One of the most frequent questions we get towards the end of each calendar year is whether a client should dissolve their legal entity.
A good way to answer that question is to weigh the cost savings of dissolving their entity against the advantages of keeping it open.
1. The Cost Side of the Equation.
The back of the napkin math for keeping a corporation open in California is often $4,000 to $5,000 a year:
i. The $800 minimum California franchise tax.
plus
ii. Approximately $2,500 for a CPA to prepare a separate corporate tax return.
plus
iii. About $700 a year for a payroll processing service such as Gusto, ADP or Paychex.
plus
iv. Roughly $200 for the city business license renewal depending on the type of business and what city the business is located in.
2. The Benefit Side of the Equation.
Clients often keep their legal entity active for one of four reasons:
i. Tax Savings.
Having an S corporation can often save the client on employment taxes (Social Security, Medicare and Medicaid taxes).
It is a case by case analysis that the client discusses with their CPA, but for the tax cost savings to equal at least the $4,000 a year in maintenance costs the corporation most likely needs to net (not gross) at least $50,000 a year.
ii. Liability Protection.
Even if a client does not expect to have enough in employment tax savings to offset the additional costs of maintaining their corporation, a client might keep their corporation open to help shield their personal assets from the potential liabilities of their company.
Some clients are afraid that if they rely solely on insurance for liability protection a claim might either not be covered by the policy or the damages could exceed the policy limit. As such, they view having a legal entity as a type of supplemental insurance policy in case their traditional insurance policy does not protect them from successful claims against their business.
iii. Marketing.
Some clients also keep a legal entity active because they feel it looks more professional to market their business on behalf of a legal entity rather than themselves as an individual. For example, a company might be viewed as being more established if it is doing business as Smith Consulting Inc. instead of Jeff Smith.
iv. Equity To Incentivize Workers.
Lastly, a client may keep a legal entity active so they can issue equity to employees and advisors to help motivate them to do quality work for their business.
Evaluating this cost/benefit equation is different for every business. If you would like to discuss what the best strategy is for your business, please contact us at info@bendlawgroup.com or (415) 633-6841 for a complimentary consultation.
Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal or tax advice on any particular set of facts or circumstances. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction. Bend Law Group, PC expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this article.