Should I switch my company to a C-Corp? Re-evaluating under 2018 Tax Laws.

Authored by Bryan Springmeyer Bryan Springmeyer is a California corporate attorney who represents startup companies. The information on this page should not be construed as legal advice.

Operating as a C-Corp has historically been unappealing for businesses that have the flexibility to be taxed otherwise because of a concept called double-taxation. What this means is that a C-Corp pays income taxes on its profits before those profits are distributed to stockholders, and then those stockholders are taxed at dividend tax rates for the profits that get distributed to them (in the form of dividends). Prior to the changes in 2018, the tax rates were 35% (at the highest bracket) and 15% for dividends (20% for taxpayers in the highest individual brackets). In other words, the corporation paid up to 35% tax on the profits, and the shareholders paid 15% on the amount of profits distributed to them.

The reason a corporation would be taxed as a C-Corp, rather than a passthrough entity like an LLC or S-Corp often times has to do with what types of stockholders a corporation had. Nonprofit entity stockohlders (like pensions and school endowments that invest through investment funds) need a company they invest in to be a C-Corp to avoid unrelated business income tax. Other investors that are simply looking to buy and sell the stock do not want to be part of the annual accounting of the company, as would be the case for a passthrough entity. It’s also generally unappealing for non-US-taxpayers to be part of a passthrough entity, as well, due to withholding and reporting requirements. There are also several important benefits available for qualified small business stock (QSBS), which must stock in a domestic C-Corp.

The 2018 tax changes reduce the tax rate on corporate profits to 21%. This has significantly diminished the double taxation disincentive, and changed the analysis of which entity type to form as.

In California, the corporate tax rate of 8.84% still makes the aggregate taxation of a highly profitable company higher than other entity types. However, the difference is far less now than previously. This tax calculator will help demonstrate the differences in aggregate taxation. In states where the corporate tax figure is lower, and mixed with the reasons that corporations previously chose to be C-Corps, the change to the tax analysis of entity type choice is likely to result in many more founders choosing to start as a C-Corp, or for existing businesses to convert to a C-Corp. A simple election to be taxed as a C-Corp will not trigger all of the benefits available for QSBS.

Related Pages:

Converting an LLC to a C-Corp
Reincorporating in Delaware
>