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Can an S Corporation Really Grow Wealth?

Can an S Corporation Really Grow Wealth?

July 19, 2023

How can an S corporation grow my wealth?

A consistent theme among my practice is that tax savings is one of many methods to generate wealth.

There are many avenues to growing your wealth such as a consistent savings process, making sure that your investments are in the right allocation given your goals and your risk tolerance and finding more income to invest to name a few.

Consistently saving is important, as time in the market has better long-term potential than timing the market.  So, regular consistent savings process is an important way to consistently grow your wealth

Earning more money to set aside for retirement is important but sometimes making more money is easier said than done.

Sometimes getting more money to use for your wealth growth isn’t just from more income, it’s from lower expenses.   I'm a big believer in paying less in tax is a way to find funds and grow your wealth.

Now you might say to yourself well, tax savings saves me tax dollars but how does it grow my wealth?

The key point is you save cash outflow due to lower tax owed and you now have a new funding source to grow your wealth. If you take those tax savings and you go out and buy shiny new toys that will be obsolete and that you really don't need then no you're not growing your wealth.

But if you redirect at least some of those tax savings to your retirement funds, then you just found a source of money sometimes without even generating more income.

Since income tax you pay over your life is one of life’s largest expenses, finding legitimate tax savings is one way to generate thousands or even tens of thousands of dollars over time that can be redirected to your retirement accounts even if your income itself does not increase.

How much income tax will you pay over your lifetime? That’s a variable number as your income and tax rates change, but as a quick estimate, look at your 2022 Form 1040 Line 24.  That’s the Total Tax line.  That’s the tax you owe based on your reported taxable income.  That’s before any payments of tax, so that’s why this is a more important measure than whether you got a refund or not.

Let’s say you’re total tax line is $20,000.   You estimate that you have another 20 years of planned work and assuming that your income stays roughly the same and assuming that tax rates don’t go up (which is not likely in the long term) then you will pay another $400,000 in taxes.  $20,000 annually times 20 more years of work. 

That’s why I say that taxes are one of life’s largest expenses and its worth the effort to control that expense.

Now, assume that you have been diligently setting aside money in pretax accounts like traditional IRAs and 401Ks.  Congratulations on doing that.  Just be aware that in retirement, while the paycheck goes away, some level of taxable income still exists since pretax savings will be taxable income in retirement at whatever the tax rates are in those future years.

Lets say that your total tax drops to $10,000 per year in retirement, but you expect to live 20 years in retirement so that’s still $200,000 of tax owed even during your retirement years.  Not an insignificant amount when you are no longer earning a paycheck but still owe it anyway.

So yes, investing into the proper investment choices to grow your money is important and I do help with that, but shaving off tax owed and keeping that money in your pocket to redirect to your retirement account is a great way to grow wealth even if your top line income doesn’t increase much.

As I say, investment choices are a matter of opinion, taxes are a matter of fact.

The rest of this article will focus on a great tax savings vehicle, the S Corporation.

Can a S Corporation really save me in tax? And the answer is yes when done correctly.

If you are a small business owner, or self employed or even just have a profitable side gig, its very likely that you have a LLC set up.  If that’s all you did was set up the LLC for legal protection, its likely that in addition to paying income tax on profits you are also paying self-employment tax on those profits, another approximately 15% tax on top of income tax.

Most businesses can elect to be taxed as an S corporation.  There are deadlines to do this and rules to be followed and certain industries cannot do it but generally if your net profit is at least $50,000 this can be a good way to legitimately save tax dollars every year that you are in business and then redirect those savings into a retirement plan that I will help you set up. 

If you are not sure what your net profit is on your tax return, perhaps its time to have a call with someone who will help you understand how that works.

The application to be taxed as an S Corporation is not hard, but if you get approved there are a whole set of downstream things that you need to do to since you would now be an employee and not just a business owner. 

You would have to follow various employment related tax issues that I can guide you through from the CPA side of my services.  Another example of how financial planning and tax planning should be integrated to work effectively.

We’ll save a deeper discussion on the tax workings of an S Corporation for a future article so make sure to check back often, but for now if you have a profitable business, even as a side gig and your tax preparer or financial advisor has not brought this topic up as a long term tax saving and source of retirement funds, perhaps its time for a second opinion on what else could be done differently.

The information in this and other articles is intended to be educational in nature only.  Not tax, legal or investment guidance for you specifically.  Each person’s situation is unique and you must seek appropriate professional guidance that can address your unique situation.