My wife and I are both ER docs and recently moved to California to work "1099" jobs. Our employer is requiring us to incorporate stating three reasons. 1) significant tax advantages 2) extra protection from malpractice cases (especially in California) 3) may be considered an “employee” by the IRS and will be subject to severe restrictions on your income, pension plan and possible tax penalties.

Listening to your podcast on this subject and speaking with my own CPA I dont see the financial benefit. 1) at least for now we are only working part time so our combined income is a little more than 300k. you mentioned before this is the "magic" number but i wasnt sure if that was household salary or per person. I understand we save the 2.9% medicare tax on s-corp distributions but what is a reasonable salary to 2 part time physicians? 2) In response to the med mal protection I've heard lawsuits are against the corp and individuals so your personal assets are protected by the veil of incorporating. 3) I understand that corps are less on the irs "radar" than sole proprietors but other than that as long as you are deducting the right things, claiming the independent contractor status has little to do with whether or not you are incorporated.

Can you comment on this. I know #2 is more a question for the buisiness attorney though.

if we ended we incorporating is it better to incorp together and "hire" my wife as an employee? or should we do to separate enities. thanks

confused,
Randy

Zip Code: 92078

Great questions.

For starters, I think your "employer" wants you to incorporate to protect them from future tax problems. If they were to pay you as a 1099, the IRS could later argue that you were supposed to be classified as an employee, and then require your employer to pay all the payroll taxes that would have been due had you been originally paid as an employee. Once you incorporate, that risk is removed, since a corporation can not generally be considered an employee of another organization.

With respect to the legal liability question, I'm not sure of the rules in CA. In Mass, it's my understanding that an entity does not protect a professional from his or her own malpractice issues. Instead, doctors in Massachusetts need to get sufficient malpractice insurance and a business umbrella policy to be properly protected - no matter what type entity they set up for their practice. (However, setting up a PC or an LLC protects one partner from another partner's malpractice in Mass.) I recommend that you speak with a California lawyer familiar with the issues affecting healthcare professionals in your state to get this very important question answered.

What's reasonable salary? I would say that reasonable salary is the amount you could earn from another employer to provide a similar level of service. You should be able to locate that info either on salary.com or from one of the professional societies for your specialty.

Finally, I don't see any reason why you and your wife wouldn't set up one corporation, collect all the money due to both of you through that entity, and put you both on salary of that S-Corp. You would also set up one retirement plan, such as a Solo 401k, that allows you to max out your tax deductible contributions.

Just remember that your S-Corp distributions need to be equal by owner each time. So if you each own half the business, you need to write two equal checks each time you issue a distribution. If only one of you owns the Corp, then the distribution checks should only be made to the owner. Remember, the IRS is form over substance oriented.

It really seems like you're doing your homework with this tax matter. Please feel free to post any follow up questions you might have.

Zip Code: 01801

That just made a heck of a lot more sense to me than my future employer's explanation. I'm actually meeting with him tomorrow to discuss this topic but wanted more info before the meeting.

i thought there were many criteria the IRS use to classify someone as an independent contractor vs employee. i may be mistaken but the point is that it is not black or white. Simply having our compensation paid to "our corp" certainly can't be the only measuring stick. I guess its just one less thing my future employer wants to worry about if they are audited.

The problem is that a med mal lawyer of mine in illinois said we should not form a joint corp unless we are sure we're not liable for each other's debts if sued. In other words forming a joint corporation could put all of our money at risk if one of us is sued. Again, something i need to discuss with a business law attorney.

In all, the situation seems bleak especially if we both have to incorporate to take this part time job and pay upwards of $6000 each to do so.

To complicate matters I recently set up a health reimbursement agreement for my wife to take advantage of our sole proprietor designation. I'm not sure how this is all affected if we end up having to incorporate.

btw, you mentioned before that you advise most your clients whose primary business is contracting work to incorp at >300k. Can you break down this "magical" number? I'm assuming at that amount you have enough legitimate money left after salary to make it worthwhile to escape the medicare tax through s-corp distributions but I don't understand why it is this particular number. can you elaborate?


somewhat less confused,
randy

Zip Code: 92078

Hi,

For starters, I'd like to clarify a few points.

First off, please take the advice of the lawyer concerning potential legal liabilities of one corporation versus two corporations. I always recommend to my clients that they seek out an attorney when trying to determine how best to protect one's assets.

Second, you are correct that there are a bunch of tests the IRS looks at when determining whether you should be classified as an employee or independent contractor. I wrote an article about this topic back in 2003 that is available at: http://www.mdtaxes.com/news0703.html#2. One way to get around these tests, however, is to have an emloyee incorporate - since a corporation generally can never be considered an employee.

With respect to the $300k number, we genenerally figure that reasonable salary is equivalent to the maximum a person can earn and count for retirement plan purposes. For 2008, that figure was $230k (increased to $245k in 2009). So let's say you earn $300k, take a salary of $230k, and take $70k in S-Corp distributions. Not paying Medicare taxes on $70k will save you $2k in taxes - which will offset a lot of the extra costs associated with operating your practice as a corporation. (In Mass, there is a second benefit to incorporating that is specific to that state.)

Finally, I use $6k as the cost of an S-corp only if you work somewhere else during the year, and hit the FICA max ($106,800 in 2009) at that job. If your only source of income is your S-Corp, the annual cost of maintaining your S-Corp is probably closer to two or three thousand dollars. Remember, you'll need to prepare a corporate tax return, put yourself on payroll, pay unemployment taxes and worker's comp insurance, and most likely pay a minimum tax in your state. Add up all these costs, and you're looking at a few thousand bucks.

We have lots of clients who are in your exact situation, and things have worked out very well for most of them over a number of years. Maintaining the corporation has not proven to be too much of a financial or administrative headache for these clients.

(If you want to find out my firm's fee for the tax and payroll services you'll need once you incorporate, I'd be glad to talk to you about that. We actually have a specific package called Single Source Only for clients who incorporate, get paid by one source, and are the only employee of their corporation.)

Good luck at your meeting.

Zip Code: 01801

Thank you for your insightful comments. The meeting went well. One thing he brought up that was quite interesting was having the corp reimburse your disability insurance after you have personally paid for it. Thereby making it deductible and also nontaxable if paid out. Is this true or is it just that he hasn't been audited?

please send me your firm's info

Zip Code: 92078

That statement isn't true.

First off, only C-corps can deduct disability insurance premiums paid. Plus, if the corporation deducts the DI premiums, then the benefit would be taxable to you if you ever collect on the policy.

Zip Code: 01801

I agree with Andrews comment about only C Corps.

Regarding the employer (if a C Corp) reimbursing the DI premiums that were paid personally, in the past the strategy was to have you personally pay the current year's premium. Then, after the premium year has passed, if you had not become disabled, the company reimburses you for the previous year premium. I frankly don't know if this strategy works anymore, but again, even if it does work, it would only do so in a C Corp.

Zip Code: 43085