips off the table), even if it means the business borrowing money to do so. Think about it -- would you rather have $100,000 in debt in the business and $100,000 in cash in your own hands, or neither? Worst case, you can always loan the money back into the business if the bank gets nervous.

So, this would be a great year to harvest some of that cash, and, yes, vote yourself a 15% tax payment on the dividend. Considering you pay nothing else (FICA, ordinary income tax, etc.) on that dividend, it's a bargain that's not likely to come back, now that you, as a business owner, have a target painted on your back by Washington (you're "rich").

Note that you may only dividend out the total of prior years' retained earnings plus this year's net income. Beyond that, money returned to you by the C-Corporation is treated as return of capital.

As always, you'll want to check with your CPA and tax advisor to validate this strategy in consideration of your own situation. Don't delay -- there's not a lot of time left if you decide to pull the trigger.

To forward this to a friend, Click Here

Other CEBI Blog Articles...

Terry Weaver

Chief Executive Boards International


Chief Executive Boards International: Freedom for business owners & CEOs -- Less Work, More Money, More Freedom to enjoy it 

No comments:

Post a Comment

Comments to CEBI Blog articles are moderated to ensure member privacy and control spam. All comments except those deemed inappropriate should post within 24 hours.