Affluent Business Client Case Study
Starting a new business requires a solid plan and a team that can guide the efforts of the model. In some cases, businesses can generate enough profits to maintain operations afloat and provide a comfortable lifestyle for the owner. For some business owners, however, growth can happen overnight, and provide a substantial amount of wealth and new opportunities. Such was the case of our client in this tax case study, who was a new business owner who generated millions within a short time span. However, with his newly acquired capital also came higher tax rates and new challenges for his existing business structure.
A client comes to Chandler & Knowles after gaining millions on a new business venture that grew overnight. While every new business owner desires returns on investments and the financial security of family, our client was overwhelmed with the complexity of a new tax situation. As the sole proprietor of his business, our client quickly realized that his current business structure had been quickly outgrown current record-keeping capabilities in order to remain compliant with the IRS. For several years, the owner had been paying over $20,000 in self-employment taxes because he was filing as a sole proprietor. To make matters worse, the owner’s child’s health complications accumulated countless large medical bills and the family did not qualify for maximum deductions because of their new tax bracket. Pressured to shield his hard-earned money and protect the well being of his family, the owner came to the tax experts at Chandler & Knowles for advice and a new strategy that worked for their new financial goals.
The team at Chandler & Knowles assessed the current business structure and previous tax returns of the client to gain a better prescriptive of any tax saving opportunities. After examining the case, we identified the following challenges:
- Inefficient Business Structure: A sole proprietorship is the simplest type of business entity for small business owners. With this structure, there is usually just one owner of the company who is made responsible for assets and tax liabilities. For our client, this structure worked well for the new business venture because it required minimal recordkeeping. However, as this business grew, the sole proprietorship structure was working against the client’s financial goals because it required the owner to file self-employment taxes at a cost of over $20,000 a year.
- Medical Expenses: The IRS allows individuals to deduct healthcare-related expenses on tax returns. However, there are limits to these types of deductions based on the income of the individual. In our client’s case, the amount of medical expenses that were filed on a Schedule A form had a maximum deduction of only 10%. Because of the substantial income reported on their return, the benefits of these deductions did not minimize the overall tax liabilities of the client.
Chandler & Knowles Methodology:
Our tax experts were able to analyze these challenges and find new opportunities for structures and strategies that reduced risks, income tax, and self-employment tax while allowing the family's medical expenses to become deductible.
- Business Restructuring: The sole proprietorship entity selection was simply costing the owner unnecessary tax fees. Since the business was generating a substantial amount of revenue, we determined that the best tax-saving structure in this case was a C corporation since this structure does not require the owner to report a self-employment tax.
- Risks: The business owner’s wife handled billing, accounting, marketing, took care of travel arrangements, and more. As the owner developed more business relationships, she began providing these services to other business owners. Based on this new business opportunity, we determined that the safest and efficient way to handle this new development was to combine business ventures to form a C Corporation together.
- Healthcare Deductions: Reporting medical expenses on a schedule C was simply not allowing the owner to receive the maximum tax benefits possible. Through the formation of a C corporation, a medical reimbursement plan was put in place that would allow them submit their child’s medical bills through this structure.
The strategies developed by the team at Chandler & Knowles allowed the business owners to restructure their business for their new financial needs. After implementing our methods, we were able to achieve the following results:
- Tax Savings: A shareholder of an S Corp, who is also an employee, needs to take a reasonable salary, but is not required to draw all money from the corporation as payroll. This new structure allowed our client to take salary as a distribution, and eliminate the $20,000 self-employment that was previously mandated by the old sole proprietorship.
- Minimized Risk: After structuring and combining the wife’s business venture with other owners, a C Corporation was the most efficient way to save money. In this situation, since the annual net income was typically under $50,000, the owners were able to file their income at much lower tax rate than in previous years.
- Maximized Deductions: The C Corporation put a medical reimbursement plan in place, which allowed her to submit her medical expenses and be reimbursed for them This new structure allowed the new owners of the C Corporation to deduct 100% of medical expenses as an employee benefit.
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